Author: Patty Kujawa

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The 401(k) Consolidation Conundrum

Nicole Cowley has held six jobs since graduating c­ollege in 2002. She also had six 401(k) accounts that went with the jobs.

Luckily, Cowley has an uncle in the financial business who helped roll most of her old accounts into an Individual Retirement Account. When Cowley took her latest job, in July, she decided to roll the 401(k) assets from the previous employer into the current one.

The rollover process had a few issues, she says. While filling out paperwork wasn’t too bad, forms got lost, and the check didn’t get deposited quickly. If it weren’t for her current job experience as a retirement plan education and communication specialist for Molewski Financial Partners, Cowley says she might have given up.

“I think this process is probably pretty difficult for most people because you have to know what you are doing” and how long things take, Cowley says. “There are a lot of places in the process that people might just forget the whole thing.”

Consolidating retirement accounts is typically a worker’s responsibility, but employers should make the job easier, experts say. Rolling money from former 401(k) plans could be good for workers and their companies, says Jeff Acheson, partner at Schneider Downs Wealth Management Advisors.

“If a plan is done right, pooling assets from former accounts should help plan sponsors realize better pricing structures,” Acheson says.

One of the largest drivers of total plan cost is the number of participants in a plan, according to the 401k Averages Book. Costs may be reduced if the funds in the plan increases, Acheson says.

For example, the 401k Averages Book—a tool many industry professionals use in benchmarking fees—shows a decrease in the total cost of plans when the number of participants remains the same, but assets increase. For example, a plan with 500 participants with $5 million in assets pays an average 1.56 percent total bundled cost (for administrative and investment management). A plan with the same number of participants having $25 million in assets pays an average 1.12 percent in fees, the 401k Averages Book reports.

“The larger a plan becomes, the better fee-negotiating ability it has,” Acheson says.

About five years ago, The Buckeye Ranch worked with Schneider Downs to encourage employees to consolidate their 401(k) accounts with their former employers. The Grove City, Ohio-based facility servicing troubled youths has the consulting group run financial education classes and offers individual sessions for employees interested in consolidating their old 401(k) accounts.

The first year that rollovers were available, about 10 percent of its workforce moved old accounts into Buckeye’s 401(k) plan, says Sherri Orr, Buckeye’s plan administrator and chief financial officer. As the program has grown, 110 additional employees and nearly $460,000 from rollovers are now in the plan. As a result of investments and rollovers, assets increased to $7.2 million in 2011, from $4.6 million in 2007.

“There are a lot of companies out there that don’t encourage employees to combine their old accounts,” Orr says. “The fee reductions we can get as an employer can be passed onto employees,” who typically pay for some or all of the management fees in 401(k) plans.

Sometimes rolling old assets into a current employer’s 401(k) plan isn’t a good strategy, says David Huntley, publisher of the 401k Averages Book. Workers who leave a larger company and move to a smaller one might not see a fee reduction. And although workers who might need a loan would be better off in a 401(k) where that option is available, many—especially younger workers—might be better off putting their old accounts into an Individual Retirement Account using indexed, lower fee-investments, Huntley says.

“If cost is the only issue, it’s difficult to find a 401(k) plan that has an all-in cost less than the 10 basis points you find in indexed funds,” Huntley says. “Everyone’s personal situation is so different.”

Patty Kujawa is a writer based in Milwaukee. Comment below or email editors@workforce.com.

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Women Saving Can Save Women Headed for Retirement

Linda Tampa is a physician with a well-established practice in Milwaukee. She readily admits that medicine is her forte, not money.

She says she lacks financial savvy, and while it doesn’t affect her professionally, Tampa worries she is not properly preparing for life after work.

Tampa, 40, says she puts 4 percent of pay into her 401(k) which allows her to take advantage of the 100 percent match on that amount from her company, Columbia St. Mary’s hospitals. She doesn’t contribute more pretax dollars because she says there is no value in contributing if her company isn’t going to give her more of an incentive—or a higher match—to do it.

The married mother of two children says she hasn’t calculated how much she will need for retirement, but knows that her savings rate isn’t going to be enough.

“When you hear people tell you how much you should be saving, I feel like I am below that number,” Tampa says. “As a physician, I don’t know too much about finances. We have had [financial] seminars, but I’m not motivated to go because it’s inconvenient.”

Statistics from a May study by the ING Retirement Research Institute shows that Tampa is one of many women who are significantly unprepared for retirement. Consultants recommend that workers save 10 to 12 percent of pay annually, but a new study shows that 42 percent of women contribute the lowest amount—1 to 5 percent—of pay to their retirement accounts. By comparison, 34 percent of men contribute in that same range.

Although it’s clear women need to do more, employers can play an important role in helping them become better savers, says Delia deLisser, director of women’s marketing for ING in Windsor, Connecticut. “There isn’t enough education going on in the workforce, and we do see women looking for [financial] education from trusted sources,” deLisser says. “Employers can play a real role in this.”

