Behaviors that Focus on Outcomes
On June 30 2014, the US retirement assets hit a new high of $24T, a truly remarkable number. The picture on the street, however, is not that impressive. According to a recent Bankrate.com survey, as many as 36% of respondents haven’t saved a penny for retirement. A 2014 Transamerica’s survey on retirement readiness points out that on the median savings balance accumulated by the Baby Boomers is about $127,000; far from what’s needed to provide for secure retirement. While it’s true that Americans are ill-prepared for their golden years, we can still make a difference. There are proven steps plan sponsors and financial professionals can take today to improve retirement outcomes of pre-retirees and set the Generation X, along with the Millenials, on a path to retire with confidence.
Last quarter of the year is a perfect time to evaluate retirement plans and map the course for a new year; for some, this assessment will strengthen their resolve to stay the course, while others will choose to fine-tune their roadmap. The process benefits both. Below, we discuss seven practices that focus attention on improving outcomes. It’s not an all-or-nothing proposition. For many, it is or will be a gradual process; each empowering sponsors to help their participants retire with dignity.
May plans impose a one-year wait before an employee becomes eligible to participate in a retirement plan. Consider removing that barrier: reduce or eliminate the wait requirement for salary deferrals. You may still keep it in place for employer contributions, such as match or profit-sharing. If turnover is a concern, consider establishing a separate employee deferral-only plan for those who have been with the company for less than a year. Special rules allow treating employees admitted into the plan earlier than one year separately for testing purposes. Rather than using semi-annual entry dates, consider immediate or quarterly entry into the plan; coordinating retirement plan entrance with enrollment into health and welfare plans helps increase participation among employees.
Instead of expecting employees to voluntarily enroll into the plan, give them an opportunity to opt-out. Voluntary enrollment falls short: according to Employee Benefit Research Institute, only five out of ten employees of companies with a retirement plan take the necessary steps to participate in their plan. Much has to do with inertia and procrastination, but a lot is attributed to confusion and simply being overwhelmed with the steps, options, and decisions frequently required of employees to enroll. Make it easy; reduce the steps to one: opting-out of the plan if an employee doesn’t want to continue participating. Multiple studies have demonstrated that opt-out rates are low with 85%-90% of automatically enrolled participants staying in the plan.
Does auto-enrollment seem too big of a step for you today? Consider quick enrollment, also known as easy enrollment, as a possible alternative. Rather than distributing an enrollment booklet or expecting participants to go through a multi-step online enrollment process, give employees a quick enrollment card that offers a contribution rate, ability to select an annual percentage increase option, and a simple explanation of a default investment available in the plan.
3. Step Up
Most commonly used initial auto-enrollment rate is 3%. Recognizing that 3% may be too low to accumulate sufficient retirement savings, many companies have increased their default contribution rates to 6% or even 8%. Since expect-recommended savings rates are typically in the 10-12% range, automatic escalation becomes a helpful tool to encourage employees to gradually reach that savings threshold. Employees appreciate auto-escalation: a 2013 T. Rowe Price survey found that close to 65% of participants stayed with automatically increased rates; only 8% of participants enroll into an automatic escalation program when it’s offered on a voluntary basis.
Profit sharing contributions are not very effective in motivating employees to contribute into the plan. Consider reallocating some of the profit-sharing contribution budget to be used as a match; extend match dollars by requiring a
higher deferral percent to get the maximum. For instance, instead of dollar for dollar up to three percent of compensation, you can redesign the match to 50% up to 6% of compensation or even 25% up to 12% of pay. Your budget stays the same but this approach requires a higher deferral rate to take advantage of the maximum employer contribution. Use this approach in combination with auto-escalation to anchor higher deferral percentages.
Take a closer look at plan’s investment options. It is considered a prudent practice to limit investments to no more than 10-12 core fund options with additional access to professionally managed portfolios, e.g. lifestyle or target date funds. Keeping a high count of options creates an undesirable effect: according to a widely cited research by Pension Research Council at Wharton, enrollment drops 1.5% to 2% for every 10 new options offered to participants. Participation increases when participants are presented with fewer and simpler options: there are fewer decisions to make.
Consider managing access to the number and amount of participant plan loans. Loans are one of the leading causes of savings leakage; annually, one in nine participants gets a plan loan as an easy way to cover a financial shortfall. Participant who borrow from their plan on average defer 2% less and one out of 10 loans does not get repaid; both factors have a significant impact on retirement accumulation and readiness.
A set-it-and-forget-it approach is not only detrimental to savings rates, but also investment outcomes. There is a way you can help participants overcome the inertia when it comes to their investment decisions. A new trend has emerged among plans who, in addition to automatically enrolling inactive participants, started to re-enroll all participants in the plan’s qualified default investment option (QDIA), typically a target date fund, every year. Participants are automatically moved into the QDIA on a specified date unless they make a new investment election or opt-out of this re-enrollment within a specified time period.
This practice has shown to increase plan participant engagement and is useful to ensure that participants are invested appropriately for their age. Since QDIA is a safe harbor investment under the Pension Protection Act, it helps plan sponsors reduce their fiduciary risk exposure associated with investment.
Doing Well While Doing Good. Really.
There are incidental benefits to plan sponsors. Focusing on participant outcomes helps the employer:
Reduce costs of delayed retirement. When participants delay retirement, companies spend more money on healthcare coverage; healthcare costs are also higher for companies whose employees experience high levels of financial stress.
Increase productivity and retention. Financial stress often impacts productivity and results in lower performance. Delayed retirement of senior employees often leads to turnover among younger associates as they see it as an indication of limited career paths and fewer opportunities for promotion.
How We Can Help
Retirement Services is available to consult and assist in implementation of these plan simplification strategies to remove barriers to participation, improve outcomes, and help you grow assets under management. Consultants will prepare a new plan proposal or review and redesign current qualified plans to add auto‐enrollment, auto‐escalation, and QDIA options. Call us at (888) 926-0600 or click here to connect with a consultant.