Retirement Plan Rx


The latest news regarding retirement plans has centered around service
provider fees.  While fees are a highly important aspect of managing an
employer-sponsored retirement plan, they are not the only metric of your overall
retirement plan’s health. A low-cost retirement plan does not necessarily
parallel a fruitful pension program for employees.  Studies show that since
Social Security was never designed to fully fund an individual’s retirement,
employer-sponsored retirement plans have become an integral part of employees’
overall financial plan for their future.  Relying so heavily on this one
component should prompt any plan sponsor to ask one very straightforward
question… How healthy is my company’s retirement program?

Types of Retirement Plans

The U.S. retirement system historically has relied on defined benefit plans
commonly called “pensions”, as the most common way that companies helped
employees prepare for retirement.  In pension plans, the responsibilities
for funding the plan and investing the plan’s assets lay with the employer.
Since the late 1980’s, employers have migrated to defined contribution plans,
with 401(k) plans being the most popular. In contrast to pension plans, 401(k)
plan funding is a shared responsibility between the employer and the employee;
for most plans, investment decisions are made by the participant.  Though
this arrangement has been a continuous trend for more than 30 years, experts
argue that if employers had a systematic way to calculate the actual cost of
employee turnover, they might pay more attention to alternative ways of “paying”
employees.  If pension plan benefits were factored into compensation
packages, an employee might take home a little less pay to have benefits
guaranteed in retirement.  Consideration of exploring a defined benefit or
cash balance plan may be a way to increase overall retirement plan health.

Though many small employers favor the 401(k) plan approach, not all plans are
created equal.  All 401(k) plans allow for employer contributions, but,
unless the employer elects a Safe Harbor option, these contributions are
discretionary in both the amount and allocation method.  Therefore, the
benefits of any 401(k) plan can vary drastically depending on the annual funding
decisions of the plan sponsor. By educating employees on plan options, the
benefits of saving more, keeping deferral rates up, and utilizing all financial
resources, it is possible to optimize any company budget to ensure everyone on
the team is saving more for retirement.

A 2014 study of 9 million U.S. employees’ data revealed that less than 50% of
workers ages 20 to 29 are currently saving for retirement.  Of that group,
the average contribution rate was less than 5%!  The numbers increase with
older participants but, even in the 50 to 60 age group, only 65% of employees
were participating in their company’s plan, with an average contribution rate of
7.7%.  Numbers approaching 70% are healthy figures and above that, even
better still.  If a plan’s participation is in the 40-60% range, there are
likely a few ways to boost participation numbers, as well as participation
contribution rate.

Age Group
% Employees Who Saved Savings Rate
20-29 48.8% 4.9%
30-39 57.9% 5.7%
40-49 62.4% 6.3%
50-60 65.6% 7.7%
61-69 64.4% 9.2%
TOTAL 60.2% 6.7%
“The Retirement Savings Paradigm: Factors Influencing
Saving” by the ADP Research Institute.


Getting Employees to Join the Plan

Education: As employers started to replace pension plans with defined contribution
plans, retirement education became, and remains, incredibly important. Lack of
employee education is the most common reason cited for not participating, or
participating further, in a company’s retirement plan, especially amongst lower
income workers. There are many reasons employees don’t follow through on
enrollment in a retirement plan but it largely seems due to complicated
processes.  There are myriad decisions to make and confusing paperwork to
complete. Industry jargon, along with a large menu of investment options, can be
intimidating or confusing.  The best way to encourage participation is to
keep the plan straight forward, accessible, and provide access to great
educational tools.  Try to avoid overwhelming people with excessive
paperwork or educational schedules that don’t match their work environment.
There is a wealth of materials available for employees, such as articles,
videos, and online tools like webinars, that can be posted to a web portal or
made accessible through Human Resources.

While providing educational materials via the use of technology is
beneficial, especially for the younger generation, there is still no replacement
for personal interaction with the people who handle your retirement account.
Group seminars to discuss plan features like fees, cover performance
information, and discuss how integration of your retirement assets should work
in conjunction with Social Security benefits are excellent ways to breakdown
participation barriers.  Most financial advisors are more than willing to
help in this endeavor.  The most successful tool of all may be one-on-one
meetings between the plan’s investment professional and the participant.

Automatic Enrollment: It may be easy to provide education to those employees that are in the office
and are working standard daytime hours; but, when workers are remote, in-field,
or second and third shift, the availability of thorough education is strained.

To combat low participation rates, some employers are adopting automatic
enrollment of employees into a 401(k) plan. Automatic enrollment allows an
employer to enroll an employee into the company’s plan at a determined
contribution percentage unless the employee makes an election not to contribute,
or an election to contribute a different amount. Employees who are intimidated
by the decisions of enrolling in the plan and fail to complete the appropriate
enrollment paperwork will default into participating as opposed to defaulting
out.  It is important to understand that this does not make participation
mandatory because employees can make an affirmative election to opt out at any
time.  Especially valuable for those with workers in the field, remote
workers, and later-shift employees, automatic enrollment has proven to be an
excellent participation enhancement tool.

