Match vs. Defaults

Which is more powerful—a generous match, or a high savings rate default? 

As it turns out, Christmas Eve brought us a new white paper with the fairly innocuous title, “The Impact of Employer Defaults and Match Rates on Retirement Saving.” Indeed, there have been plenty of surveys (and tons of data) that speak to this issue (many of which are cited as references in the paper)—but underneath that bland title the authors take on an intriguing question, specifically how, and how differently, the deployment of specific plan design features—the employer match, or default enrollment—impact retirement savings.

With regard to the former, there’s been plenty of real data to buttress the notion that the employer match acts as a virtual target for retirement savings—with employee contributions clustering around those like moths to a flame, regardless of the savings needs or income wherewithal of the participant. Similarly, we’ve long—but even more so since the advent of the Pension Protection Act of 2006– seen the dynamic impact that default savings rates—making individuals “opt out” rather than sign up—for retirement savings routinely produce participation rates north of 90%. 

Now, these plan designs have long been seen by employers (and those who support them) as positive forces to encourage workers to avail themselves of these critical benefits. On the other hand (and somewhat cynically), both can be seen as devices to produce retirement deferral rates sufficiently high to permit retirement plans to pass the muster of the various nondiscrimination tests to which they are subjected. And let’s face it, both carry costs for the employer(s) sponsoring the program. Indeed, if there is a shortcoming to these mechanisms at all it is that employees have seemed to assume they represent an answer to the “how much should I save” question, rather than simply being a function of how much the employer chooses to spend on benefits.

‘Better’ Idea?

As it turns out, the researchers (David Blanchett of PGIM DC Solutions, Michael Finke of the American College of Financial Services & Empower’s Zhikun Liu) have an answer to the question as to which is “better”—well “better” meaning the plan design that results in the highest employee savings rates, highest acceptance of the default investment, and lowest disparities in savings rates by income—that would be the one that uses a high default rate and a lower employee match.

 More specifically, based on a review of the activities of approximately 157,000 participants[i] who recently enrolled in an employer-matched 401(k) plan, they conclude that “a higher default rate has the largest impact on employee savings rates.”

Not only that, they caution that “plans with low default rates (say 3% or 4%) that match a high percentage of employee earnings induce higher-income participants to actively move away from the low default savings rate, resulting in a wider savings gap between higher- and lower-income employees.” On the other hand, setting a high default means that “fewer move away from the default savings rate resulting in higher and more equal savings rates among employees.” 

Other Considerations

There are some other considerations. They note that low default rates and high match rates also result in significantly fewer employees remaining in the default investment, and that while “raising the default savings level should increase savings rates for new participants, it won’t necessarily help existing participants.” As a consequence, the researchers comment that “plan sponsors may also consider different kinds of reenrollment or plan-reset options to utilize the positive impact of default savings rate increase. Additionally, plan sponsors should also consider including provisions for automatic savings rate increases to further boost participant savings levels”—because the one thing we know about most retirement savers is that—like Newton’s 1st Law of Motion—an object at rest remains at rest. And that’s what happens to most participants defaulted at a specific saving rate and in a specific investment—they stay there.

They also note that a high match appears to motivate workers to make an active decision to save more only when placed in a low initial default rate. Moreover, they found that a higher match motivates higher-income workers to save more, but only motivates lower-income workers who are defaulted (at the aforementioned 3% or 4% savings rate). They found that, when defaulted at a higher savings rate, the match rate only motivates high earners to increase their savings rate.

All in all, the match seems to matter to those who are more actively involved with the decision to join the plan—and those who are defaulted into the plan, in general, don’t seem to be those. There’s also a sense that more highly compensated individuals are more aware of, and active in, maximizing the match—though that may create nondiscrimination testing issues since less highly compensated workers seem to be more inclined to simply stay with the default rate.

Ultimately, of course, what matters is the default rate and the terms of the match; and with any luck at all, it’s not either or, but both!

- Nevin E. Adams, JD

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[i] Not that it matters, but the paper specifically cites “the second largest recordkeeper for retirement plans in the United States, which services over 12.8 million DC plan participants across approximately 67,000 retirement plans as of the third quarter of 2021”—Empower.

5 Steps to Retirement Security

While it might not be on your calendar, this happens to be National Retirement Security Week – and in the spirit of the week, here are five things that can provide just that.

Retirement security – or more precisely, preparing so that you do have retirement security – is a year-long activity, of course. But this week is devoted to making employees more aware of how critical it is to save now for their financial future, promoting the benefits of getting started saving for retirement today, and encouraging employees to take full advantage of their employer-sponsored plans by increasing their contributions.

So, for those looking to shore up your own retirement security – or those you may work with – here are some things to keep in mind.

Don’t default to the plan default.

While most education materials provided with your 401(k) emphasize the benefit of the employer match (generally referencing that you don’t want to leave “free money” on the table), a growing number try to make it easier for you by automatically enrolling you in the plan. That’s the good news.

The bad news? That default savings rate (generally 3%) will almost certainly be less than you need to save to get the full employer match (see above). And it will almost certainly be less than you need to achieve your retirement goals/needs. So, if you do take advantage of the convenience of the default, make sure that you remember to make the change to the savings rate at the first opportunity.