The ING study, What About Women (and Retirement), looked at the attitudes and activities of 4,050 adults. It showed men had an average of $149,000 in retirement savings, compared with $108,000 for women. More than half, or 56 percent of women, said they didn’t feel financially prepared for retirement. Less than a third of women surveyed have calculated how much money they will need when they retire.

More than three-quarters, or 78 percent, of female survey respondents said they have some sort of barrier to saving, compared with 69 percent of men. That number is the same for divorced or widowed women, and increased by 1 percentage point for single women. Thirty-five percent of all women, 40 percent of divorced and 36 percent of single women said they don’t make enough money.

Plus, women said they have more immediate concerns, such as unexpected financial emergencies (23 percent of women versus 16 percent of men). More than half, or 54 percent, of women, were focused on reducing short-term debt.

The fear of making a mistake with their finances is what stops a lot of women from making decisions with their retirement accounts, says Marina Edwards, a senior consultant with Towers Watson & Co. in Chicago. ING’s survey showed 15 percent of women don’t know what options are available to help them save for retirement.

“We all get the notion that women need to save more–that’s not the challenge,” Edwards says. “It’s more the ‘how do I invest’ information that [plan sponsors] can help with.”

Edwards says data from 401(k) record keepers can help plan sponsors understand who needs help. Record keepers can show data such as account balances, loans, contribution amounts or percentages and group this behavior in many ways, including age, salary levels and gender.

“An employer can segment their 401(k) population and come up with different strategies and education campaigns for different pockets of workers,” Edwards says. “We know that the data is there, and we can use it to find out where the weak spots are.”

Jeanne Thompson, vice president of marketing insights for the nation’s largest record keeper, Boston-based Fidelity Investments, says more plan sponsors are using data to manage their workforce better.

“By doing this, we have shown that there are certain programs that help certain populations,” Thompson says. “For example, automatic enrollment really helps younger workers.”

Some plan sponsors are helping women become better savers, expert say, but the process is slow. Many successful programs start with basic money issues, then move into retirement needs, says Cindy Hounsell, president of the Women’s Institute for a Secure Retirement in Washington.

“So many people don’t even know what a target date fund is,” Hounsell says. “If you don’t know the basics, how are you going to do anything about retirement?”

Patty Kujawa is a writer based in Milwaukee. Comment below or email editors@workforce.com.

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Ending a Defined Benefit Plan Takes Shutdown Strategy, Experts Say

There isn’t an application yet for terminating a defined benefit plan, but there is plenty of guidance.

“There are enough plan sponsors with frozen [defined benefit] plans who want out,” says Mike Clark, a consulting actuary in Principal Financial Group’s Pittsburgh office. “There is a desire for simplicity and guidance to get to the endpoint.”

Principal is one of several firms with road maps for plan sponsors looking to terminate their defined benefit plans. Principal broke its “how to” into two phases: “Best Practices for Building a Termination Strategy” and “Winding Down Your Hard-Frozen Defined Benefit Plan.”

Before a plan can be terminated, it needs to have all the funds necessary to pay benefits to employees. Once that happens, plan sponsors can start the process of shutting down the plan.

A large part of the second phase is helping participants know about the choices they will need to make, says Cathy Toner, senior manager in the strategic retirement consulting group at Vanguard Group Inc., which also offers plan shutdown guidance. When the plan terminates, it is important participants understand the difference between the freeze and the shutdown.

“They’ve already heard the tough news about the plan freezing,” Toner says. Participants “should understand they are no longer accruing benefits.”

For several years, more plan sponsors have been joining the trend of opening defined contribution plans and freezing defined benefit plans. According to data from consulting firm Towers Watson & Co., since 1998, 42 of today’s Fortune 100 companies have frozen or closed their defined benefit plans.

Freezing a plan doesn’t mean everything stops. A “soft freeze” is typically not open to new employees, but existing participants still accumulate benefits. A “hard freeze” or “close” is when new hires can’t join and benefit increases for existing participants stop.

Terminating the defined benefit plan is the next step. The final phase of a 2006 federal law that determines the calculation used to exit participants from the plan comes into effect this year. The new interest rate used to calculate participants’ payouts when terminating a plan will make it more affordable for plan sponsors, experts say.

Participants typically get two choices in a termination: receive a lump-sum or an annuity payment. It can be a tough for some participants to figure out which option works best, Toner says.

Last year, the Valley Forge, Pennsylvania-based investment company launched Vanguard Pension Reinvestment Services, a program designed to help participants of terminated defined benefit plans make better decisions about their retirement money.

“It may be the biggest chunk of money they’ll ever get, so it’s important for [participants] to make the best decision for their situation,” Toner says. “Most people need a little help.”

Patty Kujawa is a freelance writer based in Milwaukee. Comment below or email editors@workforce.com.