Roth Option: The Roth 401(k) combines some of the most advantageous aspects of both 401(k)
plans and the Roth IRA. Under the Roth 401(k), employees may contribute funds on
a post-tax elective deferral basis, in addition to, or in place of, pre-tax
elective deferrals under their traditional 401(k) plans. This option is
especially attractive to younger workers which are residing in a lower tax
bracket now, but probably won’t be in that same bracket at retirement age.
While the Roth 401(k) option will require additional administrative record
keeping, it provides another way for participants to become involved in their
financial future.

Mobile Options: As highlighted in our April issue, “Benefit Communications in an Electronic
World”, keeping up with technology can go a long way in attracting younger
workers to participate.  As smartphones and tablets have become engrained
in both work and personal life, it makes sense to include your retirement and
investment information on a platform which is readily available and more likely
to be accessed.  For those with a higher percentage of millennials in the
employment ranks, this is becoming more of a necessity than just an innovative
idea.  Providing low-cost apps allows workers to take care of benefits on
the devices that they are already familiar with and constantly using.

Increase Deferral Rates: Once employee participation rates are higher, it is time to encourage team
members to save more. Debunking some of the misconceptions that participants
have regarding their plan through good educational tools will go a long way, but
there are a few other avenues to consider as well.

Increasing Automatically Enrolled Contributions: Automatic enrollment, as mentioned before, is a highly-effective way to
increase participation rates.   While plans offering automatic
enrollment garner more participation, the typical 3% default contribution is
usually not touched after the initial enrollment.  Increasing the rate of
the default contribution will bolster a participant’s account balance and the
plan’s assets, furthering their chances of a healthy retirement.  A slight
increase to the contribution level of just 1% or 2%, goes a long way towards
improving their retirement outlook.

Stretching a Match: One of the most prevalent misconceptions that participants have about their
401k plan is that the maximum they can contribute is equal to the cap that is
placed upon the matching contribution made by the employer.  For example,
if an employer contributes a match of 25% up to 4%, participants tend to elect
4%.  To persuade participants to increase contributions, some plan sponsors
have adopted a stretched match as a form of motivation. There are a variety of
matching formulas that incentivize increased deferrals and are often cost
neutral to the employer.  An example might be as follows:

  • 100% on the dollar up to 3% of pay most likely results in a 3%
    contribution from the participant for a total contribution of 6% of pay.
  • 50% on the dollar up to 6% of pay (still a 3% outlay for the employer)
    encourages a 6% contribution from the employee and a combined contribution
    total of 9%.

If offered, participants often try and maximize the benefit and push deferral
rates to take full advantage of the cap on matching contributions. If the
employer sponsors a Safe Harbor plan, there are still options available to
“stretch” the match.

Automatic Escalation: Many companies are now implementing auto-escalation in their 401(k) plans.
With auto-escalation, the contribution level is automatically increased at
regular intervals, typically 1% a year, until it reaches a preset maximum. Plan
sponsors are free to choose the maximum automatic escalation contribution
percentage that works the best for their plan. The goals of the plan should
always be considered in conjunction with a percentage increase that will not
compromise an employee’s income needs.  Given that many employees rarely
change their level of contribution once enrolled in the plan, auto-escalation is
an excellent way to help employees save more for retirement.

Utilizing Your Resources

How often is the company in contact with the advisors for the plan? How often
do employees have a chance to attend meetings and ask questions?  Do they
have access to that resource outside of scheduled group meetings?

Interaction with knowledgeable plan advisors is a facet of retirement
education that is underutilized.   Ideally, participants should attend
an educational meeting at least once per year.  If the employer or
participant’s plan goals have changed, the respective pension professionals are
there to help the company adapt.  Additionally, the investment selections
currently offered in the plan may become less desirable over time and
necessitate a recommendation for replacement and presentation to the
participants of the plan.   Showing the employees that the plan
sponsor is actively engaged in keeping the plan up to date through the knowledge
of their advisors is an effective way to sustain ongoing interest in the plan.

Future Possibilities…?: The future may hold further developments directed squarely at retirement
health. Auto portability has presented itself as a possible solution to the
massive premature withdrawal of retirement funds.  Auto portability is the
routine, standardized, and automated movement of an inactive participant’s
retirement account from a former employer’s retirement plan to their active
account in a new employer’s plan. It serves the needs of participants that are
subject to the mandatory distribution provision of their plan (account balances
less than $5,000) to curb the levels of cash-out leakage occurring as
participants change jobs. Auto portability could be adapted to larger account
balances should a higher mandatory distribution limit be dictated by policy.
Both fast and slow cash leakage could be greatly reduced through these practices
and help reduce the overwhelming cash-out epidemic that currently adversely
affects your retirement plan health and the health of its participants. Why the
hold up? Retirement Clearinghouse, the company leading the charge, is seeking
the Department of Labor’s okay to use negative consent for auto-portability,
clearing up the chance of any unintended consequences for plan sponsors and
recordkeepers. Auto portability just may be a pension innovation worth keeping
an eye on.

