In what is estimated to be a $3 trillion problem by 2024 by EBRI and the Retirement Clearing House, cash-outs by defined contribution (DC) participants are due in part to the complex process they must go through to keep money in a qualified plan and not incur penalties and unnecessary taxes. But using common sense looking at the issue through a behavioral finance lens, 401k and 403b plan sponsors can make a big difference while improving their own plan and saving money on fees.
The problem of transferring assets from a 401k or 403b plan to another plan or IRA is highlighted by Alicia Munnell, Director of Boston College’s Center for Retirement Research. Participants in a DC plans have four options:
- Leave the money in the plan which many think will be more popular as the DOL conflict of interest may limit IRA rollovers;
- Rollover to a new DC plan;
- Rollover to an IRA; or
- Cash-out.
The process of transferring assets to a new plan is cumbersome notes Professor Munnell, even when made directly to another plan, for a number of reasons:
- The old record keeper has no incentive to help as they lose assets.
- The new employer is not required to accept rollovers.
- There is no urgency.
- The process to insure qualified status is complex.
- Paperwork is cumbersome.
Indirect payments to participants can cause penalties and unnecessary taxes if rollovers are not made within 60 days. Further, providers withhold 20% for taxes which participants do not understand causing additional losses.
Though participants should carefully review whether the new DC or IRA plan has equal or better fees, investments and protection before rolling over, it’s hard to impossible for most people to manage multiple accounts as they move from job to job.
By accepting and encouraging rollovers into their plan from new employees, plan sponsors benefit by having increased account balances without increased cost or liability. They plan can enjoy lower fees and higher levels of service because their plan is more attractive to providers and advisors.
Using behavioral finance, a lens to view how people act, along with encouraging roll-ins, which the new record keepers are happy to facilitate, why not encourage new employees to keep their old deferral rates if higher and take a percentage of their raise to further increase contributions? Why not automate that process?
