Sunday, July 31, 2011

“Free” Ride?

I was late to the NetFlix game—switching over only when my local Blockbuster closed its doors. Honestly, I was more than a little skeptical about paying to rent movies while spending most of the month waiting for the mail carrier to shuffle things back and forth.

Those fears (along with concerns drawn from early stories about people being sent movies at the bottom of their list, rather than the newer, hotter releases) have turned out to be mostly a non-issue. More recently, I “discovered” the firm’s online library of free movies—and while I would say that most of them SHOULD be free (some you should be paid to sit through), I have enjoyed having that “extra” feature. Sure, there were times when the Internet delivery speed wasn’t optimal, or when a movie would time out a third of the way through, but heck, it was free.

Until, of course, NetFlix announced a change in pricing policy, a change that would cut the cost of the traditional movie rental service, but that would charge—and charge just as much—for the online movie library. Overnight transforming what had been a nice, free, additional service into—well, a pricey, sometimes erratic, delivery system of older, “b” movies. In short order, my willingness to calmly accept certain service “glitches” associated with a “free” service—well, let’s just say I have completely different expectations when I have to pay for it.

The retirement plan industry has long wondered—and worried—what participants would do if they knew how much they were paying for their 401(k)s. Despite the fact that most of those fees have long been disclosed in fund prospectuses, we’re generally inclined to think that most participants haven’t actually read those disclosures—and those who have probably didn’t understand them. That’s all supposed to change—or at least begin changing—with the participant-level fee disclosures slated to take hold next year.

Personally—and I know I’ll get some pushback on this—I’m disinclined to think it will make a big difference. After all, if there’s one thing that participants have demonstrated over the years it’s a strong and consistent propensity to gloss over (if not glaze over) big, complicated, legalistic disclosures. It doesn’t help that retirement plan fee calculations have become complicated structures, imbedded inside the net asset value of mutual funds, with revenue-sharing offsets of varying amounts (see “IMHO: Out of Proportion”), and most expressed in participant-unfriendly terms like “basis points,” or worse—“bips.”

I’m not optimistic about the new regulated disclosures—too much data, and not enough information, IMHO. That said, there are some new disclosures coming to market from the provider community ahead of those regulations that, IMHO, might actually help participants see—and understand—what they’re paying.

Of course, for most, the concern is not that participants will now know how much they are paying—but that some may, perhaps for the first time, realize that they ARE paying.1

—Nevin E. Adams, JD

1 Consider that a survey published earlier this year by AARP indicated that only a quarter of 401(k) participants realize they are paying fees (see “Most 401(k) Participants Not Aware of Fees They Pay”).

Sunday, July 24, 2011

Savings “Bonds”

In my experience, there are three major reasons that people save for retirement. There’s the lure of the “free money” represented by the employer match, the benefit in deferring the payment of taxes, and there’s the hopefully obvious benefit of helping make sure you have enough money set aside to provide a financially satisfying retirement. While one might hope that the last represents the dominant motivation for most, I suspect it’s almost incidental.

Anecdotal evidence would suggest that the match exerts a powerful influence on savings behaviors. Sure, any number of participant surveys emphasize its importance as a factor, but to my eyes, the most compelling evidence is the clustering of participant deferral rates—in plan after plan—at the level at which the employer has deigned to provide that financial incentive.

As for the tax advantages, outside of Warren Buffett, I can count on one hand the number of individuals of my acquaintance who feel they are “under-taxed.” More importantly, I can still remember the first time I had someone explain to me how not forking over a chunk of my hard-earned pay to Uncle Sam now made it possible for me to save more without actually reducing my take home pay. Moreover, how that “extra” savings, through accumulated earnings and the “magic of compounding,” could help my savings grow even more, and even faster.1 It was then—and remains, IMHO—a powerful incentive for individuals to save.

That said, of late, the taxation of these contributions—or perhaps, more accurately, the TIMING of the taxation of these contributions—has been much on the minds of those looking to solve the nation’s debt situation by raising revenue, most notably in the so-called “Gang of Six” proposal’s reported adoption of the National Commission on Fiscal Responsibility and Reform’s notion to cap annual “tax-preferred contributions to [the] lower of $20,000 or 20% of income” for 401(k)-type retirement plans.” This stands in sharp contrast to the current structure, where the limit on the combination of employee and employer contributions is the lesser of a dollar limit of at least $49,000 per year and 100% of an employee’s compensation.