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Employers Eye Revamping Retirement Plans

Like many companies, Wise Alloys froze its defined benefit plan for union employees when the Great Recession hit.

Salaried employees didn’t have one, and the company’s benefits committee felt like it wasn’t doing enough to prepare workers for retirement with only a defined contribution plan.

“We wanted a product that looked like a defined benefit plan,” says Sandra Scarborough, plan administrator for the Muscle Shoals, Alabama-based aluminum can producer. “Our people are looking for a guaranteed monthly income” once they retire.

Last year, Wise decided to offer an investment option within its defined contribution plan called IncomeFlex, a guaranteed income product managed by Newark, New Jersey-based Prudential Financial Inc. IncomeFlex is a target-date fund that freezes the target-date fund schedule 10 years before retirement, activating a guaranteed income for participants.

When a participant is ready to retire, IncomeFlex guarantees a specific level of income over that person’s lifetime to hedge against stock market declines. If a participant leaves the company offering IncomeFlex, the participant can leave IncomeFlex assets if the plan sponsor allows it, or the participant can take the market value or roll the value into a Prudential Individual Retirement Account.

Scarborough says she doesn’t have an exact usage number but says participants have responded well to the new investment option.

“As a company, we felt we needed to do more, and this is a very popular option” for participants, Scarborough says.

With the continued descent of the number of defined benefit plans, employers are becoming more concerned about workers having enough money to sustain their retirement. Defined contribution plans, when first introduced, were supposed to be a supplement and not the main driver for retirement savings.

Now that these plans are in the front seat, employers are looking at guaranteed defined benefitlike investment options, mostly referred to as “retirement income solutions,” to help employees have more secured savings to tap throughout retirement.

“I don’t think we’re going back to defined benefit plans,” says Martha Tejera, an actuary and project leader for Tejera & Associates in Bainbridge Island, Washington. “We need to make defined contribution plans more efficient in providing participants reliable retirement income.”

It seems employers with defined contribution plans agree. In a February study by consulting firm Aon Hewitt, only 4 percent of the 500 employers surveyed said they were very confident their workers would retire with enough assets—a 26 percentage-point drop from the previous year.

Helping employees retire with enough money is a top priority for nearly half, or 44 percent, of employers responding to the survey, called 2012 Hot Topics in Retirement. Many employers are expanding savings choices, including offering in-plan retirement income options, similar to what Wise Alloys offered its participants.

Today, almost all participants take a lump-sum distribution at retirement. Many go out into the market and purchase annuities, which are insurance contracts that guarantee lifetime income. In-plan income options are a defined benefitlike feature allowing participants to put money in an annuity investment before retirement.

Currently, 16 percent of respondents offer an in-plan retirement income solution, and 22 percent of respondents said they plan to adopt this kind of investment vehicle in 2012, Aon Hewitt’s survey revealed.

“There seems to be a growing sense of urgency in offering these solutions,” says Pam Hess, director of research for the Lincolnshire, Illinois-based consulting firm.

Data from Prudential also shows an uptick in retirement income solutions being offered by plan sponsors. In 2011, 267 of Prudential’s clients had a retirement income solution in their 401(k) plan investment lineup. That is a 58 percent increase from 2009, when Prudential started offering IncomeFlex.

“Three years ago, most people didn’t know what we were talking about,” says Sri Reddy, Prudential’s senior vice president for institutional income. “Plan sponsors are now more aware of this need.”

Meanwhile, providers are finding different ways to offer retirement income solutions. In October, Hartford Financial Services Group introduced the Hartford Lifetime Income, which allows 401(k) plan participants to purchase retirement income shares; each share’s price is determined by participant age and interest rate value at the time of purchase and will provide a minimum of $10 of guaranteed monthly income per share for life. So 50 shares would mean $500 per month.

“People are wanting some kind of guaranteed income stream, but they want to keep it simple,” says Patricia Harris, Hartford’s actuary who designed the product. “It’s certainty and simplicity of design.”

For years, plan sponsors toyed with the idea of offering an in-plan solution but were hesitant because of fiduciary concerns, a long-term commitment with an investment company and other issues, Hess says.

But just as employees are realizing they need to be better savers for retirement, employers are becoming more aware that they need to provide some type of stability so workers can move out of the workforce at the right time, says Tejera.

“We are finally getting to the place where plan sponsors are saying we need defined contribution plans to do more to help us manage our workforce,” says Tejera, who recently wrote a brief for the Institutional Retirement Income Council on guaranteed income investments. “Employees don’t want to work past their productive lives, but if they can’t afford to retire, they are going to stay in their jobs.”

Patty Kujawa is a freelance writer based in Milwaukee. To comment, email editors@workforce.com.

Want to know more about the hot topics facing plan sponsors today?

• Click here to open Aon Hewitt’s 2012 Hot Topics in Retirement.

• The Institutional Retirement Income Council is a great source for finding out more on retirement income solutions products, issue briefs and more. Click here to visit its website.

