September 25, 2007

Auto Escalation A Sure Boost

Low-income workers' 401(k)s likely to benefit most

According to results from the Employee Benefits Research Institute's (EBRI) 2007 Retirement Confidence Survey, there is reason to believe that the introduction of automatic escalation in 401(k) plans will result in a significant increase in 401(k) accumulations, especially for low-income workers, compared with estimates previously determined for automatic enrollment.

The automatic escalation feature is likely to increase overall 401(k) accumulations between 11% and 28% for participants in the lowest-income quartile, and between 5% and 12% for those in the highest-income quartile, EBRI said in a statement detailing its findings.

The report on automatic escalation uses data from the 2007 Retirement Confidence Survey, fielded several months after the enactment of the Pension Protection Act of 2006 (PPA), to ascertain how high-income workers are likely to allow their default 401(k) contributions to go in plans with an automatic escalation feature. The result is a first approximation for the expected impact of automatic escalation under the PPA safe harbors for a number of different assumptions about worker and employer reactions, EBRI said.

Assuming that all 401(k) plan sponsors would adopt automatic enrollment immediately in 2005, the median replacement rates for the lowest-income quartile increased from a 23% baseline, even under the conservative assumptions of a 3% default contribution rate and a money market default investment, EBRI said.

When the default contribution rate was increased to 6% and the default investment was changed to a life-cycle fund, the median replacement rate for this group increased further to 52%.

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