We have a retirement savings crisis in this country with the majority of American workers not saving nearly enough to retire. As Congress considers changing our private retirement system, lawmakers should evaluate the suggestions outlined below. I have ranked these recommendations from one to 10 (with 10 being a major impact) based on how I feel the change affects employee retirement readiness.
1. Require the complete suite of “auto” features
Auto-enrollment, auto-escalation and auto-reenrollment work. Require all 401(k) plans to adopt the full suite of “auto” features beginning with auto-enrollment at 6%, annual auto-escalation of participant contributions by 1% up to a 12% maximum, and annual auto-reenrollment of every employee not in the plan. Auto-reenrollment ensures plan participation rates in the low 90% range.
Plan participants have the right to opt out of everything, but as we’ve learned, most don’t.
Impact score: 10. We know this works.
2. Require a QDIA in every plan
Participants have shown, by how they invest, that they appreciate the do-it-for-me investment approach in 401(k) plans. Require every 401(k) plan to offer a target date or risk-based series of funds as a Qualified Default Investment Alternative.
Impact score: 8. Employee education does not work. Prior to the crash in 2008-2009 we held employee education sessions where we gave participants the tools, shared how to use them and talked about how participants are long-term investors who shouldn’t be concerned about short-term market activity. Then we cringed as the majority of participants sold out of equities in 2009 when the equity markets bottomed, locking in losses.
Participants have accepted do-it-for-me investment solutions by not opting out of the QDIAs they are invested in when auto-enrolled. If their accounts remain invested in a QDIA until they retire, the benefits could be enormous.
3. Allow a higher Roth 401(k) contribution limit
No state or federal tax revenue is lost here because Roth 401(k) contributions are after-tax. This change gives participants — probably most of us — who didn’t contribute enough early in their careers a chance to catch up. The existing $6,000 annual catch-up contribution for those age 50 and older falls significantly short of what is necessary to help participants build retirement-ready account balances.
Based on 2017 limits, consider allowing up to $18,000 in 401(k) pre-tax contributions, plus a maximum of $18,000 in Roth 401(k) contributions, plus another $12,000 in catch-up contributions ($6,000 of each type).
4. Every party with a signed contract is a fiduciary
It’s time to stop playing games with who is and who isn’t a fiduciary and to what extent. Most employers are so confused about what is happening here that they have given up trying to understand the subject. Here is a common sense suggestion: If you have a signed contract with a qualified retirement plan sponsor to provide administrative, trust, custody, investment advisory, investment education, audit or any other services, you are a fiduciary for those services. Every recommendation you make must be in the plan participants’ best interest.
Common sense impact score: 10. Why isn’t this the law right now?
5. Increase HSA contribution limits
What do health savings accounts have to do with retirement planning? If contribution limits are raised, quite a bit. Contributions to HSAs are triple tax-free and can be used to pay all sorts of retirement-related expenses. Allowing American workers another avenue to accumulate retirement savings is important, given how far behind we all are.
Impact score: Could be a 10, depending on how high contribution limits are raised. This could be a game-changer for many American workers, giving them a chance to get close to what they need to save to retire. It would also provide employers another avenue to allocate retirement benefits to employees. Given where health care appears to be headed, this is a change that will likely happen sooner or later anyway. Why not now?
6. Outlaw participant loans
When 401(k) plans were initially established, offering a 401(k) loan option was thought to be a way of motivating employees to enroll in a plan. This feature is no longer needed to encourage participation. In fact, this is one provision that may harm participants more than help. Very few participants have the ability to pay back a loan when they leave their employer (especially if they are terminated). Most don’t realize that they will be required to pay their loan back immediately if they leave. As a result, the majority default on their loans, permanently removing those funds from their retirement savings.
From a financial perspective, participant loans are one of the worst decisions any 401(k) plan participant can make. Administratively, many human resources departments spend much more time with loan issues than they would prefer and pay recordkeepers more to offer loans as an option. Very few employers are excited about being in the loan business.
Eliminate participant loans as soon as possible. Participants who need access to their 401(k) account balance during emergencies can apply for hardship withdrawals.
Impact score: 5. Putting guardrails like this on 401(k) plans guides and protects participants and helps plug 401(k) account leakage.
7. Require electronic notice distribution
Let’s assume that all participants wish to receive all required notices and documents (including participant statements) in electronic form. This seems to be a no-brainer since most participants probably toss every hard copy notice they receive directly into the trash (I know I do). We need to pull this phase of plan administration into the 21st century. Virtually everyone has an email address or access to the internet.
Common sense impact score: 10. A huge win for recordkeepers and plan sponsors in terms of cost reduction. The cost savings will find its way to participants as well.
8. Get all company stock out of 401(k) plans
Company stock has proved to be a poor investment for many 401(k) plan participants. Senior management is always conflicted when asked to provide advice and guidance about investing in company stock, especially at times when that advice would be most helpful to participants. And participants often overweight their allocation to company stock at the wrong times (when the stock price is high).
Impact score: 5. Fewer and fewer plans will offer company stock investment options as a result of recent court rulings. However, there is no reason to hold back from barring it as an investment option now.
9. Require use of R6 or similar share classes
All qualified 401(k) plans should be required to use mutual fund share classes that do not pay any soft dollar revenue to plan providers. These R6 or similar share classes already exist for many mutual funds and are being developed by many others.
Impact score: 7. Participants pay higher fees for mutual funds when share classes have 12b-1 or sub-TA fees attached to them. Using R6 or similar shares lowers the expense ratios of the funds, allowing more of the fund’s earnings to be passed through to participants.
Lawmakers should consider these suggestions, all of which help working Americans become more retirement-ready. Even if none of these changes are implemented by Congress, employers can make many of them on their own right now.
Robert C. Lawton, AIF, CRPS is the founder and President of Lawton Retirement Plan Consultants, LLC.
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