It’s a simple but important fact: Before a 401(k) retirement plan can be of any benefit to an employee, he or she has to decide to participate in it.
Some workers, pressed by demands of mortgages, families and the cost of living, can’t afford-or choose not to make-the required regular contributions to their company’s plan.
These non-participants forgo what, for many, may be the only chance to build an employer-assisted retirement fund. And they forgo any contribution the company may offer to an employee’s retirement plan, most commonly 50 cents for each $1 the employee contributes, up to a certain limit. In effect, they are turning down free money.
As 401(k) plans have grown in popularity among companies, participation rates among eligible employees have improved.
Among employees offered a chance to participate in a self-directed retirement savings plan in 1993, for example, 67 percent enrolled, said Dallas Salisbury, president of the Employment Benefit Research Institute, at a congressional hearing earlier this summer.
While that’s a big jump from the 39 percent participation level in 1983, it still means that of all employees offered a chance to build tax-deferred retirement savings, one-third decline.
In a 1993 survey of about 500 employers, benefits-consultants Hewitt Associates found that the average participation rate among eligible employees was 75 percent.
In contrast, traditional pension plans, in which companies promise a certain payout based on years of service and final average pay, usually aren’t a voluntary matter. If an employee has worked long enough and qualifies, he or she is entitled to a standard pension if the employer offers one.
Employees who miss out on pension coverage under traditional plans tend to be job-hoppers, who never stay with one firm long enough to build up a pension benefit, or at least a significant one.
A 401(k) plan tends to help job-hoppers, because the plan’s benefits are more portable, according to a July report by the Employee Benefit Research Institute.
“It has been documented that workers with accrued pension benefits can experience pension losses if they change jobs prior to retirement,” said the report, “Baby Boomers in retirement: What are their prospects?”
But participants in defined-contribution plans, such as 401(k) plans, “do not experience the same losses just by changing jobs,” it said.
According to the Hewitt survey, participation rates in 401(k) plans are mostly governed by one key factor: Whether the employer offers to match any of an employee’s contributions.
Plans that offered no match in Hewitt’s survey reported an average 59 percent participation rate, “significantly lower than the 77 percent participation rate of plans with an employer match,” according to Hewitt.
James Miller, managing director and head of the investment management group at Bank of America Illinois, the former Continental Bank, who advises corporate clients on their 401(k) plans, suggested that employers who want to boost participation rates “front-load” their matching provisions.
If an employer, for instance, matches dollar for dollar the first 1 percent of salary an employee contributes, the participation rate will improve.
A plan’s design may also boost participation rates, he said. Flexible plans, some of which allow some sort of borrowing, for example, may encourage hard-pressed workers to contribute, he said.
Another key is education, Miller said, such as informing workers how much money they will need to retire comfortably.
Companies have an incentive to encourage widespread participation: keeping executives happy. Because participants in retirement plans are allowed to defer taxes on their savings until retirement, the U.S. Department of Labor requires companies to treat all employees equally in administering the plans.
As a result, companies with poor participation levels among lower-paid eligible employees are required to limit the participation levels of those who earn more.