You should save to at least the level of the employer match.

Many employers choose to encourage your decision to save for retirement by providing the financial incentive of an employer matching contribution. That match is often referred to as “free money” because you get it just for saving for retirement. That match is not actually “free” of course – but it is free for you. If it’s 25 cents for every dollar you save, it’s like getting a 25% return on your investment.

You can save more than the match.

A lot of people save only as much as they need to receive the full employer match. As noted above, while that’s certainly a good starting point, it may not be the right amount for you. There are a number of factors that go into determining the amount and level of the match – however, the amount you need to set aside for your own personal retirement goals is almost certainly not one of those factors. You certainly don’t want to leave any of that match on the table by not contributing to at least that level. But if that’s where you stop saving, you’re probably going to come up short.

Older workers can save (even) more.

Thanks to a provision in the tax code, individuals who are age 50 or older at the end of the calendar year can make annual “catch-up” contributions. In 2018, up to $6,000 in catch-up contributions may be allowed by 401(k)s, 403(b)s, governmental 457s, and SARSEPs (you can do this with IRAs as well, but the limits are much smaller).

The bottom line: If you haven’t saved enough over your working career, these catch-up provisions can help you… well, “catch up.” You can find out more here.

You can save for retirement even if you don’t have a plan at work.

Discussions about the retirement coverage “gap” often focus on the number of workers who don’t have access to a retirement plan at work (though the oft-repeated notion that “more than 50%” of workers who ostensibly don’t is a bit exaggerated). Not having a plan at work can be a hindrance to saving – there’s no employer match, ease of payroll deduction, or workplace education and access to advisors, for starters. And data suggests that workers are significantly more likely to save if they have the opportunity to do so via a workplace retirement plan like a 401(k) – 12 times more likely, in fact.

All in all, when it comes to building retirement security, there’s little question that saving for retirement at work is the way to go – there are tax advantages, the support of the employer matching contributions, and access to investment choices that are screened and reviewed on a regular basis by the plan fiduciaries.

But you can save for retirement on your own – open an IRA at your local bank or financial institution. And you can probably set it up for regular payroll deduction at work as well. It’s not as convenient as having a plan at work, but it can be done.

Don’t forget that while the steps above provide a way to achieve retirement security, saving for retirement without some idea of how much you’ll actually need for retirement is like heading out on a long trip with a broken fuel tank gauge. Take the time this week to do a retirement needs calculation. It doesn’t have to take long or be complicated. If you have a retirement plan at work, there’s probably a calculator available for that purpose – or you can check out the BallparkE$timate® online at www.choosetosave.org.

It’ll be good for your peace of mind – will likely improve your retirement security prospects and confidence – and, who knows – you might even enjoy it.

- Nevin E. Adams, JD

5 Things Millennials Need to Know About Saving for Retirement

Retirement seems a long time off — particularly when you’re young.

However, Millennials — generally defined as those born between 1978 and 2004 — are living longer, and many will have to finance retirements that are actually longer than their working careers.

So, while it can hardly be expected to be top-of-mind for most of this group, here are five things worth knowing about saving for retirement — now.

1. Social Security won’t be as much as you think it will be.

Okay, some of you don’t think it will be anything at all, certainly not by the time that you are old enough to collect. But set aside for a moment the questions you may have as to whether or not Social Security is financially viable without reform, or if you should even count on it at all. Your parents — who are either now, or soon hope to be, collecting Social Security — had the same concerns, after all.

However, even if you assume that the program remains largely unchanged from what it pays today, if you retire at full retirement age in 2015, your maximum benefit would be $2,663 a month, according to the Social Security Administration. However, if you retire at age 62 in 2015, your maximum benefit would be $2,025; and if you retire at age 70 in 2015, your maximum benefit would be $3,501.
Now those amounts are based on earnings at the maximum taxable amount for every year after age 21. In other words, that’s probably more than most of us would get. In fact, the average monthly Social Security retirement benefit for January 2015 was $1,328. Note that the maximum benefit depends on the age a worker chooses to retire, among other things — and that assumes that the current questions regarding Social Security’s longer-term financial viability are addressed, and/or that current benefit levels aren’t reduced.

In sum, the odds that you’ll get that current maximum aren’t large — and the odds that current benefits will be reduced still seem pretty good.

2. Not everyone has a pension, and you probably don’t.

Now, by “pension” I mean the traditional defined benefit (DB) pension plan; one that, in the private sector anyway, was largely employer funded. According to the nonpartisan Employee Benefit Research Institute (EBRI), in 2011, just 3% of all private-sector workers participated only in a DB plan, and 11% had both a defined contribution (DC) and a DB plan. So, only something like 14% of workers in the private sector still have a traditional pension plan (even then, it doesn’t mean there’s no reason for concern; see “3 Pervasive Retirement Industry Myths“.)

Despite this, studies pop up every so often that indicate that a remarkably large number of workers think they do have a pension. Do you? Better double check.

3. You won’t be able to work as long as you think.

You hear people talk about 65 as the “normal” retirement age, even though it’s no longer that, even for Social Security benefits. Oddly, considering all the talk you hear about people retiring later, the average age at which U.S. retirees report retiring is 62 — an age that has increased in recent years — while the average age at which non-retired Americans expect to retire, 66, has largely stayed the same.