Simplistically, it’s hard to imagine that many workers today are setting aside 20% of pay for retirement. Even someone who is deferring 6% and receiving a very generous dollar-for-dollar match would presumably still be well within the comfort zone of those new limits. The $20,000 cap is, of course, more problematic. Still, I’m sure that those who proposed that cap of $20,000—particularly when the current limit on pre-tax deferrals is $16,500, and the median deferral less than half that sum—think it won’t matter much to “regular” folks. At least they might have thought so, had they not paid mind to a recent analysis by the nonpartisan Employee Benefit Research Institute (EBRI), not just for the highly compensated, but for those who today may not be, but who would hit those limits during their later working years (see Capping Tax-Preferred 401(k) Contributions Would Hurt Workers ).

Indeed, when you examine EBRI’s projections, you begin to appreciate the truly insidious impact those kinds of limits would impose on savings over time—all to satisfy the kind of accounting gimmickry that allows lawmakers to claim they have saved the taxpayer money by generating revenue in the near-term while completely ignoring the long-term collections, and longer-term implications of such a shift in policy.2

A focus that IMHO is, as that old English proverb once cautioned, penny-wise—and pound foolish.

—Nevin E. Adams, JD

1 Of course, in those days, we were also being told that when we withdrew those funds, we’d likely pay taxes at a lower, post-retirement rate—a message that I’m betting has fallen by the wayside in most enrollment meetings these days.

2 For an expanded analysis of the impact, check out “ASPPA Speaks out against Retirement Measures in Budget Proposal”, as well as ASPPA’s report on “Retirement Savings and Tax Expenditure Estimates

Sunday, July 17, 2011

“Much” Ado

There were three big disclosure announcements last week. The first two were the pushback of the effective date for 408(b)(2) fee disclosures to April 1, 2012, from the previously announced effective date of January 1 of that year. In the same announcement, the Department of Labor also delayed the compliance date for the participant level fee disclosure regulation for most plans to May 31, 2012 (a month ago, the DoL had said that information would have to be made available no later than April 30)—which, from a practical standpoint, means that the information must be provided by August 14, 2012 (45 days after the end of the second quarter in which the initial disclosure is required)(see “Borzi Chats about Upcoming Definition of Fiduciary Rule”).

Those delays are, doubtless, of some relief to the provider community. They’re not pushed back far enough to significantly delay the beneficial impact of the disclosures (though this is not the first time they have been pushed back), but I’m sure even the best-prepared will appreciate a little extra breathing room.

But the more significant “announcement,” to my ears anyway, came on Friday, when Assistant Secretary of Labor Phyllis Borzi noted in an Employee Benefits Security Administration (EBSA) Web chat that the DoL was “considering, as part of the pension benefit statement regulatory initiative, requiring that pension benefit statements for defined contribution plans express the participant's ‘total accrued benefit’ in the form of a lump sum account balance and in the form of a lifetime income stream”

It’s not a new notion, of course. In fact, legislation has been introduced in Congress (twice) that would basically do the same thing (see “Retirement Income Disclosure Bill Makes a Comeback”). And while such a notion is fraught with potential problems (the assumptions, the presentation, and the caveats attendant with that presentation), I think it could be a real eye-opener for participants and plan sponsors alike. In fact, IMHO, it’s the kind of thing that could really make a difference in how people look at their retirement savings accounts.

Make no mistake, it’s going to be complicated. You can’t project retirement income from a couple of pieces of data (ostensibly current age, salary, and current 401(k) balance) without making several key assumptions. Moreover, I can’t imagine that it will be deemed sufficient to simply provide that number and, in a sentence or two, outline those assumptions. Rather, it’s entirely likely that the volume of disclosures accompanying the new piece of information will serve to obscure the impact.

Ultimately, it’s hard to know how good those disclosures will be and how much impact they will have—but, IMHO, if we expect participants to save enough, it seems well past time that we helped them know just how much “enough” is.

—Nevin E. Adams, JD

Sunday, July 10, 2011

“Starting” Points

You may have missed it, but there was a bit of a “dust up” in our industry last week.

