Sunday, February 24, 2013

Impact “Ed”

Last month, the U.S. Senate Committee on Health, Education, Labor and Pensions (HELP) held a hearing titled “Pension Savings: Are Workers Saving Enough for Retirement?” The answer to that question is, of course, about as varied as the individual circumstances it contemplates, but certainly at a high level, the best answer is, “it depends.”

It depends on your definition of “enough,” for one thing—and it might well depend on your definition of retirement, certainly as to when retirement begins, not to mention your assumptions about saving and/or working during that period.(1) While those are individual choices (sometimes “choices” imposed on us), they can obviously make a big difference in terms of result.

For public policy purposes, EBRI has defined adequate retirement income as having the financial resources to cover basic expenses plus uninsured medical costs in retirement. Working from that definition as a starting point, along with an assumption that retirement represents the cessation of paid employment and begins at age 65, we have projected that approximately 44 percent of Baby Boomer and Gen-Xer households are simulated to be at risk of running short of money in retirement, assuming they retain any net housing equity until other financial resources are depleted. That’s a lot of households, to be sure, but as an EBRI report noted last year, it includes a wide range of personal circumstances, from individuals projected to run short by as little as a dollar to those projected to fall short by tens of thousands of dollars.(2)

However, the focus of the recent Senate HELP hearing quickly turned from an acknowledgement that many workers aren’t saving enough to what to do about it. In a recent response to questions posed at the hearing,(3) EBRI Research Director Jack VanDerhei compiled a list of alternatives that EBRI research has modeled in recent years, some mentioned at the hearing, along with the impact each is projected to have on that cumulative savings shortfall.

Specifically, the impacts quantified on retirement readiness included in EBRI’s response were:
  • The availability of defined benefit (pension) plans.
  • Future eligibility for a defined contribution (401(k)-type) plan.
  • Increasing the 401(k) default deferral rate to 6 percent.
  • Job changes and default deferral rate restarts.
  • 401(k0 Loans and pre-retirement withdrawals.
The impacts of these factors vary, of course. Consider that, overall, the presence of a defined benefit accrual at age 65 reduces the “at-risk” percentage by about 12 percentage points. On the other hand, merely being eligible for participation in a DC plan makes a big difference as well: Gen Xers with no future years of DC plan eligibility would run short of money in retirement 60.7 percent of the time, whereas fewer than 1 in 5 (18.2 percent) of those with 20 or more years of future eligibility are simulated to run short of money in retirement.(4)

Ultimately, if you’re looking to solve a problem, it helps to know what problem you’re trying to solve. And you don’t just want to know that a solution will make a difference, you want to know how much of a difference that solution will make.

Nevin E. Adams, JD

(1) Many other projections overlook, implicitly or explicitly, uninsured medical costs in retirement, and many simply publish a projected average result that will be correct only 50 percent of the time, without acknowledging these limitations. Moreover, while various estimates have been put forth for the aggregate retirement income deficit number, when taking into account current Social Security retirement benefits and the assumption that net housing equity is utilized “as needed,” as well as uninsured health care costs, the EBRI Retirement Security Projection Model (RSPM) indicates the aggregate national retirement income deficit to be $4.3 trillion for all Baby Boomers and Gen.

(2) Nearly one-half (49.1 percent) of Gen Xers are projected to have at least 20 percent more than is simulated to be needed, for example, while about 1 in 5 (19.4 percent) are projected to have less than 80 percent of what is needed. See “All or Nothing? An Expanded Perspective on Retirement Readiness,” online here.

(3) The EBRI response to the Senate HELP hearing questions is available online here.

(4) See “Retirement Income Adequacy for Boomers and Gen Xers: Evidence from the 2012 EBRI Retirement Security Projection Model,” online here.

Sunday, February 17, 2013

The First Step

For me, the hardest part of writing has always been that first sentence.

I don’t usually struggle with the topic, the angle to take, the length, the clever title, nor even the research and analysis that might be required to support the point(s) being made. All of those take time, energy, and effort, of course—but nothing like the effort I put into crafting those first few words. What makes that all the more ironic, particularly in view of the energy expended, is that the first sentence I wind up using often isn’t the one with which I began. It’s just the one that keeps me from getting started.

