20 Years Later, Did the PPA Really Change Everything?

Twenty years ago, I authored[i] a cover story about the then-newly enacted Pension Protection Act of 2006 with an ambitious headline: “The Pension Protection Act: This Changes Everything.” 

Twenty years later, it seems like a reasonable time to ask:

Did It?

The short answer, I think, is yes — though probably not quite in the ways we expected in 2006.

The PPA was a sweeping piece of bipartisan legislation, addressing among other things defined benefit funding, pension accounting, and cash balance plans — it was titled the PENSION Protection Act, after all.  And it was, for the benefits promised by those plans, an important defensive measure.[ii]  

However, to my eyes then — and now — the most lasting influence of the PPA was on the defined contribution side, where it helped change not just plan design, but the industry's thinking about participant behavior.

To Appreciate 2006, Go Back to 1986

Twenty years earlier, the Tax Reform Act of 1986 had significantly tightened contribution and nondiscrimination rules for defined contribution plans — some may remember things like a $7,000 cap on pre-tax savings, among other limits designed to “pay for” tax reductions elsewhere. Some will surely also remember that the 401(k) of the 1980s and 1990s was largely a participant-directed proposition. Employees were expected to enroll themselves (on paper), decide how much to contribute, pick investments, and — in theory, anyway — periodically revisit those decisions.

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The industry's response was largely to give participants more information and more choices. Unfortunately, participants didn't always make good choices — or make any choices at all. 

By 2006, the industry was increasingly recognizing that asking people to take responsibility for their retirement savings decisions didn't necessarily mean they would do so effectively. Procrastination, inertia, inadequate savings rates, overly conservative investments, and poorly diversified portfolios were not simply educational problems. They were behavioral ones.

The PPA Changed the Question

Of course, the PPA didn't invent automatic enrollment, target-date funds, or professional investment management. What it did[iii] was provide a framework that made it much easier — and arguably “safer” — for employers and fiduciaries to embrace them.

Let me start by reminding us of an unappreciated aspect of the PPA. It made permanent significant retirement enhancements we now take for granted. In 2001, the Economic Growth and Tax Relief Reconciliation Act (EGTRRA) had restored some of what the 1986 act took away — but it not only raised contribution and compensation limits, it created age-50 catch-up contributions, expanded portability, created the Saver's Credit, and authorized Roth contributions in 401(k) and 403(b) plans. But those provisions were scheduled to “sunset” after 2010. The PPA made those retirement provisions permanent.

But it didn’t stop there. Automatic enrollment received important protections in the PPA — and more importantly, a safe harbor design template. Automatic escalation became a practical plan design feature. And Qualified Default Investment Alternatives (QDIAs) gave fiduciaries a framework for defaulting participants into diversified investment strategies, rather than the stable value or money market “vaults” that had long been chosen to preserve, rather than grow accounts.

The bigger change was philosophical. The PPA gave us a plan design template architected to leverage participant behavior towards better outcomes. Not so much an “if you build it, they will come” presumption, as a “let us do it for you” acknowledgement.

And the Numbers Moved

Twenty years later, the evidence of that shift is hard to miss.

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Automatic enrollment is now commonplace — and nearly ubiquitous among large employer plans, while participation rates have reached historically high levels. Automatic escalation has helped push those default savings rates higher, with industry data now regularly showing average participant savings rates around 12% when employee and employer contributions are combined.

Target-date funds provide perhaps the clearest illustration of the change. In 2006, they were still a developing concept. Today, they are a central part of the defined contribution investment landscape and the default investment for millions of participants. Participants, it’s worth noting, who would otherwise have been left to their own devises in choosing — and maintaining — those portfolios. 

The Advisor's Job Changed, Too

“Ironically, at the same time,” I wrote then, “the PPA dramatically opens the door for a new generation of financial advisers to help participants make the very same decisions that the auto-solutions would seem to render obsolete.”

That’s right — this was an evolution that changed the role of the retirement plan advisor. In the wake of the PPA, while investment selection remained important, advisors (and TPAs) today increasingly work with sponsors on plan design, automatic features (and levels), QDIA selection, participant engagement, retirement readiness, fiduciary governance, fee benchmarking, financial wellness, managed accounts, and retirement income. 

Now, the PPA didn't do all of that by itself. Technology, markets, demographics, regulation, litigation and subsequent legislation — including the SECURE Acts — have all contributed.

But to my eyes, the PPA was an important inflection point. It was, in many ways, a reset in the perspective of what retirement plans could — and perhaps should — be.

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So, Did It Change Everything? 

Not quite.

It didn't solve all of America's retirement savings issues. Coverage gaps remain. Too many participants still save too little. Turning retirement savings into reliable retirement income remains a challenge. 

But 20 years ago, the conversation was more likely to focus on whether a plan offered a broad investment menu and provided participants with enough information to make good decisions — assuming they would — and could. 

Today, we ask not only whether workers are participating, but at what level, whether the default investment is appropriate, whether the plan's design encourages better behavior, and increasingly, whether accumulated savings will actually translate into sustainable retirement income.

That's a very different conversation.

Looking Back—and Ahead

Ok, so the PPA didn't change everything. But it helped change something fundamental: the assumption that retirement security should depend primarily on participants making a long series of good decisions…on their own.

In that sense, the PPA didn't merely change retirement plans in 2006. It established a direction — and provided a foundation — that plan design has followed for the last 20 years — and that SECURE 2.0 is still following today.

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Turns out, it really DID change everything.

Happy birthday, PPA!