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Plan Sponsors Plot Their ‘De-Risking’ of Defined Benefits

It appears that 2012 is going to be a rough year for defined benefit plan sponsors. High plan liabilities coupled with anemic returns in the market will make it tough to achieve funding requirements without large infusions of cash, experts agree.

With such a precarious future, plan sponsors are looking to create a much different strategy, one that aims to protect assets instead of pursuing high stock returns.

Financial executives “used to manage [pension] assets without looking at the movement on liabilities and the impact that had on funded status,” says Richard McEvoy, leader of Mercer consulting’s Dynamic De-risking Solution group in New York. Plan sponsors “are now clued in, more than ever before, on interest rates and plan costs.”

Here’s the math that is challenging plan sponsors: Liabilities are bounding over assets. An analysis from New York-based consulting firm Milliman showed market value assets for the 100 largest corporate defined benefit plans increased $12.3 billion to $1.22 trillion in 2011 from $1.21 trillion in 2010. Yet pension liabilities soared $248.7 billion to almost $1.7 trillion in 2011 from $1.4 trillion in 2010.

“There has been an asset-liability mismatch,” says Cynthia Mallett, vice president of product and market strategies in corporate benefit funding for MetLife Inc. “This is a wake-up call to the reality that there is a different way to manage your money.”

Besides dealing with market volatility, sponsors with plans that are less than 80 percent funded face strict multiyear funding requirements with the goal of becoming fully funded. Many companies have had to pour massive amounts of cash into their plans to meet the funding hurdles.

Plan sponsors are well-aware of the situation. According to a December 2011 study by Mercer and CFO Research Services, 59 percent of 192 senior-level financial executives surveyed say their defined benefit pension plan poses at least a moderate risk to their companies’ short-term financial performance.

Some take a look at the funding levels and are predicting the death of defined benefit plans.

“The traditional defined benefit plan as we know it is on life support,” says Sheldon Gamzon, principal at PricewaterhouseCoopers in New York. “The typical CFO is going to look at their situation and say enough is enough.”

But for those staying on target, Mercer’s McEvoy suggests plan sponsors create a formal de-risking strategy, designing a road map for the plan to gradually move to more conservative investments, protecting existing assets, as funded status improves.

“We are seeing a growing number of plan sponsors who are interested in dynamic de-risking strategies,” McEvoy says.

According to the Mercer/CFO survey, 21 percent of companies say they are matching the duration of fixed-income investments to plan liabilities. And, 50 percent surveyed say they are likely to adopt this strategy within the next two years. In protecting capital, 14 percent say they have a plan to increase fixed income, while 57 percent say they are likely to do the same.

But even with a strong de-risking strategy, other plans need to be in place, experts agree.

Some companies have reacted to their funding situation by freezing or closing plans. As of December 2011, 29 percent of the top 100 corporate defined benefit plans closed the program to new hires; the move still allowed existing participants to accrue benefits, data from Oaks, Pennsylvania-based investment management firm SEI shows. Meanwhile, 24 percent of plans were frozen, meaning no new entrants and no new benefit accruals for existing participants.

Freezing or closing a plan stems the growth of obligations (in terms of new hires), but the strategy doesn’t shrink what is currently there, experts agree. Plus, there are still many plan sponsors that don’t want to give up because they see the value of offering a defined benefit plan to attract and retain quality workers.

“Defined benefit plans are a great workforce management tool for maintaining the flow” of workers in and out of a company, MetLife’s Mallett says. “DB plan sponsors have a pretty good feel as to who is retiring. DC plan sponsors have no idea.”

That’s why plan sponsors need a two-pronged approach: high cash contributions complemented by a new de-risking strategy, experts say.

While the 2011 cash contribution figure is still being tallied, the top 100 companies contributed $59.4 billion in 2010, says John Ehrhardt, principal and consulting actuary at Milliman Inc. Plans contributed just under half that, or $29.8 billion in 2008.

Ehrhardt expects the 2011 contribution to be at about $80 billion, and thinks these companies will contribute more than $100 billion in 2012.

“It’s pretty clear, interest rates are at or near historic lows, so we’re going to see a record level of contributions in 2012,” Ehrhardt says. “Any company that isn’t aware of cash funding requirements has had their head in the sand.”

There are other ways to de-risk plans, like lump-sum cash-outs for terminated vested participants or annuity purchases, McEvoy says. These options can take away risk, but need to be analyzed to see whether they work for individual company situations.

“These are very effective means of risk reduction,” McEvoy says. “It’s a new realm of plan management that’s focused on funded status.”

Patty Kujawa is a freelance writer based in Milwaukee. To comment, email editors@workforce.com.

