Fee disclosure regulations and an emphasis on proper investment monitoring are key issues for the Department of Labor. Because of this, retirement plan committees tend to place a significant focus on investment performance and benchmarking plan fees and expenses. While monitoring retirement plan funds is an essential part of being a good steward over plan assets, there are several other impactful ways retirement plan committees can spend their time to help their employees meet their retirement goals.
Significant research has been done on the impact of fees and expenses on a participant’s account balance over an extended period of time. However, when it comes to retirement readiness, the most essential factor is, quite simply, the amount participants elect to save during their working years. While plan sponsors and committees do not have control over how much participants elect to contribute to their plan, there are three plan design features that you can implement to help your participants increase their contributions.
1. Automatic enrollment
An auto-enrollment feature can be a great tactic to get employees with a tendency to procrastinate enrolled and deferring into a plan. While many plans start initially with an automatic enrollment deferral rate of 3 percent, studies suggest that a higher default rate doesn’t necessarily result in participants opting out entirely. A study published in Plan Sponsor Magazine shows that employees need to save about 15 percent of their pay during their working years in order to accumulate enough money to ensure they do not out-live their retirement balance. Taking this research into consideration, it is clear that a 3 percent default deferral rate is not high enough. Similar studies from Vanguard Research have shown that having automatic deferral rates in the 6 percent to 8 percent range have not caused any significant increase in the number of employees who have opted-out of the arrangement.
Along with the auto-enrollment feature, plan sponsors can also add an auto-escalation feature, which increases the deferral rate of those employees who are auto-enrolled by a set percentage (typically 1 percent) every year to a cap (typically 10 percent).
2. Use the “stretch match” formula
Many plan participants have been coached to take advantage of their employer’s full match and are already likely to defer a sufficient amount into their plan. While this is a great place to start, plan sponsors may wish to encourage their employees to increase their deferrals by incentivizing the matching contribution formula.
An emerging trend in plan design is to use a “stretch match,” which is a matching formula that produces the same net cost to the employer, but encourages employees to increase their deferrals in order to get the full employer match. For example, an employer may have a matching formula of 100 percent of deferrals up to 4 percent of pay. To help participants invest even more for retirement, the employer could change the matching formula to 50 percent of deferrals up to 8 percent of pay. While the same net 4 percent match is provided to the plan participants, employees who increase their deferral to 8 percent of pay are now saving a total of 12 percent of pay, which is close to the targeted savings rate.
3. Valuable tools
There are useful tools available through most custodian or recordkeeper platforms that can help participants understand the power of starting early and the effects of “plan leakage” through overuse of loans and in-service distributions. Many of these tools and educational materials are easily accessible; however, plan sponsors may not be promoting their use or conducting demonstrations as part of the participant education meetings. Some proactivity in this area can yield great results.
For example, one plan sponsor we work with uses one-on-one benefit enrollment meetings to review the “rule of 72” with employees — particularly younger employees newly entering the workforce. They observed that both the participation rate within the plan and the average deferral rate increased dramatically. We work with another plan sponsor who collaborates with its service providers to create an annual education plan, timed around key compensation-related events at the company, such as annual salary increases and year-end bonuses. This served as a reminder for participants wishing to take advantage of opportunities to increase their deferrals.
As you begin thinking about ways to help your employees make better use of their retirement plans, consider adding some of the following items to your next plan committee agenda.
- Add automatic enrollment and automatic escalation features to your plan
- Implement innovative matching formulas to reward participants for saving more
- Invite vendors to provide training sessions on the tools available through their platforms to help participants save more and track their progress
- Consider timing when offering education — for example, offering education right before an annual increase or bonus might encourage employees to save all or a portion of the amount by instilling a pay-yourself-first mentality
- Design education materials to be more about how to increase the amount put into the 401(k) rather than simply a presentation of general market performance information
How we can help
While plan fees, costs, and investment returns are important factors to consider when operating a successful retirement plan, a well-designed plan plays a significant role in determining how much a plan participant saves overall. A retirement plan’s design features should be reviewed annually to ensure that the plan is providing participants with the best opportunities to save and retain money in the plan.
CLA’s employee benefit team can help you design and administer a retirement plan that makes sense for your employees. We can also help you present on these topics at your next plan committee meeting.