U.S. defined-contribution plans have come a long way in recent years as companies have worked to increase participation, contain plan costs, and improve the investment lineups in their 401(k)s.
Still, research continues to show that many U.S. workers may not be saving enough. A report late last year from the Center for Retirement Research at Boston College indicated that 52 percent of U.S. households were at risk of not having enough income in retirement to maintain their standard of living.
As companies soldier on with the effort of improving their 401(k)s, a recent survey suggests they are placing a new emphasis on efforts to improve their employees’ ability to manage their finances.
An Aon survey of almost 250 large companies shows an emphasis on financial wellness, with 93% saying they are very likely or moderately likely to increase their efforts in this area in 2015.
Companies have traditionally worked to ensure that employees understood the importance of saving for retirement and how best to do so. But Rob Austin, director of retirement research at Aon Hewitt, said plan sponsors looking at relatively flat participation or savings rates in 401(k) plans have concluded that “it’s not so much a retirement issue, it’s an overall money issue.”
Topics dealt with under the heading of “financial wellness” might include how to budget or when to save in a health savings account versus the 401(k) plan, Austin said.
A Consumer Financial Protection Bureau report last August argued that financial problems are a key source of stress for American workers. According to the report, financial wellness programs can benefit companies as well as their employees because alleviating employee stress stemming from personal finances can increase productivity, reduce absenteeism, and even improve employees’ physical well-being.
Brooks Herman, head of data and research at BrightScope, a company that ranks 401(k) plans, cited plan costs as one area where companies have made progress. BrightScope’s measure of the average total plan cost stood at 0.91% of assets in 2012, down from 1% of assets in 2009.
The decline reflects a greater focus on costs on the part of both participants and plan sponsors, he said. As participants realize how fees can affect their retirement savings, they may alter their investment choices accordingly, Herman said. Meanwhile, plan sponsors are paying more attention to the choices that they make related to fees, like the type of share class they use in the plan, driven by factors including the litigation around 401(k) fees and Labor Department regulations.
Herman also cited the growing popularity of index funds. “You can just look at cash flows into Vanguard,” he said. “Obviously that has the power of lowering fees.”
The Aon report points to a number of ways in which companies continue to work on costs. Sixty-four percent said they are very likely to review their 401(k) fund’s operations, including expenses and revenue sharing, this year. Twenty-two percent plan to add a tier of low-cost index options this year, and 18% said they did so last year. And 30% plan to switch plan investments from mutual funds to institutional funds or separately managed accounts in 2015, and 16% said they did so last year.
Plan sponsors see reducing fees as the equivalent of improving the returns on plan investments or convincing employees to contribute more to the plan, Austin said. “At the end of the day, we’re talking about larger nest eggs for these individuals.”
Marina Edwards, a senior retirement consultant at Towers Watson, pointed out that as 401(k) plans accumulate assets, plan sponsors have more purchasing power. “So investment fees are continuing to decline, but it’s more because they’ve got greater assets to leverage more institutional fee structures,” she said.
In contrast, Edwards said, 401(k) recordkeeping fees are “almost beginning to plateau.” But if companies haven’t reviewed their recordkeeping fees in recent years, they could still identify ways to reduce them, she said.
In recent years, “automation” has been a popular approach to encouraging 401(k) participation and higher rates of saving. Companies automatically enroll new employees, leaving it up to them to opt out if they want to.
Plans with auto enrollment have an average participation rate of about 85%, versus average participation of 62% at plans that don’t auto enroll employees, said Austin, pictured at left.
Once employees are in the plan, some companies use auto escalation, which boosts the percentage of their pay that employees contribute by a certain amount each year until they hit a maximum level, and auto rebalancing, which brings employees’ allocations to different assets back in line.
“There’s definitely been an improvement in 401(k) outcomes for participants with the greater adoption of the auto plan features,” said Edwards, adding that the best outcomes occur when companies use all three types of automation.
A 2014 Towers Watson survey of more than 450 midsize and large companies found 68% now automatically enroll employees. More than half (54%) offer auto escalation, but just 28% mandate it.
Statistics suggest that auto enrolling employees without deploying auto escalation can result in below-average savings rates. Austin said the average savings rate at companies that don’t auto enroll workers is 7.9%, versus an average of 6.6% at companies that use auto enrollment.
Companies can try to fix that by starting workers at a higher contribution rate, Edwards said. While companies traditionally auto enrolled workers at a low savings rate—say, 3%—for fear that a higher rate would cause them to opt out of the plan altogether, companies that enroll workers at 6% or 8% have found that employees opt out at almost the same rate as when they’re enrolled at 3%, she said.
Another way to try to build participation is to restructure the company’s matching contributions, Edwards said, “to get employees to stretch, to stretch up higher to where the matching contributions are.”
Herman said the BrightScope company plan reworked its match this year and now offers to match 25% of the first 10% of their salary that employees contribute.
“It encourages people to defer as much as possible to get the whole match,” he said.
While there’s a lot of talk these days about giving 401(k) participants ways to turn their savings into an income stream once they retire, relatively few plans offer annuities inside the plan.
Instead, companies are offering participants the opportunity to purchase an annuity when they retire, or they’re coming up with a way for retirees to take periodic payments from their 401(k) account, Austin said.
Companies have been slow to add annuities inside 401(k)s because they worry about the fiduciary liability that involves.
If a large-cap equity fund doesn’t perform well, the company can just replace it in the 401(k) lineup with another large-cap equity fund, Austin said. “If you choose annuity product A and it doesn’t seem to be working very well, you can’t say, ‘Let’s move all that money to annuity provider B,’” he added. “The fact that all the money that moves into that annuity product is there for perpetuity makes it unappetizing for a lot of plan sponsors to jump into this.”
Edwards said that it would probably take some form of safe harbor protection for plan sponsors to make them comfortable with providing annuities inside 401(k) plans.