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Automatic Plan Features

Over the past few decades the rise in Defined Contribution plans has shifted the burden for retirement planning and saving away from employers to fall squarely on the employees’ shoulders.  It’s a responsibility that can be intimidating for those who feel ill-equipped or lack the foresight to adequately prepare.  Thankfully, just as the retirement landscape has evolved, so too have plan features that allow employers the ability to encourage smart financial decisions on behalf of their employees.

The most important determinants to being prepared for retirement are all within an employee’s control: when they save, how much they save, and how their money is invested.  Unfortunately, too often they abdicate this responsibility.  Employers can help by structuring corporate retirement plans with tools like automatic enrollment, automatic escalation, and re-enrollment.  Using data from a recent study published by The Vanguard Group, we highlight the benefits of each.

Automatic enrollment allows employers the ability to make participation in the 401(k) plan the default for new employees.  Participation is not mandatory but requires that an employee specifically opt out to decline.  This takes the guesswork out of educating a new hire on the importance of saving (in addition to other administrative tasks) and then hoping they’ll act.  In addition, the money is allocated to a default investment option, typically a target-date fund that matches the estimated retirement year for the employee.  According to Vanguard’s study, automatic enrollment nearly doubled participation rates, from 47% to 93%, among new hires.  Participation stayed elevated, as over 90% of employees who were automatically enrolled were still in the plan after three years.

Automatic escalation allows employers to systematically increase employee deferral rates each year.  The intent is to ensure that employees continue to increase their savings, as a percentage of their pay, as they age.  Similar to automatic enrollment, employees can either opt out entirely or change the escalation percentages at their discretion.  However, Vanguard’s research suggests automatic increases are largely welcomed by employees.  According to their study, nearly two-thirds of participants opted to keep the increase feature on.  The added benefit to annually increasing deferrals is that it can help employees take advantage of any company match program, which all too often are underutilized.

Re-enrollment is another, less popular, tool available to employers to help ensure employees are making deliberate and sound investment decisions with their retirement savings.  The feature allows employers to send out a notice to all participants indicating that they need to reaffirm their investment choices or have their money moved into the default option (usually a target-date fund).  Research suggests that even employees who save for decades can be unprepared for retirement because their money has sat in inadequate investment options, such as a stable value fund, for much of their working years.  Harnessing the compounding impact of investment returns is powerful but does require the right market exposure.  Re-enrollment can be done when a fund line-up changes or as a one-off to address employee errors in managing their allocations.

Saving for retirement is no easy task but as an employer these features should serve as viable options to help steer employees into doing what’s ultimately in their best interest.