With many plans costing anywhere from $5,000 to over $10,000 per year, 401(k) plans are not an insignificant investment for many employers, especially those providing a match. For younger companies, or those with fewer employees, the cost of a 401(k) is a major expense in budgets set aside for employee benefits. However, in an increasingly competitive hiring market, 401(k) plans are a necessity for a majority of American companies looking to create competitive benefit packages for both current and prospective employees. Retirement plans are expected when listing employee perks on job descriptions.
The problem? As the workforce continues to welcome new generations of young people, 401(k) participation rates continue to fall. In fact, only 13% of Vanguard 401(k) participants maxed out their contributions last year, and only 9% of Fidelity 401(k) participants were able to reach the maximum contribution limit. What’s even more distressing for employees is that less than half contribute anything at all to these retirement plans, where they are not on track for retirement. This puts employees at a disadvantage of not being on track for retirement. Many employers are attempting to raise employee 401(k) contribution levels in 2020 simply to make their investment worthwhile. While employers and HR managers can’t require higher contribution levels, there are several ways to help employees save more for retirement that are in your control.
A quick review: What is a 401(k)?
A 401(k) is an employee-sponsored retirement plan in the United States where eligible employees can contribute up to $19,500 in pre-tax dollars. Employees access this money once they’re 59½ years old. The employer selects different investment options for employees to use to fund their 401(k) plan, which differs from individual retirement accounts (IRAs). IRAs have much broader investment options, and are completely controlled by the individual. Employers usually have a startup fee, as well as additional fees related to the size of the organization or the amount of funds that’s being managed (assets under management). The 401(k) plan became popular in the late 80s after pensions, which were the norm between the 1950s and1980s, became overwhelmingly expensive. This encouraged employees to be responsible for their own retirement savings. While initially unpopular, 401(k) plans are now the standard retirement benefit that employers offer in the 21st century. This makes it so important to ensure employees are contributing enough to ensure that they are on the right track for retirement.
3 Ways to Increase Employee 401(k) Participation Rate
- Provide financial education and coaching
One of the biggest barriers preventing employees from taking advantage of the 401(k) plans is a general lack of knowledge of investing and personal finance. According to a recent report by CNBC, nearly two-thirds of American workers are confused about what exactly a 401(k) is and why it is important. For people who were young adults during the Great Recession, investing in stocks could be something they are hesitant to do, especially when they don’t fully understand what they are getting into. In fact, a recent 2019 Harris poll found that 80% of millennial workers don’t own any stocks. Of this 80%, a third of them reported that they simply don’t know how to invest, while another 13% blamed their high student loans. This puts them in an unfortunate group of working adults who aren’t on track for a comfortable future simply because they never received any sort of financial education and don’t know how to invest. The solution to this problem? Providing employees with financial coaching and education to complement 401(k) plans. Often, HR managers are uncomfortable giving financial advice to their staff for liability purposes. That is why many employers are turning to financial wellness companies to work with their staff. While many 401(k) providers have some sort of financial education component to them, they usually only cover issues around retirement, and people are skeptical (with good reason) that these brokers are making commissions off of the recommendations they are providing.
By providing an unbiased financial wellness benefit that covers not only retirement, but also the underlying financial issues that many workers have, like student loans and credit card debt, employers can provide a more holistic solution to employee financial stress, which ultimately leads to higher retirement savings rates. Check out a list of the top financial wellness programs here or on G2: Business Software and Services Reviews.
2. Choose a plan with low fees
Having a lack of financial education is the biggest reason for low 401(k) contributions, but it certainly isn’t the only reason. While 401(k) plans are a great way to boost retirement savings by getting an upfront tax break, selecting the investments inside that plan are limited to whatever an employer selects. Depending on the quality of the plan, this can severely limit your employees, giving them access to only subpar, high-fee investment funds. Lower-quality high-fee investments will deter employees from devoting a higher percentage of their paycheck to their retirement fund. Target-date life cycle funds have made investing much easier for novice investors by automatically diversifying their portfolio and applying an appropriate amount of risk based on age and target retirement year, but many of these funds in lower quality 401(k) and 403(b) providers come with large expense ratios that slowly and quietly syphon hundreds, if not thousands, of dollars from employee savings each year. In fact, in 2019, the average expense ratio was 0.63% for equity funds, and some even reached well over 1%. Compare this to the SPDR Dow Jones Industrial Average Equity Fund (DIA), a popular high-quality index fund, which has an expense ratio of just 0.17%. If workers can invest in high quality funds with lower fees on their own, they are discouraged from investing with the employer plan unless they are saving over $6,000 per year for retirement. While 1% per year in fees may not seem like a lot, over the course of a person’s investing horizon, it can add up to staggering sums. An expense ratio of 1% over 40 working years can make up close to 20% in the value of assets at retirement, which can be hundreds of thousands of dollars. Select a 401(k) plan that has quality investment options with low fees or expense ratios (below 0.5%) to increase employee 401(k) contributions.
3. Provide a match
Many employers opt to provide a match on the amount of money contributed into a 401(k) plan. According to Fidelity, in 2019 the average employer 401(k) match was approximately 4.7%. Providing a match simply means the employer agrees to add a predetermined amount of funds to an employee’s 401(k) in proportion to what the employee has added. Let’s say a company’s policy is to match up to 3% of an employee’s salary. If an employee earns $100,000 per year, that employee would receive a match on contributions up to $3,000, incentivizing them to increase their contributions if they haven’t done so already. A match is effectively “free money” for employees, and is an effective way to increase 401(k) contributions. Although employer matches are also partially offset by tax breaks, they can also be very expensive, and for many organizations that don’t have abundant resources, matches can be too costly to implement. For these companies, the financial wellness benefits discussed earlier in this list are the most impactful, cost-effective option. While a match might cost employers anywhere from $2,000 to $18,000 per employee who takes advantage of them, most financial wellness benefits cost somewhere between $8 and $30 per employee each month.
While 401(k) plans have become the standard benefit employers provide to their staff to help them prepare for retirement, a lack of resources and learning material about investing and personal finance coupled with financial stress causes many employee plans to be critically underfunded. Because 401(k) plans are costly to implement, employers want to make sure they are getting the most out of their investment with consistently high participation and contributions from employees. There are several strategies employers can use to move the needle. These include adding a complementary financial wellness benefit, preferably with one-on-one coaching, to help empower employees to better manage their money. In addition, employers can choose high quality plan options with low-fee investment choices, as well as provide a match to encourage higher savings rates. Of these options, the most cost-effective solution is providing a financial wellness benefit, as these often only cost a fraction of providing a match. Making sure employees are financially secure and on track for retirement is one of the most important ways to demonstrate that you are invested in their wellness and job satisfaction, so start exploring these options today!