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A ‘Father’s’ Wisdom: An Interview With Ted Benna

In the early 1980s, Ted Benna saw an opportunity that ultimately made 401(k) plans flourish and earned him the title “Father” of 401(k). Section 401(k) of the Internal Revenue Service Tax Code allowed defined contribution plan participants to contribute after-tax dollars. Benna, then a Pennsylvania benefits consultant, said there wasn’t a strong incentive for employees to contribute, so in 1981 he asked the IRS to change certain rules. Later that year the IRS issued a regulation based on Benna’s request, allowing pretax employee salary reduction contributions and employer matching contributions—the fundamental elements of today’s 401(k). Benna—who is now president of the 401(k) Association and chief operating officer at Malvern Benefits Corp., a Jersey Shore, Pennsylvania-based retirement planning company—recently spoke with Workforce Management contributor Patty Kujawa about the evolution of defined contribution plans.

Workforce Management: Back when you created the defined-contribution plan, did you think it would become the dominant savings account for workers?

Benna: I knew it was going to be big, but I was certainly not anticipating that it would be the primary way people would be accumulating money for retirement 30 plus years later. There is a perception out there that we had a wonderful [defined benefit] retirement system that became horrible. I started work in the insurance industry in 1960, and the only retirement they had was a defined-benefit plan. If you were male, you had to be age 30 before you became a participant and if you were female you had to be age 35, which was an interesting twist. And you had to stay there until you reached 60 before you got any benefit.

Of course in that era it was pre-ERISA [the Employee Retirement Income Security Act of 1974], and many companies went out of business with pension plans; people lost all or a substantial part of their pension.

That was the environment in the defined benefit world, and the alternative for smaller companies was profit-sharing plans. Some of them were fantastic, but employers put in less than 5 percent of pay and had fairly stringent vesting.

WM: Recently 401(k) plans have gotten some bad press—especially with the market volatility of the past three years. Do you think 401(k) plans will be as good a benefit as defined benefit plans, in terms of getting workers retirement ready?

Benna: I started in a defined benefit side of the business, so I’m not anti-defined benefit. They both have positive and negative aspects. The reality is that a defined benefit plan is great only if you spend 20 to 30 of your working years with one company. And that gets missed a lot in this dialogue.

Pension plans would do a better job in getting you ready for retirement if you stay that long at one company. If you’re not going to stay, the answer to that is no, defined benefit isn’t better.

The 401(k) has actually put more people in a better position to retire rather than in a worse, because generally, more people are able to participate in a 401(k) plan. Companies that wouldn’t have had any kind of retirement plan now have a 401(k). Of the hundreds of thousands of 401(k) plans, over 90 percent cover less than 100 employees.

WM: Are participants better off with automatic features like auto enrollment, auto escalation and target-date funds?

Benna: If I had the power to do so, effective Jan. 1, 2012, I would require that every company with a 401(k) plan to automatically enroll their employees, at 3 percent of pay and automatically increase that by 1 percent every year to preferably [a] 10 percent [ceiling]. Workers who want to opt out could do so.

The reason I’m concerned about this, is that if we don’t get more people participating in these plans and contributing as much as they should, we increase the potential for the government to step forward and solve the problem by creating a new system that requires everybody to contribute to a new type of retirement account.

Also, if I were starting from scratch today, I’d get rid of existing investment structures, and automatically put everybody into target-date funds, while continuing to give folks who want to run things on their own, opportunities [brokerage windows] to do so.

The reason I like them is that they provide an allocation that professionals agree is in line with what people should be doing. They get a more diverse asset allocation than in general what most people would do on their own. They automatically rebalance, and they reduce risk as you age.

WM: How do you feel about financial education efforts today?

Benna: Well, I think there should be different education. In the beginning, 401(k)s had only two investment funds: a guaranteed and an equity fund. It took a minute to explain investments.

Now there are 15, 20, 25 funds and it can be overwhelming for most participants. They don’t know what they’re doing or why they are doing it. Education has all been driven to the investment side. If you remove that for most participants, all you need to be doing is explaining the logic of what they’re in and if they feel that it is too high a level of risk, they can drop out.

There should be more education for budgeting and financial management, helping people understand that by making better decisions on expenditures—and in particular discretionary spending and debt management—so they can have a shot at significantly improving their financial status. That’s where I would like to see the education go.

WM: The defined contribution plan is 30 years old. Today, the first big wave of retirees, baby boomers, are taking what they’ve accumulated and are moving into retirement. Is helping retirees make their savings last through retirement the next big stage?

Benna: The significance of that stage—it’s the one where I believe professional help is needed the most. Individuals are not equipped generally to deal with this on their own. It’s a totally new experience for them, they don’t know what the issues are that they have to deal with. There’s a huge opportunity there for financial organizations and advisers who have the skill set and tools to deal with that.

Editor’s note: This Q&A is part of a series of interviews Workforce Management is running in conjunction with our 90th anniversary.

Patty Kujawa is a freelance writer based in Milwaukee. To comment, email editors@workforce.com.