Meanwhile, EBRI’s Retirement Confidence Survey (RCS) has consistently found that a large percentage of retirees leave the workforce earlier than planned — 49% of them in 2014, for example. Many who retire earlier than they had planned often do so for negative reasons, such as a health problem or disability (61%), though some state that they retired early because they could afford to do so (26%).

So, if you’re thinking you don’t need to save for retirement now because you can you just keep working… well, you might need a “Plan B.”

4. You could be missing out on ‘free’ money.

Okay, you may not be saving at all (your parents got off to a slow start as well). You won’t be the first group of young workers to have college debt, or just have a lot of things you’d rather spend your money on in the here-and-now. Or both. It can be hard, particularly when you’re getting established, to prioritize all the demands on your paycheck.

But if you do have a 401(k) or other retirement savings plan at work, you may also have something called an employer match (see “6 Things 401(k) Participants Need to Know“). That’s where your employer will put into your account a certain amount, perhaps 50 cents for every dollar you save. For you, that’s “free money,” but you’ll only get that if you actually take advantage of your retirement savings plan at work.

p.s.: if have been automatically enrolled in your employer’s 401(k), you may want to check out the savings rate. These typically start contributions from your paycheck at a much lower rate (a 3% default savings rate is common) than those who have taken the time to fill out an enrollment form (who tend to go with the savings rate matched by their employer.

5. The sooner you start, the easier it will be.

The Labor Department says that for every 10 years you delay before starting to save for retirement, you will need to save three times as much each month to catch up.

I know it sounds simplistic. But trust me, you’ll be amazed at how quickly your retirement savings grow. See, the money you save earns interest. Then you earn interest on the money you originally save, plus on the interest you’ve accumulated. As your savings grow, you earn interest on a bigger and bigger pool of money. This is something financial pros call the “magic of compounding.” But it’s no trick.

- Nevin E. Adams, JD

Are You Exploiting Naïve Myopic Workers With That Employer Match?

Over the years, I’ve seen some convoluted ways to rationalize undermining the tax preferences of workplace retirement plans and substituting government tax credits — but a new one just may take the cake.

“A Behavioral Contract Theory Perspective on Retirement Savings,” authored by Ryan Bubb and Patrick Corrigan from the New York University School of Law and Patrick L. Warren from Clemson University’s John E. Walker Department of Economics, starts off by assuming that workers are rational, though perhaps not rational in the way you or I might consider to be rational. However, I’ll accept as logical their assertion that rational workers will prefer saving through an employer-provided plan, rather than accepting a job that does not provide such a plan.

They also claim to provide an analysis that “provides novel explanations for the use of low default contribution rates in automatic enrollment plans, the shift away from defined benefit annuities toward lump sum distributions in defined contribution plans, and the offering of investment options with excessive fees.” Well, it’s certainly novel. More on that in a minute.

Exploit ‘Actions’

The authors claim that employers that provide qualified retirement plans provide more after-tax compensation (in the form of employer contributions not subject to FICA) to employees than employers that do not, and that if workers are rational (there’s that “rational” reference again), then competition for workers in the labor market should therefore provide incentives for employers to offer such plans. So, all other things being equal, workers would prefer to work for an employer that offers a plan than one that doesn’t. So far, so good.

Now we all know that some workers don’t save, and some don’t save enough. But the paper maintains that “if workers undersave (or make other retirement savings mistakes) due to behavioral biases,” then the labor market will give employers incentives to design plans that “cater to and exploit, rather than resolve, those behavioral biases.”

They claim that some workers undersave due to myopia — and that also results in employer plan designs that “exploit the myopic,” and that they do so specifically by — wait for it — offering matching contributions, which the study’s authors claim “naïve myopic workers overvalue.”

Moreover, they claim that this matching results in what they term “cross-subsidization” of rational workers, which, in turn, lowers myopic workers’ total compensation. Said another way, matching contributions mean that the naïve, myopic part of the workforce is not only undersaving (because they overvalue the contributions), but actually receiving less compensation (since the employer is paying them less to offset the cost of the contributions). Are you following this?

And while you may be under the impression that employers offer matching contributions either to increase NHCEs’ contribution rates or to meet one of the safe harbors so that they can provide greater tax-advantaged compensation to HCEs, according to the researchers, you would be wrong. They claim that employers offer those matches precisely because myopic workers overvalue them. Sound like a devious plot to you? Now you’re getting it…

Not only that, they also claim that matching contributions crowd out what they consider to be the superior — and non-redistributive — “commitment device” of non-elective contributions. That’s right, contributions that do not require any particular action on the part of the worker other than to exist and be eligible. Apparently it’s the reward for specific behaviors that is distorting things.

‘Over’ Matched?

Indeed, these researchers believe that the mere existence of the match means that workers will overestimate how much they will, in fact, save for retirement — and, since they think they will accumulate more than they actually will, they will save less — and employers save money, not only because they pay less (the offset for the matching contributions), the workers will choose to save less — and get less of a match.

