What Does Your Company 401(k) Plan Look Like?
The 401(k) defined contribution plan, has become the sole source of retirement for more and more Americans. Just recently General Motors announced it will suspend its pension plan for salaried employees. All company contributions will be made to the 401(k) plan. In fact defined contribution dollar totals surpassed defined benefit plans, pension in 2011 for the first time. This trend will continue.
Remember the 401(k) plan was first introduced in 1981 as a supplement to a defined benefit plan by a bank seeking additional retirement funds for executives. It has been sold to companies, as a supplement, since then. It is time for plan sponsors to offer a plan that looks and acts more like the defined benefit pension plan. Currently plans offer a list of funds and the employee is expected to choose the right mix for their situation. This is usually done by looking at the past performance of the funds offered and choosing the funds with the highest performance. This is a huge mistake and often results in unacceptable results.
It is a mistake to offer a huge amount of fund choices and expect employees to make the right decisions. It is important to understand that providing too many choices is a bad thing. The more choices you include in your 401(k) plan, the higher the likelihood that the plan participants will do nothing and simply not participate in the plan or incorrectly allocate their funds.
Most plan participants feel uncomfortable and confused about how to best allocate their 401(k) contributions. When the employee is ready to retire the confusion continues with how to take distributions to make their savings last a lifetime.
As a result of the Pension Protection Act of 2006 401(k) plan sponsors can direct their employees to professionally managed risk adjusted model portfolios based on age. The employee then has the option to change the level of risk or opt out of the models and choose their own mix. Studies have shown that a majority of plan participants will remain in the original model portfolio. The result will be improved performance and less anxiety for the participant. When uncertainty is reduced participants will save more and worry less.