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Employers, Experts Wary of Feds’ 401(k) Tax Proposals

ProAssurance Corp., a Birmingham, Alabama-based liability insurance provider, automatically starts workers in its 401(k) plan by contributing the equivalent of 5 percent of their salary into their 401(k) accounts, even if workers don’t contribute a dime.

Then, it provides an incentive for workers to contribute more: It will match, dollar for dollar, an additional 5 percent if the employees contribute 5 percent of their salary. To date, the idea seems to be working because the company has a 90 percent participation rate, and the employees—whose average age is 46—average $150,000 in their accounts.

Clay Shaw, vice president of human resources for ProAssurance, says tax benefits are the major reasons workers contribute 5 percent of their salary.

“It’s the before-tax deduction that makes a big difference,” Shaw says. “You can save more money iin the 401(k) plan] than it feels like is coming out of your paycheck.”

But two proposals that would fundamentally alter the tax structure of defined contribution plans are getting lots of attention in Washington. Plan sponsors like ProAssurance and other industry experts say changing tax benefits would hurt the retirement system more than it would help.

“The rules have always allowed employers’ and employees’ contributions to be sheltered from taxation,” says Jack VanDerhei, research director for the Employee Benefit Research Institute in Washington, D.C. “These proposals flip this for everybody.”

The proposals are being considered as ways to reduce the federal deficit. The first proposal would end existing tax deductions for 401(k) contributions and earnings.

Currently, employer and employee contributions and investment earnings on traditional 401(k) accounts aren’t taxed until the employee withdraws money. The deductions would be replaced with a flat-rate credit that would be deposited into workers’ 401(k) accounts.

Employer and employee contributions would be taxed, and that would help the federal government’s bottom line. The Washington, D.C.-based Brookings Institution estimates this proposal would save $450 billion over the next 10 years.

The second proposal—known as the “20/20 cap”—would limit employer and employee annual contributions to 401(k) accounts to $20,000 or 20 percent of a worker’s salary—whichever is reached first. Under the same circumstances, current law caps employer and employee contributions at $49,000 or 100 percent of a worker’s salary.

Proponents of the first idea say the flat-rate credit distributes the tax advantage evenly to all workers. The Urban Institute and Brookings Institution Tax Policy Center in the distrcit notes that two-thirds of the current tax incentives in retirement plans go to workers in the top income quintile. The proposal would help low- and middle-income workers, who are the least likely to participate in 401(k) plans, save more for retirement.

“We think it addresses the tax inequities of the system and is worth a lot of consideration,” says Karen Friedman, executive vice president and policy director for the Pension Rights Center in Washington, D.C. “Even though millions of dollars are used to encourage retirement savings, you still have pretty dismal statistics.”

Friedman says that while the Pension Rights Center is in favor of the proposals, it would like to see those benefits returned to the retirement system, and not reducing the federal deficit. She also adds that the center would be in favor of the 20/20 cap considering how few low- and middle-income earners maximize their annual contribution rate.

But many employers don’t like either tax restructuring idea, a November survey from Principal Financial Group showed. Of the 1,305 plan sponsors from small and medium-sized companies surveyed, 75 percent said current tax deferral incentives are the most important retirement plan feature. Plus, 65 percent who currently offer a plan and 36 percent who don’t said they wouldn’t be as interested in offering a plan that had no tax incentives.

Two-thirds of the respondents predicted employee contribution levels would drop with a 20/20 cap.

“This is a clear message from employers saying preserve tax benefits and consider expanding them,” says Greg Burrows, senior vice president of retirement and investor services in Principal’s Des Moines, Iowa headquarters. 

Limiting contributions to $20,000 or 20 percent of salary would hurt many older workers who might not have started to save early and need to make larger contributions toward the end of their working years, says Chris Braccio, vice president of human resources for American Systems in Chantilly, Virginia.

“This is a short-term strategy to build revenue today,” Braccio says. “I’m not sure how we’d encourage people to at least maintain the position they have today.”

Meanwhile, both ideas would likely result in lower account balances for 401(k) participants, according to a November Employee Benefit Research Institute study of the proposals.

By eliminating the current tax deductions, the average reduction for 401(k) plan participants at normal Social Security retirement age would range from a low of 11.2 percent in the highest income groups to a high of 24.2 percent in the lowest income groups for workers ages 26 to 35.

The 20/20 cap would affect high-wage earners the most, but low-wage earners had the second highest percentage reductions in retirement contributions, the EBRI found. If the cap started next year, the average percentage reduction in account balances would range from 15.1 percent for highly paid workers ages 36 to 45 to 8.6 percent for highly paid workers ages 56 to 65.

“Some people simply can’t afford to make a contribution with after-tax dollars,” VanDerhei says. “The only thing that’s working for many people is the defined contribution system.”

Patty Kujawa is a freelance writer based in Milwaukee. To comment, email editors@workforce.com.

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Are Millennials Too Conservative When Investing?

Ryan Spiering says he doesn’t like to save money, but is starting out his working career with decent saving habits.

