Top 10 Pet Peeves About the Retirement Industry — Part II

 Last week, I shared five of my Top 10 Pet Peeves about the Retirement Industry. Here’s the rest of the list.

Making “apples to oranges” comparisons of world pension systems.

Let’s face it — nobody wants to be “average.” And yet, there are now a handful of retirement industry consultants that, each year, publish a ranking of how the world’s retirement systems rate — and year after year the United States generally comes in about the middle of the pack.

Considering just how diverse these systems and the populations they serve are — one might well wonder at the need to rank them. But rank them they do, employing a relatively complex rating system to do so. The most recent was by Mercer — who, once again — held the U.S. in relatively poor esteem compared with the Netherlands, Iceland, Denmark and Israel. The Nordic countries are a perennial favorite here — though they all happen to be (much) smaller in population, and more culturally and racially monolithic than the U.S.

They all also have different approaches to taxes, and social infrastructure. Said another way, these rankings never consider the cost — both monetarily — to society and the mandatory worker contributions they require — and in terms of pre-retirement access to those funds. No, they myopically focus on the level of benefits provided and the security of those promises — not irrelevant considerations, of course — but one that glosses over some of the choices that might have to be made — or eliminated — in order to achieve them.

Not that Americans might not be willing to make them — if they were told what they were. But labelling the American system (slightly above) “average” isn’t telling the whole story.

Ignoring the existence and impact of Social Security.

Once upon a time, we talked about retirement as having three legs: Social Security, workplace savings/pensions, and personal savings. But to a number of vocal pundits, the full burden has been put … on the 401(k). A system that, as I noted previously, everybody decries as never being intended to be a retirement plan.

Well, before there was a 401(k) — and even before the advent of ERISA — there was Social Security, a program designed to provide retirement income to working Americans. It remains absolutely integral to even the most rudimentary retirement planning calculation, and with good reason. But it too was “never intended” to provide a full replacement of pre-retirement income in retirement, though it does for many lower-income Americans. 

That said, despite a looming financing shortfall — and a fairly widespread notion that those benefits aren't "enough" for a full retirement income replacement, you don't see headlines in the New York Times — or folks going on book tours — proclaiming that program was a "mistake" the way some do about the 401(k). The reality is that Social Security — like the 401(k) — has undergone significant changes in scope, funding, and mission since its 1935 inception. While deliberate, it might fairly be termed “mission creep.”

The (other) reality is that the 401(k) actually does a pretty good job of what workplace savings was always designed to do — supplement the foundation that Social Security provides — and yes, even for lower-income individuals. It has been — and continues to be — an essential element of retirement security for middle-income workers, for whom Social Security benefits alone likely fall short of their pre-retirement income levels and needs. It, like Social Security, is an essential element of the three-legged stool. But we need to quit carrying on like the 401(k) should be expected to be THE retirement income source (and that it’s a failure if it doesn’t).   

Using compounding “Magic” to make mountains our of molehills.

Albert Einstein is said to have called compounding the eighth wonder of the world. While that certainly applies to finances and savings growth, it can also be used to exaggerate financial issues. 

For example, a couple of years back a firm (that was in the business of capturing IRA rollovers) put out a jaw-dropping statistic that claimed there were $1.35 trillion in “forgotten” 401(k) accounts?  That’s TRILLION, with a “T”. 

That jaw-dropping number was the headline from a report titled, “The true cost of forgotten 401(k) accounts,” authored by “the Capitalize research team” — and yes, if accurate, that would mean that about a fifth of all 401(k) assets have been “forgotten.” Sound suspicious? Here’s another data point: The report goes on to estimate that these 24.3 million accounts that have been “forgotten” have an average balance of… $55,400 per account. 

Now, numbers like that are generally reserved for emails regarding a Nigerian prince. Fortunately, these authors showed their “math” — and — suffice it to say they pulled a couple of actual data points, extrapolated a much larger reality from those data points, and did a couple of rounds of multiplication to expand the population impacted, and the compounded the financial impact. And if that weren’t enough, they further extrapolated that impact to be an ongoing annual expansion of the problem. 

More recently, there was a report from Vanguard that claimed that job-changing could cost your retirement $300,000. That was a jaw-dropping number on its own (p.s., if a projection is jaw-dropping, beware) — particularly when you get into the report and find that it’s based on a projection based a median participant making $60,000 per year. 

Most of the coverage focused on the impact resulting from participants who had been auto-enrolled, and then auto-escalated to a point, changed jobs, and then (re)started participation at a new plan, (re)auto-enrolled at a lower deferral rate than where they left off at their old plan. The problem there, of course, isn’t the job change itself, it’s the individual not taking the time/energy to adjust the rate of savings with the new plan. By the way, job changers with VOLUNTARY enrollment saw NO decrease in savings rates. 

