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Designing A Great 401k Plan In A Time of Transition
Sponsors of 401(k) plans face an assortment of challenges today, notably low participant contribution rates, high personal debt burdens, low financial literacy, and the demands of the employer’s own bottom line.
This is a time of transition for the U.S. retirement system. Social Security and Medicare face fiscal and demographic pressures while employers continue to switch to a defined contribution system that places more responsibility on the employee to save for retirement. In this environment, sponsors of 401(k) plans face an assortment of challenges, notably low participant contribution rates, high personal debt burdens, low financial literacy, and the demands of the employer's own bottom line. A new survey of more than 500 401(k) plan sponsors by Institutional Investor, in partnership with Prudential, takes a closer look at the issues that most concern plan sponsors and what they are doing to address them.
Surmounting these hurdles starts with offering a well designed plan at the right price, including high-quality investment options with competitive fees, a company match, and financial education programs that help participants become smarter savers, and then reviewing it regularly. Most plan sponsors believe they are offering a well designed plan; our survey found that approximately 55 percent judged theirs to be excellent or near excellent in all of these areas. However, building a 401(k) plan is not just about boosting savings. It must also be designed to place participants on an investment glide path that enables them to accumulate enough assets to retire comfortably as well as manage the right risks at the right time. Almost 60 percent of our survey respondents said their employees are not starting to save early enough (I wish I could convince our relatively young workforce of the importance of saving and planning for the future, the CEO of a media/technology company told us), and almost half (46 percent) said their employees are saving either too conservatively or too aggressively for their stage in life.
While information, advice, and a sound set of investment options are critical to addressing these issues successfully, plan sponsors also have a range of plan design tools to draw from, including automatic enrollment, auto-escalation, and target date funds (TDFs). These features are rapidly becoming standard 401(k) components. Today, 61 percent of companies that Institutional Investor surveyed with 100 or more employees offer auto enrollment; within the next three years that figure is expected to jump to 92 percent. Almost as many (88 percent) expect to offer auto escalation, which raises the share of the employee's paycheck that goes into her 401(k) over time. Over half (53 percent) of 401(k) sponsors currently offer TDFs, and another 33 percent expect to offer them within the next year, according to our survey, helping to address concerns that participants maintain a risk-appropriate investment mix at each stage of their careers.
All too often, however, plan sponsors are not making the best use of these tools. The rapid acceptance of auto-escalation suggests that fewer participants in the future will be keeping their contributions at low levels as their compensation rises. TDFs have become the most commonly offered default option for automatic enrollment in recent years, helping to simply the decision-making for participants while limiting the temptation to time the market. But only a little more than half of participants choose the default option. Often, too, participants that are invested in a TDF allocate only a portion of their plan assets to the TDF, perhaps out of a mistaken notion of how to diversify. Fortunately, plan sponsors appear to be taking an active approach to enhancing their plans and offerings.
Some employers, nevertheless, face greater challenges than others in creating a well designed plan. Energy and health care companies, and those with less than $100 million in assets, are far less confident than other groups of employees ability to save, their financial knowledge, and the quality of investments the plan offers. Almost three-quarters (74 percent) of health care companies say their employees are not saving enoughfar more than any other industry. This underscores the reality that plan participants are a diverse population; factors such as workforce profile and patterns of employment can have a strong impact on their ability to create a viable retirement saving strategy. Plan sponsors may want to tailor the components of the plan to their specific workforce, making sure to supply tools that develop financial literacy and simplify decision-making when, for example, their employees are predominantly less sophisticated.
Participant diversity also underscores the important role of advisors and consultants, who provide not only plan services but perspective about structuring plans across a wide range of industries and employers. In fact, our additional survey of nearly 300 advisors and consultants found them to be more concerned than plan sponsors about the state of 401(k)s and the urgency of adopting best practices like auto enrollment, auto-escalation, and TDFs. Their input may prove critical as more companies deploy behavioral tools and plan design features that help employees to achieve a successful retirement.
Collectively, the results of our survey reveal a plan sponsor community deeply engaged in understanding participants' needs and using the available tools to respond effectively. Stay tuned as we assemble a library of resources including detailed survey findings, a series of articles exploring how some plan sponsors and consultants are working to make their 401(k)s serve participants better, as well as a selection of news research, and practical guides on 401(k) management and strategy from some of the leading sources in the field, including Institutional Investor and Prudential. Navigating the U.S. retirement system during this transitional time is easier when current trends and lessons learned by other practitioners are at your fingertips. We assembled the resources on this microsite to help make the transition easier for youand to help you build a great plan at the right price.
ABOUT THE SURVEY
This study was developed by Institutional Investor, in partnership with Prudential, to identify the investment risks and behavioral challenges that need to be addressed throughout the retirement planning process and how plan sponsors, advisors and consultants are trying to overcome them.
To support this research, a survey was distributed to Institutional Investor's audience of plan sponsors as well as advisors and consultants between January and February 2016. We received 511 completed survey responses from the plan sponsor audience and 295 completed survey responses from advisors and consultants.
Auto Enrollment: An automatic contribution arrangement that can be used as a feature in a retirement plan to allow employers to enroll employees in the companys plan automatically upon meeting eligibility requirements
Auto Escalation: A plan design option that allows a plan sponsor to increase participant deferrals annually by a set increment.
Investing involves risk. Some investments are riskier than others. The investment return and principal value will fluctuate, and shares, when sold, may be worth more or less than the original cost, and it is possible to lose money. Past performance does not guarantee future results. Asset allocation and diversification do not assure a profit or protect against loss in declining markets.
The target date is the approximate date when investors plan to retire and may begin withdrawing their money. The asset allocation of the target date funds will become more conservative as the target date approaches by lessening the equity exposure and increasing the exposure in fixed income type investments. The principal value of an investment in a target date fund is not guaranteed at any time, including the target date. There is no guarantee that the fund will provide adequate retirement income. A target date fund should not be selected based solely on age or retirement date. Participants should carefully consider the investment objectives, risks, charges, and expenses of any fund before investing. Funds are not guaranteed investments, and the stated asset allocation may be subject to change. It is possible to lose money by investing in securities, including losses near and following retirement.© 2016 Prudential, the Prudential logo, the Rock symbol and Bring Your Challenges are service marks of Prudential Financial, Inc., and its related entities, registered in many jurisdictions worldwide. 291387-00001-00