Put simply, the paper claims that the labor market gives employers incentives to craft plan designs that cater to what biased workers perceive to be of value, and that the same behavioral biases that produce worker mistakes in saving for retirement will also typically lead workers to prefer plans that fail to correct their mistakes (apparently by encouraging them to save for retirement, but not as much as they need) and that can even exacerbate them. The result, they say, is an equilibrium set of choice architectures (plan design) that fails to effectively address the basic retirement savings policy problem of people not saving enough for retirement. Choice architecture that, in their estimation, is making things worse, not better. Because employers offer workplace retirement plans — and have the temerity to match the contributions of workers who take advantage of these programs. The horror!

Employer ‘Incentives’

The authors’ main message is that when workers undersave due to those behavioral biases, then “employers have incentives to design employer contributions in a way that fails to address the undersaving problem and indeed that can even actively exploit the undersavers.”

They not only claim that matching contributions are harmful to rational workers, but maintain that they are “unambiguously so.” How? Well, they claim that matching contributions distort the worker’s incentive to save by encouraging too much savings (which is apparently different than enough savings), and the worker would receive more “utility” from being paid this money as wages.

Oh, and as another example of employer bad behavior in plan design (and ostensibly another reason employers can’t be relied upon in this role), the authors note that most employers choose an automatic enrollment default deferral rate of 3%. The authors concede that the use of automatic enrollment can result in retirement savings by employees who would otherwise have initially contributed nothing to the plan. However, they caveat this admission by noting that some who would have saved more than that default rate if they had had to fill out an enrollment form only save at the default rate.

The solution for this? Substituting for the current system of employer-provided pension plans a new federal defined contribution plan, designed by a federal agency and not linked to any particular job, of course. Oh, and not only do they claim that this could improve savings outcomes, but that it would do so “at little to no fiscal cost to the government.”

Except, presumably, for the part where the government trades the temporary deferral of tax revenues for the permanent forgiveness of a government tax subsidy.

FWIW, I find it hard to believe that this kind of analysis would survive serious scrutiny outside of the rarefied air of academia. But stranger notions have.

- Nevin E. Adams, JD

A Preference on ‘Preferences’?

A research paper finds that introducing a Roth 401(k) option doesn’t have much impact on current plan savings rates — but what does that have to do with their preference for tax preferences?

Well, according to “Does Front-Loading Taxation Increase Savings? Evidence from Roth 401(k) Introductions,” governments could actually increase private savings by taxing savings up front, rather than in retirement. This conclusion basically suggests that taking away the current 401(k) pre-tax contribution and replacing it with a Roth assumption would not only not decrease, but it might actually increase, retirement savings, and with no additional cost to the government.

For years a key education element touted about 401(k) plan participation has been the ability of the individual to put off paying taxes on their contributions and on the earnings attributable to those contributions (and those of their employer, if any) until retirement, at which point they would ostensibly find themselves in a lower income tax bracket. Moreover, by saving on a tax-deferred basis, the theory went that you could get more bang for your buck in leveraging the taxes deferred.

A Preference for Roths

The researchers look at that scenario a little differently — gauging that paying taxes upfront on the contributions and foregoing paying taxes on the accumulated earnings amounts to a better deal. They then anticipate that participants would shift their 401(k) contributions to Roths.

To test their hypothesis, the researchers drew on administrative 401(k) plan data from 11 companies that introduced a Roth 401(k) option between 2006 and 2010 to analyze the impact of a Roth option on savings plan contributions. They found no evidence of a change in total contribution rates between employees hired after a Roth option is introduced and employees hired before. In fact, they note that if anything, contributions rise slightly when a Roth option is available.

Having found no evidence of the anticipated shift to Roths, they seek to explain it.

To do so, they turn from actual data to a survey of participants who are asked to provide a savings recommendation to a couple of fictional participants — basically to come up with a recommended savings rate for a pre-tax 401(k) option versus one that allows for both a pre-tax 401(k) deferral and a Roth 401(k) contribution. Despite what the researchers see as obvious advantages with the Roth, the contribution recommendations (in terms of a total contribution) are almost identical.

No ‘Wonder’

While considering several possible explanations for why this occurs, they settle on one that seems fairly obvious: “ignorance and/or neglect of the 401(k) tax rules.” But since the introduction of the Roth 401(k) option didn’t lead to any major shift in contribution rates, the researchers conclude that this suggests that governments may be able to increase after-tax private savings (because participants will have more savings accumulated with the Roth) while holding the present value of taxes collected roughly constant (the government gets less money, but gets it upfront, rather than waiting for the individual to retire) by making savings non-deductible up front but tax exempt in retirement, rather than vice versa.

In other words, since the addition of the Roth option didn’t lead to any significant changes in contribution behaviors, policymakers could consider shifting those current tax preferences to a post-tax savings assumption without being worried that individuals would react negatively, and perhaps save less, in response.

What If?

While acknowledging that a Roth-focused savings design could be advantageous to some, perhaps many workers (especially younger workers who may currently be paying the lowest tax rates of their working lives), I’d like to posit an alternative perspective.

