Auto-enrollment may be just what Americans need to save more
for retirement — but perhaps only if the government makes it a requirement.
Only half of Americans participate in a workplace retirement
plan, a staggering statistic considering how much of the responsibility for
funding an adequate retirement now falls on individuals.
The problem: Without the financial education, encouragement
or access, retirement savings isn’t always a top priority. Americans have so
many other financial obligations to juggle as it is — such as rising costs of
college and housing, or shorter-term goals like buying a home or starting a
business, and trying to provide for their families. Instead of planning for
their future financial stability, many are trying to stay afloat in the
present.
That’s where automatic enrollment comes in: it’s one way to
get Americans to stash money into a retirement account without thinking about
it. With auto-enrollment, companies can sign up their new employees into their
retirement savings programs, beginning with deferring a small percentage of
their salaries, so that at the end of their careers their workers will have
some sort of a nest egg waiting. Congress members have included this key
provision in the Secure Act 2.0, the latest legislative proposal aimed at
fixing retirement security for all Americans.
“It would require employers to auto-enroll workers into the
plan so that workers wouldn’t be deterred by inertia,” said Richard Johnson,
director of the program on retirement policy at the Urban Institute. The
proposal also addresses auto-escalation, which automatically increases
employees’ contributions to their accounts every year. As it stands, the
proposal states participants must begin with a deferral of at least 3% and no
more than 10%, with an annual increase of one percentage point for every year
(up until the maximum 10%). “Requiring all plans to increase the share of
contributions into retirement plans would make it much easier to accumulate
enough money to live securely.”
This provision also affects 403(b) plans.
Auto-enrollment itself is not a new concept. Richard Thaler,
the 2018 economics Nobel Prize winner, has advocated for the expansion of
auto-enrollment and auto-escalation in workplace savings accounts in the more
than 10 years he’s worked in behavioral economics. It has already proven
effective — by automatically placing employees in retirement plans, and in some
cases increasing their contribution rates minimally but continually, Americans
saw billions of dollars more in their retirement savings. The reason for this
success is simple: workers don’t have to think about saving — it’s being done
for them.
What is new, however, would be the federal government
mandating auto-enrollment. Currently, employers have the option to voluntarily
implement this strategy. The trend is on the rise — more than four in 10
employers automatically enrolled new employees into a retirement plan in 2019,
and 19% of companies automatically escalated their contributions, according to
the Society for Human Resource Management. The increase for these provisions
was modest in 2020, but many companies were also treading with unknown circumstances because of the
pandemic. Experts expect to see more employers use auto-enrollment in 2021.
Participants could still opt out of enrolling or increasing
their contributions, but studies have shown individuals are more likely to stay
in a plan that benefits them rather than voluntarily enroll themselves in such
a plan. When automatically enrolled, nine in 10 new hires remained in their
employer’s plan after three years, a Vanguard report found.
The Secure Act 2.0 is the latest proposed retirement
security legislation, aimed at providing Americans with the ability to have a
comfortable, financially stable future. It is built upon the Secure Act, passed
in December 2019, which embraced annuities in 401(k) plans, encouraged small
businesses to offer retirement plans to their employees with tax benefits,
increased the ages for required minimum distributions and promoted transparency
of account balances by translating those figures into projected monthly
incomes.
If passed, the bill would not only require auto-enrollment
in employer-sponsored retirement accounts but increase the age for required
minimum distributions, which is when an individual is forced to take
withdrawals from their 401(k) plans and individual retirement accounts. The
proposal would also create an additional catch-up contribution limit for people
60 and older and allow employers to make matching contributions to employees’
retirement plans while the employees pay down their student debt.
“The biggest benefit — people have to save,” said Charles
Nelson, chief executive officer of retirement and employee benefits at Voya
Financial. “If you don’t save, you’re not going to have money in addition to
what the government provides through Social Security and other benefit
programs.” There is “tremendous upside” to an auto-enrollment provision, he
added.
Where auto-enrollment falls short
When it comes to retirement security, many workers need
help. Future financial stability for Americans is uncertain: The trust funds
that support Social Security are expected to run out of money within 14 years,
which would reduce benefits, not everyone can afford or has access to
retirement accounts and some groups of elderly Americans are at a high risk of
falling into poverty.
