The Downside of a Popular 401(k) Feature
Automatic enrollment may not be the best idea for retirement savings plans
Here’s more evidence that automatic enrollment — a practice designed to boost employees’ retirement-savings — is actually having the opposite effect for some people.
According to a recently released study by researchers from the Center for Retirement Research at Boston College, employers with plans that feature automatic enrollment offer less generous 401(k) matching contributions, on average.
In combination with their lower average savings rates, this makes auto-enrolled plans a bad deal for some employees, the authors conclude.
“While auto-enrollment will increase saving for workers who would not have participated without it, those who would have participated on their own may end up saving less due to relatively low employer match rates and low default contribution rates,” say the authors. The study notes that the average savings rate in plans with auto-enrollment is 3.4 percent, a figure that significantly lags the 6 percent average for all plans. (Here’s an article I wrote about this topic for The Wall Street Journal a while ago.)What Auto-Enrollment Costs Employers
For employers, auto-enrollment comes with a cost. Because it boosts employee participation rates in the 401(k) plan, it also tends to increase the employer’s total compensation costs by requiring them to match a greater number of employees’ contributions. As a result, employers with auto-enrollment have trimmed their matching rates to keep compensation costs in check, says the study.(MORE: Maybe You Shouldn't Invest in a 401(k) After All)
In reaching that conclusion, researchers Barbara Butrica and Nadia Karamcheva, both of the Urban Institute, examined 2010 and 2011 data on match rates, employer contributions and auto-enrollment from 1,200 401(k) plans in a nationally representative survey by the U.S. Bureau of Labor Statistics.
Not surprisingly, the study found that plans with auto-enrollment had significantly higher participation rates than those without it — 77 percent of employees, versus 67 percent. (Employees in companies that offer retirement plan auto-enrollment can always choose to opt out.)
Lower Match Rates for Auto-Enrolled Plans
But they also found that plans with auto-enrollment have lower average match rates, of 3.2 percent of pay, versus 3.5 percent for those that don’t automatically enroll new employees. That 0.3% difference, the researchers say, is statistically significant — even after controlling for the fact that a larger percentage of workers in the sample who are covered by auto-enrollment also have access to defined benefit pension plans, which enhance their retirement benefits.
For someone earning $80,000 a year, 0.3 percent of annual pay would be $240. Over a hypothetical 30-year period in which that worker’s savings earned 5 percent a year, that 0.3 percent reduction in their match would reduce the total amount of the worker’s savings by $17,780, by Encore’s calculations.