In Conclusion

A healthy retirement plan is a valuable benefit for the future lives of all
involved, especially as younger generations may face a changing Social Security
program.  With a little bit of attention and education, employers and
employees alike should be getting the most out of their participation in the
plan. In order to optimize a sponsored plan, it’s crucial to educate everyone
involved, keep deferral rates up, and utilize all the financial advice resources


Rise of the Machines

Over the last 30 years, there’s been an incredible array of advancements in
technology that have impacted various parts of our lives.  While not all of
them were amazing, many of them inherently improved our quality of life and some
allowed us to catapult forward into a world of instantly accessible information
on a scale never witnessed.  As computer science has seeped into almost
every facet of life, there’s been an increase in connectivity, productivity, and

The world of investments is no exception.  Enter the latest
Cyberdyne-esque creation to go mainstream… the Robo-Advisor.  While it is
not likely that any big budget action movies will be released out of Hollywood
on its behalf, its impact on the way people invest their money may prove to be
explosive nonetheless.

Robo-advisors are a class of auto-adviser that provide financial advice or
portfolio management online with minimal human intervention. These systems
provide digital financial advice based on mathematical rules or algorithms. The
algorithms are executed by software automatically allocating, managing, and
optimizing clients’ assets and thus provides financial advice that does not
require a human advisor. The rise of the machines emerged in 2008, most
prominently in the States, and today there are over 100 of these services
offered to plan sponsors and investment advisors.

Is this something to be truly considered?  Could it help participants
with their investment decisions?  While we know that nothing can replace
the knowledge and comfort that participants can get from meeting with a
financial advisor, some advisors are considering adding robo-services as a
companion option to their financial advice with an aim to further engage
participants in the plan and perhaps as a tool for those hard-to-reach workers
(remote or field workers, and those that work late night shifts).

While robo-advisors may not be the solution to a universal education on
retirement plans, they add an intriguing new option for advisors and sponsors to
explore and thereby enhance the engagement of their participants. While the
automation of such a cumbersome task is exciting, navigating the investment
selections in a retirement plan is not perfected by algorithms.  Some of
the most important financial decisions require real-life advice from a real-life
person, the financial advisor.


Participant Loans: Benefit or Detriment?

For many years, plan sponsors have wrestled with the decision to offer loans
to their plan participants.  Some consider them to be a benefit and even
promote them as a legal way to use tax free money while participating in the
plan.  According to the Employee Benefit Research Institute, 87% of plan
participants can take a loan against their retirement account. Of those
employees with access to take a loan, about one-fifth borrow against the
retirement account.  Come retirement, what are the effects of loans taken
from pension funds on an employee’s account?

A few years ago, the term “Account Leakage” started to be used when reporting
on the effects of participant loans.  Account leakage refers to lost asset
accumulation due to reduced earnings, elections to reduce contribution levels,
and the cashing out of account balances when participants terminate.

Lost Accumulation Due to Reduced Earnings When a participant takes a loan, the interest rate, which is detailed in the
plan’s loan agreement, must be “reasonable” and is commonly tied to the prime
rate plus 1% or 2%.  Recently, the prime rate climbed to 4%. Most
participant loans in existence have rates based upon 3.5%, the prime rate in
effect for the last several years. With the value of the loan earning a rate of
4.5% to 5.5%, participants with loans could well underperform the returns of the
investment options offered within their plan.  Since the duration of most
loans is 5 years, there can be significant loss of earnings that will ultimately
erode their account balance at retirement.

Elections to Reduce Contribution Levels: Under the terms of a participant loan, the participant must agree to make
loan payments no less frequently than on a quarterly basis.  To simplify
collection procedures, most employers require that loans be paid through payroll
deduction which consequently reduces take-home pay.  Many participants
elect to reduce, or even eliminate, their contributions to the plan to alleviate
the impact of the loan payment on their paycheck.  Given that the most
common term for a participant loan is five years, employees are losing those
contributions, and the earnings on those contributions, towards their

Cash-out of Account Balances: When a participant terminates employment, they must decide what to do with
their account balance from their former employer.  Studies show that nearly
40% of terminated employees ask for a cash distribution and, according to
Morningstar, in 2013 that added up to about $68 billion that leaked from
retirement savings. When a participant loan is part of the account balance,
participants are faced with an even more demanding situation.  Since the
majority of plans require payment of the outstanding loan balance at
termination, the former employee must have the cash to repay the loan in full.
As a result, over 70% of plan loans default and become a taxable distribution.

Account leakage is a significant issue in retirement planning with some
experts even calling it a crisis.  What is a plan sponsor to do?  Some
companies are offering low-cost loan alternatives to discourage employees from
borrowing against the plan; leaving account balances intact.  Other
sponsors offer services with a financial advisor who can encourage other
financial options or compare the loan program with other low-cost lending.
Limiting loan availability to one at a time, encouraging early payoffs, and
instituting a waiting period between the initial loan payoff and the start of
the next, has helped to minimize the prevalence of a negative loan impact on the
plan.  Reducing the number of loans has helped many sponsors to keep
participant account balances intact and to reduce the administrative burden of
maintaining them.



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