But while auto-enrollment and auto-escalation would benefit
many workers, the Secure Act 2.0’s approach to these tools has its
shortcomings.
The legislation would make auto-enrollment only a
requirement for newly established plans, meaning companies that currently offer
these retirement accounts would not be required to enroll the employees not
participating. Only about 4,000 new 401(k) plans are created every year,
according to the Center for Retirement Research at Boston College’s
calculations on the Department of Labor’s Form 5500 data.This figure has its
own caveats, however — it doesn’t take into consideration if an employer closed
one plan to open another or count situations where businesses merged and
renamed a plan. The 5500 is also only for plans with at least 100 participants.
It also has exceptions for small businesses with less than
10 employees and companies in their first three years of business.
The contribution may also be too small. Under the proposal,
plans could start with a deferral rate as low as 3%. While this amount is
better than nothing, it should be a starting point. Depending on when an
individual begins saving and how much they may expect to need in retirement,
those rates might not be high enough to meet their ultimate financial goals and
live comfortably in retirement.
Thaler, who has been credited with helping Americans save
billions of dollars for retirement, has also noted the importance of a slightly
higher default rate for contributions. Employers should be starting at 6%, for
example, and if many employees opt out saying it’s too steep a contribution,
then lower the beginning rate. In an interview with State Street Global
Advisors in 2016, Thaler said there was no evidence that employees would be
more likely to opt-out because of a higher starting point.
Perhaps the biggest flaw in this plan is the fact that this
requirement misses an entire population. One of the gravest dangers to
Americans’ retirement security is the lack of access to employer-sponsored
retirement plans, which an auto-enrollment policy would not solve.
“The Secure Act 2.0 does have a provision that would require
all new defined contribution plans to adopt auto-enrollment, which would be
good, but it still leaves all of those where there are no defined contribution
plans with any way to automatically save for retirement,” said Alicia Munnell,
director of the Center for Retirement Research at Boston College.
Only 43% of all U.S. workers were participating in a
workplace retirement savings plan in 2019, according to the Pension Rights
Center. Congress still needs to address the more than half of workers who are
without access, Munnell said.
What more can be done
A handful of states have taken it upon themselves to give
workers retirement accounts, and the federal government should take note,
Munnell said. Oregon, California and Illinois have implemented state-sponsored
retirement programs, which allow employers to offer an individual retirement
account employees can use similarly to a 401(k) with its deferred,
tax-advantageous contributions. Passing legislation for more auto-IRA programs
like that “would be the single most valuable thing Congress could do,” Munnell
said.
These are all promising provisions, but they’re not enough,
experts said. There are many other holes in retirement security to patch, and
plenty of proposals floating in and around Capitol Hill to address them. For
example, Social Security’s trust funds are expected to be depleted by 2035, and
the coronavirus crisis may even accelerate that timeline. Millions of Americans
rely on Social Security for some, if not most, of their retirement income, but
if nothing is done to fix the insolvency issue, they’ll only receive about 80%
of the benefits they’re owed.
“That is the most urgent retirement security priority,” said
Kathleen Romig, senior policy analyst at the Center on Budget and Policy
Priorities. “It is something policymakers don’t have in the agenda because of
so many other emergency concerns but they’ll need to think about it soon.”
Legislators have historically shied away from discussing
Social Security — another form of a “forced” retirement plan for Americans,
despite the fact it was not created to be the sole source of income for
retirees. Proposals for the program can be controversial because Democrats
typically support endeavors such as raising taxes to fund and expand the
program, while Republicans in the past have suggested cutting benefits. Even
with Democrats now in control of the executive and legislative branches,
enacting any laws for Social Security will be difficult, as politicians rarely
agree on what to do and Social Security legislation requires a supermajority
vote.
“It will take serious efforts to get something going,” Romig
said.
These concerns add to the pile of issues facing this rapidly
aging country, including underfunded pension plans, the effects of caregiving
on current and future retirement savings, the high costs of health care that
could drain the finances of elderly Americans and the need for more
conversations about long-term care.
“Half of American households today are not going to have
enough to maintain their standard of living in retirement, and that is the
bottom line,” Munnell said. “This is an inadequate system we have.”
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