Aside from strained finances, “getting started” is perhaps one of the most commonly cited problems in saving. Most know the importance of saving, and appreciate the risk(s) of not having an emergency fund, or lacking adequate retirement savings. We have goals—both short- and long-term—that can be quantified, the ability to take advantage of payroll deductions, and/or regular account transfers from checking to savings, that can make savings easier. And yet, certainly outside of the structures of workplace-based retirement plans, many don’t save as they know they should.

According to the 2012 Retirement Confidence Survey (RCS),¹ workers who contribute to a retirement savings plan at work (45 percent) are considerably more likely than those who are not offered a plan (22 percent) to have saved at least $50,000, and were much less likely to report having saved less than $10,000 (24 percent vs. 63 percent who are not offered a plan).

There are a lot of “reasons” to put off savings. For some it’s the inconvenience of having to fill out a form, stop by the bank, or logging on to a website. Not knowing how much to save stymies some, while others are “stopped” by the size of a savings goal that may seem insurmountable. Still others are thwarted by what are, or appear to be, more pressing financial concerns.

In just a couple of weeks America Saves Week² will draw heightened attention to the benefits of saving—the importance of setting a goal, making a plan, and taking advantage of ways to save automatically—not just for one week, but for the rest of the year as well.

Like that first sentence, when it comes to saving, sometimes all you need is to get started. That starts with a decision to Choose to Save®³—and there’s no better time to start on that path to Save For Your Future® than today.

Nevin E. Adams, JD

Organizations interested in building/reinforcing a workplace savings campaign can find free resources at including videos, savings tips, and the Ballpark E$stimate® retirement savings calculator, courtesy of the American Savings Education Council (ASEC).

¹ Information from the 2012 Retirement Confidence Survey (RCS) is available online here. Organizations interested in underwriting the RCS can contact Nevin Adams at

² America Saves Week is an annual event where hundreds of national and local organizations promote good savings behavior and individuals are encouraged to assess their own saving status. Coordinated by America Saves and the American Savings Education Council, America Saves Week is an annual opportunity for organizations to promote good savings behavior and a chance for individuals to assess their own saving status. ASEC is a program of the Employee Benefit Research Institute (EBRI). Over 750 organizations have signed up to participate in the 7th annual America Saves Week, taking place February 25–March 2, 2013, in a nationwide effort to help people save more successfully and take financial action. More information is available at

³ Choose to Save® is sponsored by the nonprofit, nonpartisan Employee Benefit Research Institute Education and Research Fund (EBRI-ERF) and one of its programs, the American Savings Education Council (ASEC). The website and materials development have been underwritten through generous grants and additional support from EBRI members and ASEC Partner institutions.

Sunday, February 10, 2013

"Missed" Behaviors

As the nation continues to grapple with fiscal challenges, the subject of so-called “tax expenditures,” (the amount of tax breaks accorded various programs) has attracted a great deal of attention. Critics of the current tax preferences structure for work place retirement plans have questioned the efficacy of those preferences relative to the savings produced.

In that vein, a recent study¹ examined the experience of the Danish pension system to consider the relative impact of government retirement-savings tax preferences on savings behaviors, as well as the impacts on savings patterns of a mandate that required all Danish citizens to contribute 1 percent of their earnings to a retirement savings account from 1998 until 2003.

In explaining their rationale for drawing on the Danish pension experience, the study’s authors described that nation’s pension system as “broadly similar in structure” to that in the United States and other developed countries, in that it has individual accounts, employer-provided pensions, and a government-supported defined benefit (DB) retirement plan. However, while the components are similar, as a recent EBRI Notes article² points out, the Danish retirement system functions differently in several critical aspects.

The Danish Experience

Not surprisingly, the research on Danish workers noted a “sharp increase” in savings rates in 1998 (when the mandate took hold), and sharp reductions in total savings in 2004 (when the mandate lapsed). They also considered worker savings responses when, in 1999, the Danish government reduced the subsidy for contributing to capital pension accounts for individuals in the top income tax bracket, noting that while contributions fell sharply for individuals in the top bracket, they “remained virtually unchanged for individuals just below that bracket.” In other words, the individuals directly affected by changes in the incentives reacted, while those for whom the tax subsidy was unchanged did not.

