Fifty seven percent of employers automatically enroll workers in 401(k) plans, but slightly less than half of those that reduced or suspended matching contributions when the financial crisis hit in September 2008 have restored them, according to a survey released Wednesday by Towers Watson.
The survey, conducted in April and May with 334 companies with 1,000 or more employees, also found that target-date funds are the biggest default investment option for 401(k) plans. Seventy two percent of employers use target-date or “lifecycle” funds as the default option and another 13% use balanced or lifestyle funds.
The survey revealed that 78% of those using target-date funds as their default option have selected funds not affiliated with their recordkeeper.
Meanwhile, of those companies that auto-enroll workers, 39% auto-enroll new employees and 18% auto-enroll all employees. An additional 3% plan to start auto-enrolling by 2011, and another 18% are thinking about it.
Mike Alfred, the chief executive officer of BrightScope, which rates 401(k) plans, agreed that there has been a trend towards auto-enrollment since 2006, but he is worried about plan sponsors auto-enrolling in target-date funds.
“If you’re not going to have a pension plan, but you still want your employees to have a retirement at some point you have to make sure that employees are participating in 401(k)s. It’s a mathematical thing,” he said. “But target date funds are a huge concern of the Department of Labor and the Securities and Exchange Commission right now both because of how they’re marketed and the process used by employers to evaluate and choose the plans.”
Alfred said that most plan sponsors don’t really have a process to pick 401(k) plans for the employees and even if they do they don’t have a real choice at the record keeper level. Generally, the providers tie the hands of employers by forcing them to pick their funds.
“The problem then is if you are auto-enrolling into plan funds and you’re a plan sponsor you have a fiduciary responsibility, but you don’t really have a choice,” he said. “If something goes wrong for participants they’re in trouble, but you as a sponsor can have trouble as well if you have a fiduciary breach or violation.”
The Department of Labor is in the process of putting together a checklist to help plan sponsors evaluate and choose target date funds, Alfred said. But the plan sponsors may follow that checklist and find the funds from their providers don’t fit the criteria. “So either the plan sponsors leave the providers or providers become more flexible in offering other target date funds in their plans,” he said.
“Evaluating target-date funds is critical for employers, particularly as the number of plan sponsors that use these funds as their default option for workers who are automatically enrolled in 401(k) plans continues to grow,” said Sue Walton, a senior investment consultant at Towers Watson, in a press release. “Choosing and developing the most appropriate target-date fund strategy will be crucial for employers to help their employees save for a secure and comfortable retirement.”
To be sure, target-date funds are not the only option for employers. The use of lifetime income options such as annuities have been the focus of much attention recently. The survey found that 18% of employers either currently offer annuities to participants or plan to do so this year or next. But 30% of respondents are considering offering this option. Yet of the employers that offer annuities as an option, 79% report that only 5% or less of their plan participants choose this option.
Although annuities can provide a sustained retirement income that can help retirees’ throughout their lifetimes, they are much less widely used in 401(k) plans than pensions and defined-contribution plans, said Robyn Credico, senior retirement consultant at Towers Watson.
The good news is that of those employees that were auto-enrolled last year, few declined to participate after they were automatically enrolled, according to the survey. Eighty five percent of companies report that less than 10% of employees opted out of the 401(k) plan.
A BlackRock survey announced Tuesday at a presentation in New York found that employees depended heavily on their companies matching contributions to steer their own savings goals. In fact, 45% of respondents to the BlackRock survey said that the employer’s matching contribution was “very influential” on their saving habits. Here’s the problem: When asked what they thought a good rule of thumb for a savings rate is, 40% said 10% and 25% said 12%. But the average contribution rate for employees is about 6-7%--or roughly what the normal employer match tends to be.
The financial crisis of the last few years had a detrimental effect on matching contributions to 401(k)s. Eighteen percent of the respondents to the survey have either reduced or suspended their matching contributions to their 401(k) plans, with 49% yet to restore the match. Nonetheless, almost all respondents that suspended the match have reported they are considering reinstating all or a portion within the next year.
“While we fully expect many more companies will reinstate their matching contributions if the economic recovery persists, they may restore it in different ways,” said Alec Dike, a senior retirement consultant at Towers Watson. “While some companies will reinstate their previous matching formula, others may tie all or part of the match to profits. In this way, companies can be transparent about the need to connect the match with performance, as well as offer the potential for increased contributions when times are good to balance reduced matches when times are not.”
Alfred is not as optimistic: “We’re not out of the woods in terms of the Great Recession so in the next couple of years we may see the trend of restoring matches actually reverse itself.”