AUTOMATING THE WAY TOWARD RETIREMENT READINESS

DC plan providers, employers share their strategies

“[A]utomatically re-enrolling employees in our [DC] plan …

has helped narrow the gap in participation among racial and ethnic groups.”

—Carole Mendoza

                                                                                                Vice President, Benefits

                                                                                 Voya Financial

By Thomas A. McCoy, CLU

Retirement planning has been transformed over the last several decades by the transition from defined benefit (DB) to defined contribution (DC) plans in the workplace. The DB and DC approaches are radically different, but both have the same objective: to create retirement security for workers.

While defined contribution plans—401(k)s, 403(b)s and 457(b)s—are known for putting responsibility for contributions and investment decisions in the hands of plan participants, plan sponsors have moved toward simplifying those decisions. They are providing more guidance, including greater focus on the amount of income that will be generated in retirement.

In other words, DC plans are striving to give workers the sense of security that is the essence of a defined benefit plan.

It wasn’t always this way. Mark Iwry, nonresident senior fellow in economic studies at the Urban-Brookings Tax Policy Center, explained to a recent Employee Benefit Research Institute (EBRI) forum audience how far defined contribution plans have come since the ‘80s and ‘90s. Iwry served in the Treasury Department in the George H.W. Bush administration and helped oversee national retirement policy and the private pension system.

“In those days, the 401(k) was more of a do-it-yourself retirement savings account,” Iwry said. “It suffered from what we called the seven deadly sins:

“Employees had to decide whether to participate and then sign up; decide how much to contribute; how to invest; how to rebalance; adjust the level of saving over time, if they remembered to do that; whether, when and how much to withdraw before retirement; and how to convert their lump sum into a stream of income that would last for a completely unpredictable number of years.

“We wondered if we could ‘save the soul’ of the 401(k) by replicating some of what was valuable in the defined benefit system within the DC framework,” Iwry said. “If we could automate auto-enrollment, why not auto investment, auto rebalancing, auto contribution increases, auto rollovers and auto retirement income?”

The industry’s ensuing progress in establishing these automating features has simplified decision making for today’s plan participants. More important, they are aimed at improving the chances that workers will have sufficient income through their years of retirement.

Research conducted by EBRI shows how some of these automating features in defined contribution plans are boosting workers’ retirement readiness—that is, reducing the likelihood that their retirement expenses will outstrip their income.

Among 35- to 39-year-olds, for example, auto-enrolling all employees at a 4% default contribution rate, results in a 6.9% reduction in the average aggregate retirement savings shortfall; auto-enrolling this same age group with a 6% default contribution results in a 10.4% reduction in the shortfall.

By combining auto enrollment, auto escalation of contribution rates, and auto portability of accounts, the overall retirement savings shortfall is reduced by almost 40% in the 35-39 age group; the retirement savings surplus (income exceeding retirement expenses) increases by 26.4%.

The EBRI meeting included a panel of representatives from two plan sponsors and two plan providers, who described their approach to the use of automating features in their plans.

Jason Jagatic, head of global and workplace thought leadership for Fidelity Investments, said, “We work with some of the largest to the smallest employers in the country. More than 40% of these employers are offering auto-enrollment, and among those firms, participation in the defined contribution plans is more than 90%. Those without auto-enrollment have participation rates around 50%.

“The needs of both individual employees and employers can vary widely, and they often change over time,” he continued. “So, we try to provide flexibility of choice. But simplicity is important, too. Employees have a lot on their minds, so we try to automate choices for them and then let them make changes when they have time.”

Sarah Faye Pierce is head of government relations for Paychex, which provides an array of services for 740,000 small businesses. “More than 80% of these employers have 20 or fewer employees, and only a third of them are offering retirement savings options,” she explained.

“We’ve been offering auto-enrollment in our DC plans for more than 10 years. Overall, our participation rate is around 40%, but that rate doubles when an employer selects auto-enrollment.”

On the plan sponsor side, Carole Mendoza, vice president of benefits at Voya Financial, said, “We’ve had auto provisions in our 401(k) plans for many years—auto enrollment and auto escalation. Our overall participation rate is 95%.

“Two years ago, we began a program of automatically re-enrolling employees in our plan, conducting it at the time of year when employees were getting bonuses. The auto-re-enrollment has helped narrow the gap in participation among racial and ethnic groups,” she explained.

“In mid-2022, participation among Asian employees was at 91%; for white employees it was 89%; for black employees it was 80%; and Hispanic and Latinos, 79%. By April of this year, our participation rates for black employees had risen to 88%; Hispanic and Latino populations went up to 90%. Asian and white percentages also rose—to 99% and 96% respectively.

“The auto re-enrollment program has also increased the number of employees contributing the full 6% employer match,” she said.

Mendoza was asked by an audience member about any negative reaction to re-enrollment by employees who don’t wish to be re-enrolled and have to cancel it each year.

“By using auto re-enrollment, we capture the inertia,” Mendoza said. “Sometimes people cancel enrollment for a short-term reason and then forget to re-enroll. We are willing to take a little ‘noise’ from people who don’t want to re-enroll because, paternalistically, we think it’s the right thing to do.”

Ben Roberge, director of financial and retirement programs at Unum, said his company uses auto-enrollment and auto escalation in its 401(k) program. Two years ago, it decided to extend auto-enrollment to an emergency savings program. Non-highly compensated employees can contribute to the emergency savings program on a post-tax basis, with no contributions from the company.

“About 36% of those who are auto-enrolled stay with the program,” Roberge explained. “Employees are taking money from the program as needed, and the average balance is about $1,500. Since implementing the emergency savings program, contributions to the pre-tax 401(k) plan have not gone down.”

Auto enrollment and auto escalation are moving the needle forward in helping employees boost their DC plan balances. But questions remain about how plan sponsors can more effectively steer employees toward converting those balances to more secure sources of income in retirement.

“We believe we’ve done a good job in the accumulation stage, but haven’t done so well in the decumulation stage,” Mendoza said. “We’re looking at what we can do as a plan sponsor around guaranteed income.”

Roberge said, “We’ve had a non-guaranteed income solution for a couple of years, and we just launched a guaranteed income solution in May. We are introducing a second guaranteed income solution at the beginning of 2025. For now, we have no automatic opting into the income product.”

Both plan sponsors and workers continue to worry about whether funds saved for retirement will be sufficient to cover expenses. The MetLife 2024 Qualifying Longevity Annuity Contract Poll, an independent survey of 250 plan sponsors with DC plans (two-thirds also have DB pension plans), found that 83% of them believe that a quarter of their future retirees will run out of money in retirement.

EBRI’s 2024 Retirement Confidence Survey found that half of Americans have tried to calculate how much money they will need in retirement and, as a result, 52% of U.S. workers have started to save more.

A third of workers who did the retirement income projections estimated that they would need about $1.5 million in savings. One quarter estimated they would need to replace 75% of their current income.