They also found that the reduction in incentives also had a larger effect on Danish workers who make frequent changes to their pension contributions. In essence, Danish savers who were actively making decisions about their pension contributions were more likely to respond to the change in incentives than other individuals. This group the study authors classified as “active savers,” who, as it turns out, also have significantly higher wealth/income ratios and were more likely to be older than other Danish workers in the study.

Combining all these results, the authors arrive at two top-line conclusions about the saving behavior of Danish workers. First, that only 15 percent of those individuals are “active” savers, that only those active savers respond to tax incentive changes, and then largely only by reallocating savings between their tax-deferred pension accounts and taxable savings accounts. Second, for these active savers, a $1 of tax expenditure by the government on subsidies for retirement savings raises total savings by only about 1 cent, on average. Not surprisingly, these conclusions have drawn the attention of those who question the efficacy of the current retirement savings tax incentives in the U.S. But is this Danish experience relevant to the United States?

For the most part, the U.S. private sector relies on a voluntary retirement system—both on the part of workers to participate and save, and, significantly, on the part of employers to not only sponsor but also encourage participation with education, payroll deduction, and matching contributions. Furthermore, while U.S. employers sponsor these programs to attract and retain workers, they are encouraged to do so by certain tax preferences, conditional on administering the plan in accordance with various “nondiscrimination” standards. However, if the tax-deferred status of pension savings accounts were altered, previous surveys have shown these ties would almost certainly be weakened, if not entirely broken.³

Ultimately, the study of Danish worker savings behaviors was just that, and—as a study of individual savings behaviors in that environment—it has merit. It did not, however, consider the reaction of employers to these kind of changes. Those who would draw lessons from that experience should consider that the “success” of defined contribution work place retirement plans in the United States currently depends on the behavior of TWO parties: workers who voluntarily elect to defer compensation, and employers that choose to sponsor and, in many cases, contribute to them.

Nevin E. Adams, JD

¹ See Chetty, Raj, John N. Friedman, Soren Leth-Petersen, Torben Heien Nielsen, and Tore Olsen, “Active vs. Passive Decisions and Crowd-Out in Retirement Savings Accounts: Evidence from Denmark,” NBER Working Paper # 18565, November 2012, online here.

² See “Tax Preferences and Mandates: Is the Danish Savings Experience Applicable to the United States?”

³ A survey conducted on behalf of The Principal Financial Group in 2011 determined that if workers’ ability to deduct any amount of the 401(k) contribution from taxable income was eliminated, 65 percent of the plan sponsor respondents would have less desire to continue offering their 401(k) plan. A separate survey of plan sponsors by AllianceBernstein that same year found that small plan sponsors were more likely to respond negatively to a proposed change in the deductibility of contributions by employees than larger employers—the impact of the loss of access to plans, and to the matching contributions often associated with those plans, was documented in previous EBRI research. See “Modifying the Federal Tax Treatment of 401(k) Plan Contributions: Projected Impact on Participant Account Balances,” online here.

Sunday, February 03, 2013

Picture Puzzle

One of my favorite memories of visiting my grandparents over the holidays was working on jigsaw puzzles. These were generally large, complicated affairs—whose construction was spread over days, as various family members would stop by to work on a section, to build on a border, or sometimes contribute a single piece they would spot as they drifted by on their way to another activity. Perched in a prominent place throughout would be the puzzle lid with that all-important picture of what we were working toward to help keep all those individual, and sometimes fleeting, efforts in the proper perspective, that made it possible to differentiate the blue of what would appear to be sky from what would turn out to be an important, but obscure section of mountain stream.

In retirement plans, one of the more intransigent concerns for policy makers, providers, and plan sponsors alike is what has been called the “annuity puzzle”—the reluctance of American workers to embrace annuities as a distribution option for their retirement savings. What economists call “rational choice theory”(1) suggests that at the onset of retirement individuals will be drawn to annuities, because they provide a steady stream of income, and address the risk of outliving their income. And yet, given a choice, the vast majority don’t.

Over the years, a number of explanations have been put forth to try and explain this reluctance: the fear of losing control of finances; a desire to leave something to heirs; discomfort with entrusting so much to a single insurer;, concern about fees; the difficulty of understanding a complex financial product; or simple risk aversion—all have been studied, acknowledged, and, in many cases, addressed, both in education and in product design, with little impact on take-up rates.

