It’s no secret that many Americans are not saving enough for retirement, even if their company offers a good 401(k) plan. But according to a recent Census Bureau study, more of us may be less prepared than previously thought. The bad news comes in two parts: Fewer companies than estimated are offering retirement plans. And fewer employees than thought are participating in them. As a result, the number crunchers at the Census Bureau figure that just 32% of workers are saving money in a workplace retirement account like a 401(k).
One reason for lower than expected participation is that far fewer small businesses than thought offer a 401(k). When small businesses are included with larger employers, just 14% of all businesses offer a defined contribution plan.
Granted, the new study is based on an examination of tax records from 2012. Recent data show increasing participation in employer-sponsored plans, so even if the Census Bureau’s numbers are on the mark, there has likely been some improvement in overall participation. Still, the Bureau of Labor Statistics estimated that just 49% of private industry workers were contributing to a savings plan in 2016. And for those contributing, the average account balance of participants aged 65 and up was just $41,800.
But enough about everyone else. When it comes to your company’s 401(k), a successful plan can help you retain and attract great employees. And high participation and contribution rates can even save you money. (Read our tips on boosting 401(k) participation). That’s because too little employee savings can cause your plan to fail IRS discrimination tests. This can result in unexpected expenses and headaches, such as mandatory employer contributions, not to mention compliance headaches. Fortunately, you can get a large percentage of employees to participate in your 401(k), and to contribute meaningful amounts toward their retirement.
One of the best ways to set your employees on the path toward a successful retirement is to automatically include them in the plan. The automatic enrollment feature is becoming increasingly popular and for good reason. According to a 2016 Merrill Lynch report, requiring employees to opt out of a 401(k) plan dramatically increases the participation rate of young employees – those least likely to sock away money for retirement. In fact, an auto-enrollment feature increases participation of employees aged 21-27 from 38% to a whopping 78%. Auto-enrollment boosts the participation rate of employees 28-34 years of age by 46%.
Yet automatic enrollment is still a rarity at smaller companies. Fund manager Vanguard's 2022 study found that only 17% of their small clients offered the automatic enrollment feature, compared to a hefty 56% of larger businesses. That means you are likely to have a leg up on other small employers merely by including auto-enrollment in your 401(k).
Getting employees enrolled is just the beginning. Consistent, meaningful contributions are critical to long-term success. And what better way to encourage responsible savings than to set up the plan such that meaningful amounts are automatically deferred? A default contribution of, say, 6% is a great first step toward a successful retirement for your employees.
In fact, a deferral rate of 6% or greater often is needed to counter our reluctance to save enough today for a successful retirement down the road. The retirement researchers at Aon Hewitt found that the average savings rate in plans with auto-enrollment is actually lower than in plans where employees must opt into the 401(k). That’s because auto-enrollment plans often start with a very low rate, like 3%. Many employees simply never get around to changing the default savings rate.
Like it or not, the automatic deferral savings rate you choose will be the anchor point – a cognitive bias that is hard to overcome. People tend to rely on the first data point when making a decision, and if your plan has the initial contribution level set too low, they are likely to use that low amount as their reference point.
That’s one of the reasons why we at ForUsAll not only recommend a default savings rate of 6%, but also explain, via our virtual advisor, “DAVE,” that 6% is only starting point for salary deferral. To make the most of their 401(k) plan, employees should work toward maxing out their contributions well before retirement.
Speaking of increasing savings, why not allow employees to set a schedule for boosting deferrals at the outset? This helps employees avoid the question, “Do you want to increase your contribution rate this year?” Well, this year may be the year for a new car, or the year to paint the house. It’s human nature to think “tomorrow” is a better time to save than today.
Fortunately it’s possible for your plan to include “auto-escalation.” This feature automatically increases the amount an employee annually diverts to his retirement plan. For example, your company’s auto-enrollment feature may divert 6% of a new, young employee’s salary toward retirement. If she selected auto-escalation at 1%, she would save 7% of her salary the next year, and 8% the next. And if her salary is increasing, she may not even notice a difference in take-home pay. Of course, your employee could bump the salary deferral higher at any time.
Automatic enrollment, a meaningful default savings rate, and auto-escalation are three simple ways to fight inertia, and ratchet up participation and contribution rates.
There are good reasons for matching employee contributions. They are tax-deductible, for example. And since the business owner is participating in the plan, those contributions are matched as well. And naturally, an attractive 401(k) plan bolsters morale and enhances your ability to attract qualified employees. By getting creative with your employee match you can encourage employees to direct more money toward retirement savings. For example, instead of matching all of salary deferrals up to 3%, you could match 50% of deferrals up to 6%. This approach provides employees with a hefty incentive to invest more cash for retirement.
Depending on how it is constructed, a 401(k) plan can require several decisions and considerable time wading through brochures and paperwork. That’s why your shiny retirement plan brochure may be gathering dust next to your employee’s Great Courses DVD on the Roman Empire. It’s just one of those things they will get around to eventually. Apparently wading through retirement materials is so disconcerting that a TIAA CREF survey found that Americans spend more time choosing a flat screen TV than setting up a retirement account. In fact, when we surveyed employees of a large plan sponsor who had NOT joined their company’s 401(k), over 50% said that inertia and paperwork were the main excuses!
So to get heavy participation and meaningful contributions, it helps to keep things simple and accessible. We developed a virtual advisor we call “DAVE” who can be reached 24/7 via computer, email or text. DAVE can onboard your employees while explaining their enrollment options, and even explain the basics of investing in a 401(k). DAVE can get your employees enrolled quickly, easily, and on their schedule. We believe that keeping things simple can boost savings rates by avoiding overwhelming people.
Finally, present your plan as a new beginning rather than as a first step in delayed gratification. This attitude helps your employees avoid the marshmallow test.
The marshmallow test was a series of experiments in the late 1960s where a child was offered a choice between eating a single marshmallow immediately or eating two marshmallows after waiting several minutes. The test purported to show that kids who could delay gratification tended to have better life outcomes as measured by a number of variables tracked over time.
We all know that delaying gratification is not always easy, especially when it comes to saving money. That’s why ForUsAll delivers a lovely cake when a company adds or upgrades a 401(k) plan. The cake is a celebration of a new benefit that starts today! And it tastes much better than one or even two marshmallows.
Let’s review how you can increase 401(k) employee contribution rates!
Give your employees more than just a 401(k), join the movement.