• Nevin E. Adams, JD

 

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[i] My name was on the PLANSPONSOR story, though there were several other key contributors — and one important editor, who, though not named in the piece, contributed much of the vision (none other than Charlie Ruffel).

[ii] That said, at the time I also wrote “What the PPA effectively does is hammer the nail into the defined benefit coffin by revoking the financial wiggle room that encouraged corporations to accept the pension bargain in the first place.” 

[iii] It’s worth noting that a significant part of the PPA was removing the sunset provisions of the Economic Growth and Tax Relief Reconciliation Act of 2001, which maintained higher deferral limits, retained the catch-up contribution provisions for older workers, and kept in place the Saver’s Credit and Roth 401(k).

Vested "Interests"

 The latest academic “dig” against 401(k) plans? Vesting schedules.

More specifically, firms with a combination of high turnover and vesting schedules, which means that workers are leaving behind employer contributions. Or, in the parlance of these new critics, being “robbed.” 

I stumbled across this “scandal” in an op-ed provocatively titled, “This giant pension scandal is hiding in plain sight,” which, in turn, drew from the points made in an academic paper titled, “Megacompany Employee Churn Meets 401(k) Vesting Schedules: A Sabotage on Workers’ Retirement Wealth.” The “scandal” is the legal vesting schedules under ERISA, notably the three-year variety in place at certain large, high-turnover employers.

The MarketWatch article[i]—and, more significantly, the academic paper[ii] upon which it is based, see the vesting schedule as part of some orchestrated conspiracy deliberately crafted to “rob”[iii] individuals of benefits/compensation to which they are entitled—ostensibly because they are incapable, and arguably in some cases, unable, to hold on to a job for a full three years.

Indeed, Amazon draws most of the criticism here—not only for its three-year vesting schedule, but for the emphasis CEO Jeff Bezos has apparently placed on encouraging high turnover as a means of keeping perspectives “fresh.” That might work for Amazon’s business model (I suspect it matters more about the “who” than the “how often”), but in my experience, most employers find turnover to be costly, requiring the expense of finding replacements, training them, and then waiting for them to come up to speed. 

That said, a plan’s vesting schedule wouldn’t exactly seem to be “hidden.”[iv] Indeed, I have long found it to be an element that warrants a reasonable amount of discussion and specific focus during enrollment meetings, and for the very reason it exists: as an incentive to reward/retain/encourage longer-term workers (or at least it did before the shift in emphasis to automatic enrollment). I say longer term because the notion of long-term workers has shifted considerably since ERISA was passed in 1974, when the 10-year cliff vesting that was common among pension plans at the time reigned. Of course, the Tax Reform Act of 1986 established new, shorter minimum thresholds for vesting. Indeed, by the “norms” that were in place when the 401(k) came to prominence, 100% vesting within three years is “lightning fast.” 

So, what’s the beef? The argument put forward is that these vesting schedules create a “bait and switch” of sorts—the promise of an employer match kept just out of reach by a vesting schedule purposefully selected to kick in outside of the average worker’s tenure. And if that seems a tad too Machiavellian, there’s the overt actions that have been taken (particularly during COVID) by employers to reduce the workforce. 

That said, the paper speaks to some issues that are worth considering: the financial vulnerability of lower income workers, not to mention the financial literacy gaps there, and the retirement wealth gaps between men and women, as well as racial wealth gaps. We know these are real, but we also know that they are often remedied with access to a plan at work, assisted by plan design features like automatic enrollment and qualified default investment alternatives like target-date funds. 

Indeed, with regard to the latter, one of the two main recommendations of the paper (albeit with some editorializing) is to is to “collect data so we can truly assess the monster we are dealing with.”

However, the other main recommendation is problematic, if not unnecessary—specifically that we “prohibit megacompanies from using vesting schedules.” That, despite the fact that the paper itself cites data both from Vanguard and the Plan Sponsor Council of America which says that roughly half of the nation’s largest employers already provide immediate 100% vesting. 

Does a vesting schedule provide an incentive to “stick around”? Arguably it does (though it’s probably not going to trump job criteria like location), but in the words of the paper’s author, “…using vesting schedules to reduce turnover only works if employees understand the vesting policies.”

Ultimately, I’d argue that the issue to address isn’t vesting. After all, those who have access to a retirement plan, regardless of vesting, have a real edge on those who don’t. And let’s not kid ourselves—there are plenty of valid reasons, particularly amid today’s so-called “Great Resignation,” to leverage benefit programs to attract and retain talent. 

Certainly, the company match can—and should—be a factor in that arsenal, and I’d argue that the employer has a “vested” interest in that outcome—and that workers, properly informed and educated to appreciate that benefit, do as well. 

- Nevin E. Adams, JD

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[i] In a nutshell: Some of America’s biggest companies run their shop floors so that low-paid front-line staff “churn,” or leave within a couple of years. This includes retailers, internet companies, leisure and hospitality companies and others. Some do it deliberately. Others do it by default, by treating such workers as disposable.

[ii] Authored by Samantha Prince, associate professor of law at Penn State Dickinson Law.

[iii] Yes, “robbed” is the word they use: “That employee is robbed of their compensation and that same $100 then goes into the pot to be allocated to other employees. When there is no immediate vesting, the company pays into the plan on one employee’s behalf but then can use that same money on behalf of another employee. This could be said to be akin to robbing Peter to pay Paul. And it is currently permissible. High turnover companies are reducing compensation costs by using the 401(k) vesting schedules.”