Thursday, August 13, 2009

Don't Call It A Comback: 401(k) Here and Here to Stay

401K_2 With apologies to LL Cool J for the title of this post, CNNMoney has a report entitled: 401(k) Contributios Make a Comeback:

For the first time in a year, more workers increased the amount of money they put into their 401(k) accounts during the second quarter than decreased their contributions, according to a report issued Wednesday by a retirement fund manager.

Boston-based Fidelity Investments, which manages retirement savings plans for 11.2 million workers, said participants decreasing contributions had outnumbered those raising them for the previous three quarters -- a period during which all the major stock indexes hit multi-year lows. The vast majority of workers did not alter their contributions in the quarter.

Two points. With the automatic enrollment features of the Pension Protection Act of 2006, this is not a surprise. The PPA automatically opts workers into their employers' 401(k) plans. If a worker does not want to contribute to their individual pension account, they have to affirmatively opt out.  The laws of inertia and the laws-of-not-knowing-what-in-the-world-is-going-on, tell us that not only will more workers be enrolled in these 401(k) plans, but they will be putting more money in also. Why? Because Qualified Default Investment Alternatives (QDIA) that their employers put them into for 401(k) purposes assure that people who would otherwise not participate or participate at a low level will do so at a higher level if they don't indicate any preference. This is because these QDIA default investments not only diversify their investments, but also contribute a higher perecentage of income into these accounts.

Second point. 401(k) are here and here to stay and that is not necessarily a good thing. Unlike defined benefit accounts which have the ability to weather recessionary storms because of their formulaic, actuarial nature, defined contribution plans, like 401(k)s, even when properly diversified, can be walloped in an economy like this one. Any one notice that the older workers down the hall who told you they were retiring are not retiring so fast?  I have heard some people have lost 30% to 50% of the value of their 401(k)s in the last two to three years.  What will happen when almost everyone has these accounts? Social security does not make up the difference, people, even if solvent.

Solution: government insurance program, Pension Guaranty Benefit Corporation, set up to insure defined benefit plans, should be expanded to provide some safety net for these omnipresent 401(k)s. If some action like this is not taken soon, the future for retirement security in this country`is bleak.


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401(k) plans are not a bad thing.

The problem is that companies (and participants) continue to view them as leg #2 of the 3-legged stool, the company pension, when in fact, it's really leg #3, personal savings.

If a company puts in a big profit sharing or match contribution akin to the 9 or 10% of payroll, that they'd be expected to make as a true DB PENSION contribution, then sure, the plan works like both stool legs #2 and #3.

But let's be honest, if you get a 1% of pay match, you're lucky, and all your plan does is let you exceed the $5,000 IRA limit.

Posted by: Brian | Aug 14, 2009 10:38:59 AM

These anti-401k articles make great headlines, but usually lack any real alternatives or substance. Short of more governmental intrusion into the private sector, no large employers are going to be beefing up there DB plans any time soon. The future liabilities are too difficult to estimate and properly plan for.

401k plans have been the best mode devised for getting people to save for retirement by a long shot. Plan fiduciaries need to really understand the pre-diversified QDIA options, their glide-paths, and the percentages of assets dedicated to more volatile asset classes as workers approach retirement. Workers approaching retirement need additional education regarding the potential risk/return trade-offs.

Posted by: Terry | Aug 16, 2009 9:38:22 AM

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