It started on July 7 when The Wall Street Journal ran a front-page story titled “401(k) Law Suppresses Saving for Retirement” (a story that is still, as I write on Saturday morning, on’s most popular listing). And, no, that article wasn’t talking about discrimination testing rules, the imposition of annual contribution limits, talk of a mandatory limit on loans, or the imposition of mandatory annuitization of distributions. Rather, it was talking about…automatic enrollment.

The report claimed that “40% of new hires at companies with automatic enrollments are socking away less money than they would if left to enroll voluntarily,” citing data from the Employee Benefit Research Institute (EBRI). The problem, according to the report, was that “[m]ore than two-thirds of companies set contribution rates at 3% of salary or less, unless an employee chooses otherwise.”

Well, duh. That, as they say, is the law.

EBRI quickly took issue with the WSJ’s characterizations, outlining in some detail the non-partisan group’s extensive history in examining these trends, and then noted that “The Wall Street Journal article reported only the most pessimistic set of assumptions,” failing to “cite any of the other 15 combinations of assumptions reported in the study” referenced in the report. More significantly, EBRI’s Jack VanDerhei commented later that same day that the WSJ managed to completely ignore the reality that automatic enrollment is “increasing savings for many more—especially the lowest-income 401(k) participants.”

Now, while EBRI was, IMHO, rightly miffed to see its data and analysis mis-, or perhaps less-than-fully, represented, the authors of the Pension Protection Act were no less maligned. The law was designed to help more employers make it easier for more employees to become participants, and for those participants to become more-effective retirement savers, and it seems to me that, in just about every way, it has been a huge success. Are there those who once might have filled out an enrollment form and opted for a higher rate of deferral (say to the full level of match) that now take the “easy” way and allow themselves to be automatically enrolled at the lower rate called for by the PPA? Absolutely. However, as the EBRI data show—and, for anyone paying attention, have shown for years now—the folks most likely to be disadvantaged by that choice are higher-income workers, most of whom, IMHO, should know better.

The simple math of automatic enrollment is that you get more people participating, albeit at lower rates (until design features like contribution acceleration kick in). Said another way, participation rates go up, and AVERAGE deferral rates dip—initially.1 Then, over time, as contribution-acceleration designs take hold, we’re likely to see those average deferral rates increase2. But for some, it will mean less savings, and for many, perhaps not savings enough.

There are, however, some things plan sponsors can do now to keep things moving in the right direction sooner:

Auto-enroll workers at higher rates, perhaps as high as the level at which they will receive the full company match. Sure, the Pension Protection Act calls for 3% as a minimum to be eligible for its safe harbor—but there’s no law/rule that says you can’t go higher.

Auto-enroll ALL workers, not just new hires. Since the PPA’s introduction, PLANSPONSOR’s DC Survey has consistently shown that two-thirds of employers adopting automatic enrollment do so on a PROSPECTIVE basis (see IMHO: A Prospective Perspective). Do you really care more for the people you just hired than those who have devoted years of loyal service?

Remind ALL participants of the importance of actively saving for retirement. It may be a bit counter-intuitive to try to reach automatically enrolled participants who didn’t even take the time/expend the energy to fill out an enrollment form, but it’s important. By most measures, workers who save only to the level of the company match won’t have saved enough to provide a financially secure retirement. However, a generation of participant behaviors suggests that they assume that saving to the level of the match is the “right” answer, and it’s likely that they will assume that the level of automatic enrollment established is “enough.” We all know better.

IMHO, automatic enrollment designs are, literally, a starting point—for plan sponsors and their soon-to-be participant savers alike (3).

Nevin E. Adams, JD

The WSJ article is online HERE. EBRI’s response is HERE

1 Complicating the picture is that the PPA took hold just ahead of an economic downturn that led a small, but noticeable, group of employers to reduce and/or suspend their match (and a not-so-small group to lay off lots of workers), while health-care costs continued to rise and, based on previous surveys, likely siphoned some participant contributions from retirement savings.

2 VanDerhei notes on EBRI’s blog that “[t]he other statistic attributed to EBRI dealt with the percentage of AE-eligible workers who would be expected to have larger tenure-specific worker contribution rates had they been VE-eligible instead. The simulation results we provided showed that approximately 60 percent of the AE-eligible workers would immediately be better off in an AE plan than in a VE plan, and that over time (as automatic escalation provisions took effect for some of the workers), that number would increase to 85 percent.”

