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401(k) Auto Enrollment And Contributions On The Rise

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Two new studies suggest that automatic enrollment is gaining increasing acceptance as an effective way to encourage employees to increase their savings for retirement.

One study, by Hewitt Associates Inc., found an increasing number of employers are adopting advanced 401(k) plan features like automatic enrollment, automatic escalation of contributions and default investment selections.

Another recent study by AARP and allied groups shows employees are nearly unanimous in favor of being enrolled automatically in their employers’ 401(k) plans.

Automatic enrollment in a retirement savings plan has a number of benefits, Hewitt notes, such as reducing the effects turnover may have on participation; raising participation levels, which helps plans pass required annual nondiscrimination tests imposed by the IRS; and cutting the time companies and benefits administrators spend encouraging employees to participate.

Hewitt surveyed more than 300 mid- to large companies (median size: 5,000 employees) offering 401(k) plans. It found only 25% of employers thought that a high participation rate was the main gauge of success for their 401(k) plans, down from 43% in 2005. Instead, more are focusing on their plan’s ability to generate an adequate retirement income for employees.

As a result, more companies are structuring their plans to ensure not only that employees enroll, but also to improve the quality of their participation, according to Hewitt, an employee benefits administrator and consultant in Lincolnshire, Ill.

Hewitt found 34% of surveyed firms automatically enrolled employees in their 401(k) plans in 2007, up from just 19% in 2005.

Of those firms, more than 77% automatically signed up employees in a default investment option consisting of a diversified, relatively moderate-risk portfolio such as target-risk, target-maturity or balanced funds. This is up from 39% in 2005. The most popular default option was target-maturity portfolios, which more than 50% used as a default.

To boost employees’ saving rate, 83% of these companies set their default contribution rates at 3% of salary or higher, compared to just 66% two years ago. In addition, 28% combined contribution escalation with automatic enrollment, with more than 40% automatically increasing employees’ contribution rates over time, escalating them at 1% a year to a maximum of between 8% and 15% of salary.

“Companies realize that simply automatically enrolling employees into the 401(k) plan will not get workers where they need to be in terms of retirement savings,” says Pamela Hess, director of retirement research at Hewitt Associates. “As a result, they are shifting their priorities from basic enrollment to quality enrollment.”

An increasing number of companies are also offering workers tools and features that simplify 401(k) investment selections. Hewitt found 42% offered automatic rebalancing in their plans, up from only 26% in 2005 and 11% in 2003. In addition, 77% now offer target-risk or target-maturity portfolios, up from 63% percent in 2005. Among those plans, 58% offer target-maturity funds portfolios, 31% offer target-risk and 10% offer both.

Moreover, 40% offer outside investment advisory services, up from 28% in 2003. The services include 20% offering online advice and 11% offering managed accounts.

An increasing number of companies are taking a closer look at 401(k) plan fees, a trend Hewitt attributes in part to a surge in government and media scrutiny of 401(k) plan costs. In fact, 61% of employers said they were very or somewhat concerned about plan expenses, while 60% have attempted to calculate the total cost of maintaining their 401(k) plan, consisting largely of fees for the cost of administration and fund management as well as employer contributions, up from 34% doing so in 2003. In addition, 57% have made efforts to reduce fund or plan expenses in the past 2 years.

“Companies can help employees save hundreds–even thousands–of dollars in retirement savings simply by offering lower-cost funds in their 401(k) plans,” Hess notes.

Other key findings of the Hewitt survey:

–20% of employers increased their matching contribution over the past 2 years.

–44% immediately vest employees in employer contributions, up from 34% in 2005.

–Nearly 60% offer non-mutual fund alternatives as part of their 401(k) plan. Among plans with over $1 billion in assets, 46% offer only institutional vehicles, while only 12% offer none or only 1 institutional option. (Institutional vehicles are separate accounts and collective trusts.)

The AARP study found that 98% of U.S. adults enrolled in an automatic 401(k) plan are glad their companies offer the feature, with 79% expressing strong agreement that they are happy with the feature. In addition, 95% of those in an auto plan agreed that it has made saving for retirement easy, and 85% agreed that it helped them start saving for retirement sooner than they had planned.

The AARP study was part of a new campaign the association has launched to encourage more employers to offers auto enrollment.

The campaign, dubbed “Retirement Made Simpler,” is cosponsored by the Financial Industry Regulatory Authority and the Retirement Security Project, Washington.