The digital art director for the Milwaukee office of HGA Architects and Engineers just started contributing the maximum allowed to his 401(k) plan thanks to his wife’s suggestion. They also own a duplex and rent out the other unit for income. And, he recently made his first stock purchase in Marvel Entertainment.

Spiering, 28, was automatically enrolled into his 401(k) plan when he started his job three years ago, and has his contribution deducted from each paycheck. He says he was given three investment strategies: conservative, balanced and aggressive, and chose the middle one. So far he has about $6,000 saved for retirement.

Choosing the balanced approach “sounded like the best of both worlds,” Spiering says.

“The way the stock market is, I’m not ready to do a whole lot with it. I don’t want to risk it too much.”

At a time when millennial workers like Spiering have 30-plus years to save and invest before retiring, many are investing too conservatively—like their baby boomer parents—a new survey by MFS Investment Management shows.

It’s cause for concern, says William Finnegan, senior managing director of U.S. retail marketing for MFS in Boston, because an overly conservative approach won’t allow these workers to accumulate enough assets to achieve certain goals, like retiring on time. MFS estimates this group includes about 77 million people ages 18 to 30, with nearly $1 trillion in spending power.

“The risk of being too aggressive is equal to being too conservative,” Finnegan says. “This could have a long-term negative impact 30 to 35 years out.”

About 40 percent of investors in the MFS survey agreed with the statement, “I will never feel comfortable investing in the stock market.”

Plus, 30 percent of millennial investors’ primary investment objective is to safeguard their money. The survey of nearly 1,000 people with $100,000 or more to invest showed they allocate more money to cash than any other age group—about 30 percent.

It’s mostly because millennials reached the investing age during two major recessions and continue to see significant ups and downs in the market today, says Dan Keady, director of financial planning in the Charlotte, North Carolina, office of TIAA-CREF.

“There are things that can be done to help these people invest more prudently based on the number of years they have to work,” Keady says.

He says using target-date funds and conducting one-on-one sessions with advisers who use engaging social tools such as iPads are ways millennial investors can achieve a more suitable approach to investing.

“Most people are not comfortable with 100 percent stocks,” Keady says. “But to take a modest approach and staying with it over a long period of time can work out well.”

And there are more red flags for this generation when it comes to retirement, experts agree.

The MFS survey reveals that 54 percent of millennial investors are more concerned than ever about being able to reach their retirement goal, and 44 percent said they have lowered their expectations about the quality of life in retirement.

Left on their own, only 54.6 percent of millennial workers participate in their company 401(k) plan, compared with 75 percent of Generation X workers and 78 percent of baby boomers, data from consulting firm Aon Hewitt show.

On average, millennial workers contribute 5.3 percent of their pretax salary to their 401(k) plan, compared with Gen X’s 6.8 percent and the 8 to 9 percent contributions from baby boomers, according to Aon Hewitt, which reviewed 120 large defined contribution plans with 3 million eligible employees. Most experts agree workers should save between 12 to 15 percent of their pretax salary for retirement.

“Gen Y’s future is so dependent on their defined contribution plan, and I don’t think that has sunk in broadly,” says Pam Hess, director of retirement research for Lincolnshire, Illinois-based Aon Hewitt. “Their [defined contribution] plan could be the only thing they will be able to rely on in retirement. They will be on their own with a lot of costs.”

Many millennial investors like automated features, Hess says, and Aon Hewitt’s data show companies automatically enroll more millennial workers than any other group. The trick, she says, is to start them at a high contribution rate.

“They do very well … being put on a path,” Hess says. “If you automatically put them in a target date fund, they will stay there.”

Spiering agrees.

“My instincts are not to save. If given the choice, I would spend it,” he says. “I have things set up so I don’t have to think about it.”

Another way to get millennial workers to become better investors is for advisers to learn and understand what they are worried about, Finnegan says.

“Sometimes we are programmed to give pre-formatted answers,” Finnegan says. “We need to understand the emotion behind the decision.”

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Explaining the Various Retirement Plans

Here is an explainer of benefits plans available to employees, according to the Employee Benefits Security Administration and 401khelpcenter.com:


Defined contribution plans: These are account-based plans and are typically 401(k) plans; all participating employee have an account where they contribute pretax salary dollars and choose from an investment menu provided by the employer. Employers can choose to match employee contributions up to 6 percent. Also, the Internal Revenue Service places a ceiling on how much employees can contribute each year. In 2011, the limit, which doesn’t include the employer contribution, is $16,500. People 50 and over can make $5,500 in catch-up contributions for a maximum of $22,000 this year. Nearly all final payouts are in lump sums.


Traditional defined benefit plans: These are employer-sponsored plans, where the employer defines the benefit paid out for life to the employee. The final benefit is determined by a formula, usually based on years of service and final year or years of pay. The plan is funded and invested solely by the employer. The final payout is in the form of an annuity.