3 This from a column I wrote about automatic enrollment designs in 2005: “...there is at least one published study that indicates that, over time, the establishment of a default deferral rate seems to lower the overall rate of deferrals in the plan. Mostly, this seems to be a result of an increase in the number of workers who simply leave their choices in the hands of the default option. But it is hardly beyond the realm of reason to imagine a scenario where workers take the establishment of a default rate as being the “right” answer for them as well.

All in all, advisors should remember that the results of automatic deferrals, however encouraging at the outset, should not be left unattended. An “automatic” deferral is a start, perhaps even a good start. It should not, however, be the end of the matter."

Monday, July 04, 2011

'Free' Wills

Editor's Note: No matter what else is going on in our lives this weekend, a student of history cannot help but be conscious of the boldness of the Declaration of Independence we celebrate today, and how dearly won its principles. There may be other ways to express it, but this weekend I'm going to draw on the perspectives expressed in a prior posting. Whether you remember it or not, I'm hoping you enjoy it - and take it to heart!

Over the weekend I reacquainted myself with that episode of the HBO miniseries “John Adams” titled “Independence.”

As a writer and editor, I watched with a special appreciation the part where Benjamin Franklin and John Adams are “tweaking” Thomas Jefferson’s draft – and the pain in the latter’s face as his “precisely chosen” words were modified. All in all, a modest sacrifice, to be sure. But I, for one, could feel his pain.

That said, anyone who has ever found their grand idea shackled to the deliberations of a committee, who has had to kowtow to the sensibilities of a recalcitrant compliance department, or who has simply suffered through the inevitable setbacks all-too-frequently attendant with human existence must have at least a modest appreciation for the trials that confronted not only that document’s authors, but those then living in these not-yet-united states.

Without question, 1776 is one of those turning points in history, not just for this nation but, in the course of time, for the world as well. And yet, from the perspective of those who, in 1776, put not only their property, but their lives on the line to achieve what we will commemorate this weekend, the prospects of success must surely have seemed unlikely.

Indeed, 1776 itself was full of disappointments for many supporting the cause of independence – and near disasters for George Washington’s Continental Army. One can garner a sense for the change in tide by noting that Thomas Paine in January of that year published “Common Sense”, but before the year was out had turned his pen to “The American Crisis”, fretting about “sunshine patriots” and in “times that try men’s souls.”

However, before the year was out, Washington’s troops would cross the Delaware under unimaginable conditions and win a stirring victory at Trenton, on their way to a series of impressive, but largely unappreciated victories against the British army in New Jersey. Not that the worst was behind them – less than a year later Washington’s troops would winter at Valley Forge. Independence may have been declared in 1776, but it was not won until 1781, and not official for two years more.

The point, of course, is that we have much to be thankful for this Independence Day; for those who had the courage to stand up for the principles and ideals on which this nation was founded, for those who were willing then to take up arms to defend those principles and ideals against overwhelming odds, and those who have done so to this day.

If we are to preserve those “unalienable rights” if we are to continue to enjoy the freedoms of “life, liberty and the pursuit of happiness”, we must remember that the truths so eloquently espoused in 1776 may indeed be self-evident, but dictators and tyrants from time immemorial have sought to vanquish them. It is easy to forget amongst the grilling, fireworks displays, and summer temperatures just how precious those rights are, and how rare still in this world.

This Independence Day we should remember that, “in the course of human events”, the battles that preserve those ideals for us and future generations are never really “won,” they must be fought for every day.


Editor's Note: For those interested in learning more about the events noted above, I heartily recommend:

“1776” by David G. McCullough

“Washington’s Crossing” by David Hackett Fischer

“Almost A Miracle: The American Victory in the War of Independence” by John Ferling

“His Excellency: George Washington” by Joseph J. Ellis

For those who prefer a “lighter” read (a la historical fiction), check out:

“To Try Men's Souls: A Novel of George Washington and the Fight for American Freedom” by Newt Gingrich, William R. Forstchen, and Albert S. Hanser

Nevin E. Adams, JD