What if those workers didn’t shift to Roth just because they liked the notion of putting off paying taxes — that they appreciated the logic of getting a dollar’s worth of savings for 85 cents worth of paycheck (that might, however, even account for the small uptick in contributions for the Roth — trying to make up for that “gap”)? Or that, having contributed on a pre-tax basis for some period of time, they were simply disinclined to make a change. After all, if plan sponsors simply added a Roth contribution type to the play, without changing default assumptions or matching formulas, simply presenting it as an additional option, I think it’s fair to say that, under those circumstances, most participants wouldn’t have any reaction or response to the new option. Indeed, considering normal behavioral inertia, it would be surprising if they did.

Let’s face it — they didn’t save more, they didn’t save less. They pretty much held the status quo.

So, what does this non-response of participants to the addition of a Roth option tell us about their likely response to the elimination the ability to defer paying taxes on income they haven’t received?

Well, Newton’s First Law of Motion is that objects at rest tend to stay at rest unless acted on by an external force. If you wanted to really test the reaction of participants to losing their pre-tax deferral choice — their “preference” for tax “preferences” — it seems to me that you’d need to actually take that option away from them. And then perhaps consider Newton’s Third Law of Motion: that for every action there is an equal — and opposite — reaction.

There is, it seems to me, a big difference between participants ignoring an additional choice and having an existing choice taken away. And policymakers who ignore that distinction in effecting tax law changes for retirement plans do so at their peril.

- Nevin E. Adams, JD

3 (More) Pervasive Retirement Myths - an Academic Perspective

Last week I highlighted three “myths” about the retirement system that will not die — all the more distressing because they are perpetuated by retirement industry pundits. Here are three more that (mostly) aren’t perpetuated by those who actually work with retirement plans, but by academics.  Academics who, sadly, are often listened to, and cited by those who regulate and legislate these programs.

The Match Doesn’t Matter

This doubtless comes as a surprise to those of us who work with retirement plans and retirement plan participants. More precisely, there are a few studies out there that suggest that a matching contribution doesn’t have a very strong impact on participation. The study that is cited most often in support of this one is one conducted several years ago in conjunction with H&R Block, where individuals were offered a financial incentive to take their tax refund and deposit it in an IRA. Most didn’t — and thus the notion that the promise of the match doesn’t produce (much) in the way of participation.

Now, if you find yourself saying, “But that’s not really an analogous situation to 401(k) saving” — well, you wouldn’t be the only one to think so.

But even if it has only a modest impact on the decision to participate, the data clearly suggests that it has a big impact on the rate of savings — and on the savings accumulations itself.

You Can Plug the Leakage Problem by Limiting Loans

Preventing “leakage” has become a constant drumbeat of many in our industry, their passion fueled by estimates of the enormity of the problem that seem limited only by the imaginations of those clamoring to solve it. As recently as a week ago, I was at a conference where a respected researcher went so far as to suggest that we are losing as much as $1 in leakage for every $2 contributed into the system. I kid you not.

Now, the “out” for these wild exaggerations is that nobody knows for sure, and so — if you’re looking for them — you see those estimates footnoted with disclaimers like “author’s calculations.” Or sometimes they come right out and admit that it’s based on a “host of simplifying assumptions.”

Don’t get me wrong — “leakage” can be a threat to an individual’s retirement security. But when the nonpartisan Employee Benefit Research Institute (EBRI) looked into the matter in testimony provided to the ERISA Advisory Council last year, it was cashouts — not loans or hardship withdrawals (even including the impact of a six-month suspension of contributions) — that turned out to be approximately two-thirds of the leakage impact.

So, if you want to solve the real leakage problem, you might want to start by accurately assessing the size of the problem, rather than just making numbers up. And then you might look for ways to make it easier for folks to keep their savings in the system at job change.

And let’s not forget — locking people’s money up with no access until retirement may solve the leakage problem. But it could also lead to a reduction in the amount of money people save in the first place.

The 401(k)’s Tax Incentives Are ‘Upside Down’

One of the comments you hear from time to time is that the tax incentives for 401(k)s are “upside down” (or as it has been more colorfully described, “out of whack”) — that is, they go primarily to those at higher income levels, who perhaps don’t need the encouragement to save. And from a pure financial economics perspective, those who pay taxes at higher rates might reasonably be seen as receiving a greater benefit from the deferral of those taxes.

Indeed, if those “upside-down incentives” were the only forces at work, one might reasonably expect to find that the higher the individual’s salary, the higher the overall account balance would be, as a multiple of salary. However, drawing on the actual administrative data from the massive EBRI/ICI 401(k) database, and specifically focusing on workers in their 60s (broken down by tenure and salary), EBRI Research Director Jack VanDerhei has found that those ratios hold relatively steady. In fact, those ratios are relatively flat for salaries between $30,000 and $100,000, before dropping substantially for those with salaries in excess of $100,000.

In other words, while higher-income individuals have higher account balances, those balances are in rough proportion to their incomes. They are not “upside down.” Now this is the outcome — the balances — not just focused on the contributions, the amount(s) going in, which is what most of the criticism focuses on.

