Revolutionizing the 401(k) Plan: Small Changes, Big Impact. Retirement industry kingpin Bob Reynolds posted an article recently on LinkedIn opining that building on the success of automatic features currently available in 401(k) plans has the potential to increase retirement savings for American workers of all ages, especially Millennials.
If you’re not familiar with the name Bob Reynolds, here are the highlights. He has been a veritable force in the 401(k) industry for more than three decades. He is the mastermind who grew Fidelity’s fledgling 401(k) business into a multi-billion-dollar juggernaut. Today, he’s President and CEO at Putnam Investments and Great-West Financial, and the strategic visionary behind Empower Retirement (Great-West’s retirement arm).
Reynolds aptly observes that Millennials face some of the biggest challenges of any generation to saving for retirement. These obstacles include having more debt than previous generations, especially student loans (borrowers under age 30 represent 30% of total student debt); more scarce access to workplace savings plans than Baby Boomers; and a lower likelihood of participating in their employer-sponsored retirement plan if they do have access to one (Reynolds cited Pew Research for that last data point).
However, Reynolds is optimistic that Millennials can overcome these hurdles if given the right tools. Millennials are more educated than any other generation, and they could be the heirs to as much as $30 trillion in the next 30 years.
Additionally, Millennials recognize time is on their side when it comes to preparing for retirement, and they are using that to their advantage by saving and investing early.
What’s more, we know that automatic enrollment has significantly moved the needle on participation for workers all generations, especially for Millennials. Reynolds cited recent Bank of America Merrill Lynch research, which showed that auto-enrollment hiked participation among older Millennials (ages 28-34) to 88% and 78% among younger Millennials (ages 21-27).
All positive trends, to be sure. However, while auto-enrollment positively impacts participation, it does little in the way of increasing deferrals. That is the role of automatic contribution escalation, a plan design feature that has not been as widely adopted to date as auto-enrollment. Reynolds points to more widespread uptake of auto escalation, with a standard deferral rate of 10% or more, as a way to “revolutionize retirement savings.”
Employer matching contributions also affect deferrals. For better or worse, employees will typically contribute just enough to their retirement savings to be eligible for the match. So another way to potentially juice deferrals is a newer plan design feature called the stretch match. It’s used by relatively few plan sponsors, but may be a tool you can use to entice participants to save more.
Here’s how it works: Let’s say you’re matching 100% of the first 3% of pay your employees contribute to the plan. You could instead stretch the match to 50% on the first 6% of pay, ostensibly increasing employees’ annual contributions from 6% to 9% of their salary. In other words, a stretch match forces participants to defer more to get the full match. And imagine how an extra 3% contribution could grow over time to help your participants be better prepared for retirement.
Another tip: specifying the dollar amount as opposed to the percentage may help increase participants’ understanding of how the match works, potentially prompting them to raise their deferrals. That said, we know that participants tend to make deferrals equivalent to or close to the match — most aren’t likely to defer more. Nonetheless, a benefit to plan sponsors is that a stretch match can help offset some of the costs for plans that offer a match and auto-enroll employees.
The Plan Sponsor University (TPSU) Ideal 401(k) Plan may be close to the type of plan design that Reynolds envisions to help revolutionize savings behaviors. The Ideal 401(k) Plan makes small but significant revisions to the current “off the shelf” plan design to promote better savings habits and improve retirement readiness.
The Ideal Plan is an aggregation of plan features based on our interaction with thousands of plan sponsors during hundreds of TPSU Programs. They include:
- Auto Enrollment (of all eligible employees is prudent)
- Auto Deferral at a recommended 6%
- Auto Escalation at 1-2% per year and capped at 12% — we believe these are key to achieving participant retirement readiness
- Employer Match at ideally higher than 3%
- A Managed Account Option that makes it simple for participants to invest prudently
It doesn’t take a Herculean act to make revisions like these to your current plan structure, nor does it need to mean an increase in fiduciary liability or plan contribution costs. But making these meaningful changes could have a material impact on plan sponsors’ ability to help eligible participants achieve their retirement goals, and do so with confidence. That, indeed, is a cause worthy of the kind of revolution Reynolds advocates. We’re with him 100%.