But as you look deeper into the report, the researchers also focus on folks getting a raise with the job change (10%, on average, they assume), but not commensurately increasing their deferrals — so, on a relative basis, the report calls this a reduction in savings (this is the way government does tax math, by the way). Moreover, there were job changers that saw even higher raises with the job change — and, according to the math here, “suffered” a commensurately larger decrease in savings — at least relative to the rates at which they were saving previously.

Ultimately, of course, this makes it sound like people are LOSING retirement savings, when in fact it’s really more about leaving money on the table (and they admit that there are a multitude of reasons why folks might legitimately be saving differently along with a job change).

Still, the headlines have been trumpeting this as a scary development — one that some are (already) saying means that the 401(k) design is flawed, and not equipped to deal with today’s job changers. 

Except, of course, that the median job tenure of the American workforce is pretty much unchanged since WWII.   

The bottom line? If the headline is jaw-dropping, go look at the methodology and fine print. 

Claiming that 401(k)s are only for the “rich.”

Well, first off, you need to get those folks to tell you who they consider rich. There’s certainly an argument to be made that those making higher incomes might well get a “bigger” benefit from the pre-tax preferences — but studies have shown that constraints like non-discrimination tests and 402(g) limits bound those in such that the benefits higher income workers receive are in rough proportion to their income(s). 

Indeed, if those “upside-down incentives” were the only forces at work, one might reasonably expect to find that the higher the individual’s salary, the higher the overall account balance would be, as a multiple of salary. However, a couple of years back — drawing on the actual administrative data from the then-massive EBRI/ICI 401(k) database, and specifically focusing on workers in their 60s (broken down by tenure and salary), then-EBRI Research Director Jack VanDerhei found that those ratios hold relatively steady. In fact, those ratios are relatively flat for salaries between $30,000 and $100,000, before dropping substantially for those with salaries in excess of $100,000 (see here).

The reality is that the 401(k) has been remarkably equitable in encouraging participation, even among workers of very modest incomes. For them — and for the middle class, generally — the 401(k) has been the only way they (can) save.

Referring to recordkeeping as a “commodity.”

For years, recordkeeping services — complex and difficult as they can be to provide accurately and consistently (not to mention profitably) — have been characterized (some might say disparaged) as a “commodity,” while fee compression (and the aforementioned complexities) continue to fuel consolidation in that industry. 

Honestly, as a former recordkeeper (though it’s been awhile), I’ve never understood how anyone who had any real appreciation for a business as varied, complex, and demanding as that of keeping up – and keeping up accurately – with individual participant accounts over the course of a working career – would be willing to refer to those services as “interchangeable.” Or why any firm that provides those complex services in these challenging times would be willing to let others do so. Certainly, any participant, plan sponsor, or advisor who has seen the integrity of that data put at risk by clumsy and inattentive hands can attest to the impact that a failure to do so. Indeed, I’m shocked by the leaders in our industry who label it as such — leaders that I think might well feel differently if they had spent even a small amount of time in those shoes.

Without question, recordkeeping is not only a challenging business, it is expensive to stay current with technology, to keep processes and programs current not only with changes both in the laws and regulations, but the nuances of individual plan designs. And as if that weren’t enough, cybersecurity has recently emerged as a significant threat – little wonder in view of the enormous amount of sensitive financial data to which these “commodity” producers are entrusted.

Where recordkeeping does seem to have been “transformed” into a commodity business is in the pricing of those services. Like the gasoline drawn from a pump, economists would tell you that, since commodity products are “interchangeable,” they compete (only) on price – and to do so (profitably) requires that that you have to achieve economies of scale – and the continued downward pressure on fees for those services continues to force firms to exit or flee to the embrace of larger players.

Further fueling those trends, the plaintiffs’ bar has latched onto the “commodity” concept, having (apparently) determined that it is “appropriate” to be compensated for these services by a flat per-participant charge (it started at $35/participant, but has since moved lower). 

Regardless, my personal experience is that those who find themselves working with a service provider or TPA that views those critical services as a “commodity” will, in short order, be looking for a new one.

One More

Well, that’s my list, and while I worked hard to limit it to 10, I have one more to share; what really ticks me off is those who give a microphone (and/credibility) and SHARE those comments (however well-intentioned) to those who say any of the above. And that goes DOUBLE for those in this industry who should know better!

Got one (or more) you’d like to add? Do so in the comments!

- Nevin E. Adams, JD