As retirement plan advisors are well aware, these programs are subject to a series of limits and nondiscrimination test requirements: the boundaries established by Code Sections 402(g) and 415(c), combined with the ADP and ACP nondiscrimination tests. Those plan constraints were, of course, specifically designed (and refined) over time to maintain a certain parity between highly compensated and non-highly compensated workers in the benefits available from these programs. The data suggest they are having exactly that impact.

More recently, the “fairness” of these incentives has been questioned since they “only” go to workers who are covered by workplace retirement plans (though, as I pointed out last week, those numbers are often distorted as well). A better solution might be to expand those covered by such plans, rather than to undermine the diligence of those who are saving.

You’re less likely to hear these statements in your earshot — they tend to show up in academic forums, and sometimes in legislative hearings — forums where “decorum” might suggest avoiding confrontation.

But this is not just an academic exercise. And no one is well served — even the often well meaning academics who are trying to help improve the current system — by perpetuating misunderstandings.

- Nevin E. Adams, JD

6 Things 401(k) Participants Need to Know

Our industry spends a lot of time and money educating workers about the advantages and mechanics of saving for retirement.

But here are six things I think too often go unsaid.

Your 401(k) isn’t free.

That’s right, it isn’t free. It may be heavily subsidized by your employer, and you’re likely paying a lot less for the fund(s) and features you have access to than if you were to try and buy them on your own (say, via an IRA or brokerage account) — but even then, it’s probably not “free,” nor should you expect it to be. But if you don’t know how much you are paying, you should find out.

You’ve probably been provided some information about your 401(k) plan fees already. You can find out how to use that information here. More information about 401(k) fees is available here.   

That employer match isn’t “free” either.

You may have heard that you should save enough to receive the full employer match — that “you don’t want to leave that free money on the table.” It is, of course “free” money to you when you save in your workplace retirement plan. But not every employer provides a matching contribution, and it’s a real out-of-pocket cost for those that do. Remember that, if you’re lucky enough to have an employer who makes a matching contribution — and thank them.

Saving to the level of the match is probably not enough.

As noted above, many employers choose to encourage your decision to save for retirement by providing the financial incentive of an employer matching contribution. While there are a number of factors that go into determining the amount and level of the match, how much you need to set aside for your own personal retirement goals is almost certainly not one of those factors.

You certainly don’t want to leave any of that match on the table by not contributing to at least that level. But if that’s where you stop saving, you’re probably going to come up short.

How much you save is more important than how you invest what you save.

There are bad investments that can cost you money, and good investments that can help your account grow faster. But what really matters in achieving financial security for retirement is how much you save (including the amount of the employer match, if any).

For more information, see “Missing the Forest for the Trees” here.  

If you’ve never tried to figure out how much you’ll need to live in retirement, you may not live very comfortably in retirement.

Surveys routinely show that most Americans have not even tried to guess how much money they will need to live on in retirement, much less actually made an educated guess. Sure, it sounds complicated, and sure, things can change over time — and yes, you’re busy. But saving for retirement with no idea of how much you might need is a bit like going on a long trip in a car you don’t know with a gas gauge that isn’t working.

Chances are, your 401(k) plan has some resources that will help you do the calculation. If not, or if you’d like a “second opinion,” try the free Ballpark E$timate at choosetosave.org. 

If you don’t know what you’re doing, get help.

And not the kind you might get from Joe in the lunchroom, Sally in accounting or “experts” you’ve never met. If there’s a professional advisor working with your 401(k) plan, that’s a great place to start.

- Nevin E. Adams, JD

Savings “Bonds”

In my experience, there are three major reasons that people save for retirement. There’s the lure of the “free money” represented by the employer match, the benefit in deferring the payment of taxes, and there’s the hopefully obvious benefit of helping make sure you have enough money set aside to provide a financially satisfying retirement. While one might hope that the last represents the dominant motivation for most, I suspect it’s almost incidental.

Anecdotal evidence would suggest that the match exerts a powerful influence on savings behaviors. Sure, any number of participant surveys emphasize its importance as a factor, but to my eyes, the most compelling evidence is the clustering of participant deferral rates—in plan after plan—at the level at which the employer has deigned to provide that financial incentive.

As for the tax advantages, outside of Warren Buffett, I can count on one hand the number of individuals of my acquaintance who feel they are “under-taxed.” More importantly, I can still remember the first time I had someone explain to me how not forking over a chunk of my hard-earned pay to Uncle Sam now made it possible for me to save more without actually reducing my take home pay. Moreover, how that “extra” savings, through accumulated earnings and the “magic of compounding,” could help my savings grow even more, and even faster.1 It was then—and remains, IMHO—a powerful incentive for individuals to save.


That said, of late, the taxation of these contributions—or perhaps, more accurately, the TIMING of the taxation of these contributions—has been much on the minds of those looking to solve the nation’s debt situation by raising revenue, most notably in the so-called “Gang of Six” proposal’s reported adoption of the National Commission on Fiscal Responsibility and Reform’s notion to cap annual “tax-preferred contributions to [the] lower of $20,000 or 20% of income” for 401(k)-type retirement plans.” This stands in sharp contrast to the current structure, where the limit on the combination of employee and employer contributions is the lesser of a dollar limit of at least $49,000 per year and 100% of an employee’s compensation.

