Stretching The Limits Of 401(k)s
Traditional pensions are about as scarce today as pay phones, typewriters, tape decks and other detritus of the previous century.
Somewhere along the way employers figured out how to shift more of the costs of financing retirement from themselves to their workers, and there went the old-style pension along with its little advantages such as coverage for everyone in the workplace, professional investment choices and a lifetime of monthly payments.
In the words of retirement professionals, we have shifted from a D.B. (defined benefit) world to a D.C. (defined contribution) world. Instead of knowing exactly how much you will receive in retirement under a defined-benefit pension, you focus now on knowing how much you -- and sometimes your employer -- are kicking in to your defined contribution 401(k) plan. You keep your fingers crossed and hope that you've saved enough to last until you die. Or as gentler souls call it: post-retirement.
But a funny thing has happened now that we've accepted 401(k)s as the shape of retirement plans for the future. As financial experts and public policy folks thought about ways to make these plans better, they realized that some aspects of the old plans were quite attractive. The result, as J. Mark Iwry, a non-resident senior Brookings fellow and a principal in the Retirement Security Project, puts it, is "the DBeatification of the 401(k)."
Two recent trends are gaining momentum that could improve financial prospects for workers heading toward retirement. One is helping ensure that employees get themselves into a 401(k) without having to take direct action. The other provides professional investment choices, again with the worker barely having to break a sweat over it.
If you're one of the many, many workers paralyzed by the prospect of making choices about a retirement plan, these changes could help move you from non-saving to saving.
Back in the old days, if your employer had a pension, you were covered -- you didn't have to do anything to get the coverage. But that protection disappeared with the defined contribution plan. With 401(k)s, workers were allowed to decide whether to participate. According to some studies, about a third of workers eligible to invest in 401(k) plans don't do it.
So smart minds put their heads together and came up with a solution: automatic enrollment.
It may not be an exact substitute for the kind of blanket coverage the old pensions provided, but it's better than the status quo. With automatic enrollment, you can opt out, but, human nature being what it is, most people tend to stay enrolled.
But even though the idea has gained currency, employers have been slow to adopt it because of concerns that it might violate laws against garnishing wages. Last year's Pension Protection Act eliminated that concern and other potential roadblocks, which may mean that automatic enrollment will become widespread. A report last week by Putnam Investments said that a poll of advisers who work with medium and smaller companies on retirement plans found that 75 percent of the companies they advised were planning to add auto-enrollment in the next two years.
Another excellent benefit in defined benefit pensions was that experts were in charge of investing; they were responsible for making sure there would be enough money in the plan when workers retired to pay promised benefits. In 401(k) plans, you and I are charged with making our own investment decisions -- and most of us aren't experts.
When I was making my 401(k) choices, I took the time-honored path of asking my equally clueless co-workers and basing my decisions on that and past performance, although past performance, as we've all heard again and again, is no guarantee of future returns.