Cash balance plan: These are defined benefit plans, but like defined contribution plans, are account-based. In each account, employees get two different types of credits established by the employer: a pay credit and an interest credit. The pay credit is percent-based on an employee’s salary and is contributed to the account. The interest credit set by the employer is applied to the amount in the account. The plan’s assets are invested by the employer, but the employee accounts are not subject to the volatility of the investments because of the preset interest credit. The final payout can come as a lump sum or annuity.


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Retirement Plans Morphing as Defined Benefits Fade for New Workers

Media company Journal Communications Inc. announced in October 2010 that it would freeze its defined benefit retirement plan for new employees while restoring and enhancing the match to its 401(k) plan.


In the wake of the freeze, Milwaukee-based Journal Communications, which owns newspaper, television and radio stations, including the Milwaukee Journal Sentinel and Journal Broadcast Group, in January began matching half of every employee-contributed dollar up to 7 percent of pay. The media chain had suspended the 401(k) plan match in 2009, which at the time had been half of every dollar contributed, up to 5 percent of pay.


“Our decision to focus on the 401(k) as the primary retirement vehicle provides us with greater certainty regarding the cost of our ongoing retirement benefits,” says Andre Fernandez, Journal Communications’ executive vice president, finance and strategy and chief financial officer. “Additionally, the increase in the employer match is structured to reward greater levels of employee savings.”


Journal Communications is following a trend much larger corporations have been setting for more than a decade: closing defined benefit plans to newly hired workers.


As of May 31, less than a third of Fortune 100 companies offered a defined benefit plan to new employees, data from the July research publication Towers Watson Insider showed. In 2010, 37 percent of Fortune 100 companies offered defined benefit plans to new employees, while 43 percent had them in 2009, and 47 percent offered them in 2008.


It’s a stark contrast to the corporate benevolence of less than a decade ago when 83 percent of the Fortune 100 companies provided defined benefit plans to new hires in 2002. Several issues are contributing to the decline, says Alan Glickstein, a senior consultant with Towers Watson & Co. in Dallas.


Like Journal Communications, many companies say they want more control over their retirement costs. A more mobile workforce that hops from job to job also is demanding account-based designs; combining this with stricter funding rules makes this retirement vehicle less attractive for many employers to provide, he says.


Today, 70 percent of the Fortune 100 offer account-based defined contribution plans—such as 401(k)s—to new employees, Towers Watson data show.


“Right now these [defined benefit] plan sponsors have been through a lot” in a bad economy, Glickstein says. “Long term though, defined benefit plans exist for a reason. They are a very effective way of providing retirement benefits and managing the workforce.”


Defined benefit plans are facing huge challenges in the current economy to keep a healthy funded status, says John Ehrhardt, principal and consulting actuary in the New York office of Milliman Inc. According to Milliman’s latest Pension Funding Index, 100 of the nation’s largest defined benefit plans took a $6 billion investment loss and a $62 billion increase in pension liabilities in July—the largest decline so far in 2011.


Yet most companies today appear to be in good financial shape, Ehrhardt says. Today, the latest available cash piles for nonfinancial companies in Standard & Poor’s 500 stock index are at $1.06 trillion, compared with $748 billion for companies in the same index in the second quarter of 2008, New York City-based research firm Capital IQ data show.


When the financial crisis hit, many companies didn’t have the cash needed to make up for investment losses.


Ehrhardt didn’t think there would be a rush to freeze or close plans to new hires as was the case in 2009 as the recession took hold.


“Companies today, in general, are in a lot better shape than the stock market is,” Ehrhardt says. “I don’t think we’re going to see the rash of plan freezes as we have in the past because these companies kept their plans for a reason.”


But with fewer defined benefit plans among Fortune 100 companies, defined benefit pension advocates such as Karen Friedman, executive vice president and policy director for the Washington, D.C.-based Pension Rights Center, are concerned with how other companies, like Journal Communications, are reacting.


“If companies continue to drop defined benefit plans, it is adding to our retirement crisis,” Friedman says. “Companies know what the competition is doing. If one bar gets lowered, then other companies will feel like they can lower their bar.”


Glickstein sees the steady decline as an opportunity. Cash balance plans, which are a type of defined benefit plan that have a lot of a defined contribution features, might grow once the Internal Revenue Service finalizes the amount of interest that can be credited to employees’ accounts.


A table created by Towers Watson shows cash balance plans aren’t losing traction as quickly as traditional plans. From 2002 to present, 18 Fortune 100 companies dropped a cash balance plan while 35 companies moved away from traditional defined benefit plans in that time frame.


Companies that like traditional defined benefit plans may shift to cash balance instead of switching to defined contribution plans, Glickstein says.


“In many cases, the desire to move away from traditional defined benefit does not necessarily mean moving away from defined benefit period,” he says. “We believe there is much more demand for cash balance and what’s holding [plan sponsors] back is” the IRS rule.


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