Simplistically, it’s hard to imagine that many workers today are setting aside 20% of pay for retirement. Even someone who is deferring 6% and receiving a very generous dollar-for-dollar match would presumably still be well within the comfort zone of those new limits. The $20,000 cap is, of course, more problematic. Still, I’m sure that those who proposed that cap of $20,000—particularly when the current limit on pre-tax deferrals is $16,500, and the median deferral less than half that sum—think it won’t matter much to “regular” folks. At least they might have thought so, had they not paid mind to a recent analysis by the nonpartisan Employee Benefit Research Institute (EBRI), not just for the highly compensated, but for those who today may not be, but who would hit those limits during their later working years (see Capping Tax-Preferred 401(k) Contributions Would Hurt Workers ).

Indeed, when you examine EBRI’s projections, you begin to appreciate the truly insidious impact those kinds of limits would impose on savings over time—all to satisfy the kind of accounting gimmickry that allows lawmakers to claim they have saved the taxpayer money by generating revenue in the near-term while completely ignoring the long-term collections, and longer-term implications of such a shift in policy.2

A focus that IMHO is, as that old English proverb once cautioned, penny-wise—and pound foolish.

—Nevin E. Adams, JD

1 Of course, in those days, we were also being told that when we withdrew those funds, we’d likely pay taxes at a lower, post-retirement rate—a message that I’m betting has fallen by the wayside in most enrollment meetings these days.

2 For an expanded analysis of the impact, check out “ASPPA Speaks out against Retirement Measures in Budget Proposal”, as well as ASPPA’s report on “Retirement Savings and Tax Expenditure Estimates”

“Passing” on the Ammunition

A couple of months ago, I started getting e-mails from readers curious about the announcements of plans reducing and/or suspending their matching contributions. As the weeks passed—and the number of reports grew—so did the inquiries. Those first inquiries were clearly seeking assurances that the announcements did not constitute a trend, that this was still just something a (very) few employers were embracing. Indeed, that was my sense of things (see "IMHO: Trend Spotting", borne out not only by one of our weekly surveys (see "SURVEY SAYS: What Are Your Plans for Your Match?", but also in a couple of industry reports as well (see "83% of Employers Surveyed do not Expect Employer Contribution Changes"—and I was happy to provide those assurances (and links to those surveys) to any and all who asked.

However, in recent weeks, those inquiries have taken on a different tone; this new wave of inquiries seems to be seeking validation, if not vindication. Now, not in every case—and not enough to persuade me that we were on the verge of a match-suspension tsunami—but enough to suggest that such a thing could be possible.

Resist “Tense?”

Throughout this process, I have resisted aggregating a list of employers that have cut their match—mainly because I worried that it would only serve to accelerate what I view as an ominous trend. Also in the back of my mind was a concern that such an accounting might be fodder for “enemies” of the 401(k), who would point to the actions as proof that that system was unreliable as well as risky.

Those concerns notwithstanding, it is a project that we have discussed undertaking —and, indeed, there have been a number of requests to provide a list of the companies that have chosen to cut or suspend their match. Sure enough, many of those more recent requests are apparently motivated by a desire to make the case for cutting back on the match to plan committee members, or as support for a communication about that move to participants.

Now, several of our stories on the subject detail a listing of similarly situated employers that have made that decision (see “Apparel Retailer Freezes Pensions to Cut Costs”, “J. Crew Cost Cutting Clips 401(k) Match”)—and you can make your own list at any time by going to our Web site(s), and searching for “match.” Still, my head kept seeing a need for cataloguing those individual decisions, even as my heart told me that no good would come of it.

Unable to resolve my internal “debate,” I settled on a solution that I thought would be simple, fair, and effective: ask our readers. I did so in our weekly NewsDash survey last week, in fact—only to discover that my internal dilemma was nearly perfectly embodied in that readership; the vote for and against compiling the list in last week’s NewsDash poll split right down the middle (see “SURVEY SAYS—Should We List the Match Cuts?”). I kid you not.

As I poured over the responses, however, at least half of those who supported the compilation conditioned that support on the ability to keep that information “in context.” Some went so far as to suggest (or at least imply) that that would require listing the thousands of plans that hadn’t cut their match, though most said that desire could be satisfied by simply noting how many 401(k) plans there were in existence relative to the listing. Others noted the difference in impact when an employer was continuing to support/maintain a defined benefit plan despite suspending the match, or how safe harbor 401(k)s couldn’t suspend their contributions as easily as those with standard 401(k)s. However, even if we were able to do all that, we still wouldn’t have taken into account the situations where employers were making a decision to keep jobs with those matching dollars. Let’s face it—if you don’t have a job, you’re missing more than a 401(k) match.

And then, the day after the survey results appeared, I got a long and, IMHO, thoughtful response from a plan sponsor. He concluded by saying: “I would add my vote to the list who say ‘no’ to compiling and publishing a list. It will only get picked up and appear elsewhere in print. The Wall Street Journal or CFO Magazine will cite the list and suggest that ‘everyone is doing it. In fact, if you haven't already suspended your 401k match, you're out of sync with what the cutting-edge companies are doing.’ Don't give them this ammunition.”