As defined contribution programs have grown, those frustrated with the tepid rate of annuity adoption have sought to bring employers into the mix by providing them (and the plans they sponsor) with a range of alternatives: so-called “in- plan” retirement income options, qualified default investment alternatives that incorporate retirement income guarantees, and expanded access to annuities as part of a distribution platform. In recent years, regulators have also entered the mix, among other things issuing a Request for Information (RFI) regarding the “desirability and availability of lifetime income alternatives in retirement plans,” conducting a two-day hearing on the topic, and (as recently as last year) issuing both final and proposed regulatory guidance.

Yet today the annuity “puzzle” remains largely unsolved. And, amidst growing concerns about workers outliving their retirement savings, a key question—both as a matter of national retirement policy and understanding the potential role of plan design and education in influencing individual decision-making—is how many retiring workers actually choose to take a stream of lifetime income, vs. opting for a lump sum.

As outlined in a new EBRI Issue Brief,(2) the evidence on annuitization in workplace pension plans has been mixed. But the EBRI report provides an important new perspective to a 2011 paper titled “Annuitization Puzzles” by Shlomo Benartzi, Alessandro Previtero, and Richard H. Thaler.(3) In that paper, they analyzed 112 different DB plans provided by a large plan administrator and, focusing on those who retired between ages 50 and 75 with at least five years of job tenure and a minimum account balance of $5,000, and noted that “…virtually half of the participants (49 percent) selected annuities over the lump sum,” further observing that “When an annuity is a readily available option, many participants who have non-trivial account balances choose it.”

The study’s authors went on state that “The notion that consumers are simply not interested in annuities is clearly false,” explaining that “…the common view that there is little demand for annuities even in defined benefit plans is largely driven by looking at the overall population of participants, including young and terminated employees and others with small account balances who are either required to take a lump-sum distribution or simply decide to take the money.”

Mixed Behaviors?

In essence, Benartzi’s “Annuitization Puzzles” study says that much of the existing research draws inaccurate conclusions by mixing the behaviors of younger workers with smaller balances with those who might, based on their age and financial status, be expected to choose an annuity. However, as noted in the EBRI Issue Brief, that study failed to take into consideration what has long been known to be a key element in retirement plan behaviors: retirement plan design. In effect, the Benartzi study blends the behaviors of participants who have the ability to choose an annuity with those who have either no choice, or one restricted by their plan.

What kind of difference might this make? Well, taking into account the same types of filter on tenure, balance, and age employed by the Benartzi study, as well as a series of plan design restrictions, EBRI found that for traditional defined benefit plans(4) that imposed no restriction on doing so, fewer than a third of those with balances greater than $25,000 opted for an annuity, as did only about 1 in 5 whose balances were between $10,000 and $25,000. Those with balances between $5,000 and $10,000 were even less likely to do so.(5) In sum, even filtering to focus on the behaviors of individuals seen as most likely to choose an annuity distribution, we found that, given an unfettered choice, the vast majority do not.

Ultimately, the EBRI analysis shows that, to a large extent, plan design drives annuitization decisions.(6) We know that plan design changes have been successful in influencing participant behavior in DC plans via auto-enrollment and auto-escalation, and the new EBRI study suggests that plan design can also play a critical role in influencing distribution choices.

It also shows the importance of taking into account the whole picture when you’re trying to solve a puzzle.

Nevin E. Adams, JD

(1) “Annuitization Puzzles,” by Shlomo Benartzi, Alessandro Previtero and Richard H. Thaler is online here.

(2) According to Investopedia, it is “…an economic principle that assumes that individuals always make prudent and logical decisions that provide them with the greatest benefit or satisfaction and that are in their highest self-interest.”

(3) See the January 2013 EBRI Issue Brief, no. 381, “Annuity and Lump-Sum Decisions in Defined Benefit Plans: The Role of Plan Rules,” online here.

(4) Participants in cash balance plans were even less likely to choose annuities than those in “traditional” final-average-pay defined benefit plans.

(5) The Benartzi study filtered only on individuals with a balance greater than $5,000.

(6) The EBRI analysis also found that annuitization rates increase steadily with account balance for older workers (but not for younger workers), and that annuitization rates also increase with tenure. See “Annuity and Lump-Sum Decisions in Defined Benefit Plans: The Role of Plan Rules,” online here.