Now, that was only one voice—and one that wasn’t even reflected in the survey results. It was, however, a voice that spoke to my head AND my heart—and provided, for me anyway, a shining moment of clarity.

We will, of course, continue to report on the news and trends regarding employer matches, while presenting it in a thoughtful way that provides context for those decisions. I’ll apologize in advance to those of you looking for the convenience of the single listing (as I noted above, you can still make your own)—and trust that those of you who perhaps don’t see this as a big deal will at least appreciate the deliberations.

As for those of you who have made a decision, those who are still struggling with a decision, and those of you trying to help those who are struggling with a decision, I hope this discussion—and the comments of those who contributed to it—helps you with yours.

—Nevin E. Adams, JD


Editor’s Note: Unfortunately, the “news” about a match suspension will continue to be just that—and if this plays out the way it did the last time (2003), the restorations will be much less obvious, even invisible. But I’ll make this commitment now: We will happily and proudly report every single match restoration when they come back.

Trend Spotting

Here’s a headline you won’t see this week: “Nobody Cut Their 401(k) Match Today.”

That’s right, even though there is a very good chance that it will be an accurate statement on just about every day, I’m betting it won’t even make its way into the business briefs section, much less a newspaper headline.

Not that employers aren’t making decisions to cut back on, or even suspend, their 401(k) match. On the other hand, you don’t have much trouble keeping up with that activity. Regardless of plan size or industry, these days, pretty much any plan that takes that step can count on making headlines—and every article beneath those headlines spends at least a sentence or two recounting the latest list of 401(k) match casualties.

Even in our publications, sadly. Let’s face it, it’s “news.”

With such incessant coverage, it’s hard to shake a sense that we have the makings of a trend—particularly for plan sponsors. Indeed, for employers looking for some respite in one of the more challenging economic times in memory, such coverage surely plants at least the seed of doubt about the necessity of the financial obligations attendant with such commitments.

Those developments notwithstanding, I’m pretty sure that, when it comes to their matching contributions, the vast majority of the tens of thousands of employers that offer 401(k) plans will make them in 2009 at the same level they did in 2008—and as they did in 2007, though you may never see a headline to that effect (a rare exception: “Most Employers Don't Plan to Reduce Contributions”).

That said, I’m not altogether sure where one crosses the line between a series of related occurrences and “a trend”—when the tipping point is reached, the Rubicon crossed….

What I do know is that we are still at a point where the decision to suspend a 401(k) match is “news.” And I dread the day—should it ever come—when it isn’t.

- Nevin E. Adams, JD

See also “IMHO: ‘Out of’ Practice” at

“Out of” Practice

Regardless of age, regular exercise is important – but I’m at an age where the demands of everyday life (and the toll of previous “misadventures”) frequently make that impractical, if not impossible. Nonetheless – generally after I’ve been away at a conference (where the hours, food, and drink have all been beyond my usual quotas) – I undergo a renewed “commitment” to exercise. Unfortunately, once you have gotten out of the habit – well, let’s just say your body has a way of reminding you how long it’s been.

Consequently, I was concerned a couple of weeks ago when I heard that GM had decided to suspend its 401(k) match for salaried workers (see “Benefits Cuts Next on GM Agenda”). Now, the giant automaker, like many other firms, is struggling at present. And, frankly, given a choice between having a job and having a matching 401(k) contribution, I’d opt for the former every single time.

Still, in recent weeks, that’s a move that we’ve seen a number of employers make (see “Tightening Economy Drives More 401(k) Match Suspensions”), and that is reminiscent of 2003, when a series of well-known employers – names like Schwab, BF Goodrich, Goodyear Tire & Rubber Co, El Paso Corp, and Textron Inc. – took similar steps.

The sad irony, of course, is that these moves are being taken at a time when the markets are also undermining the confidence of participants. They were also coming to light at a time when a new Schwab survey highlighted the connection between the level of an employer match and participant contribution rates (see “Schwab Finds Employer Match, Employee Savings Link”).

Now, the match that GM suspended was generous by industry standards – 100% on the first 4% of employee deferrals. And it’s not like GM hasn’t been down this road before; GM cut its match in 2005 ), and they also cut it in 2001 – but in both cases, they restored it the next year, and one would hope that, in this case, anyway, history will repeat itself.

It’s worth noting, however, that the VAST majority of employers are not even contemplating suspending the company match (for an “unscientific” sampling of PLANSPONSOR NewsDash readers, see “SURVEY SAYS: What Are Your Plans for Your Match?” at ), and that the actions of few name-brand employers do not necessarily portend a trend. Still, I have heard from a number of advisers that their plan sponsor clients are “looking at” the current level of their match. Frankly, it would probably be imprudent not to.

On the other hand, like my exercise regimen, dropping, or even reducing, the match has real consequences. There’s the obvious reduction in participant account balances, of course, but – as the Schwab survey reminds us – there is also a cause and effect on participant behaviors. Take away that “free money,” and not only do participants have less incentive to save, they may even see it as a signal that they should cut back on their retirement contributions as well.

And, like any exercise regimen, once you get out of the “habit,” it’s easy to find other ways to spend that time/money – and hard to get back to doing what you know you should be doing.

- Nevin E. Adams, JD“Out of” Practice