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I'm on a committee to recommend a 401k policy for my firm. We've been discussing whether to automatically enroll all employees (they could opt-out), and also to auto-increase contributions with raises. What are the costs and benefits to these policies for our firm and employees? And are there rules

Feb 20, 2013 by Liam from Manhattan, NY in  |  Flag
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8 votes

Hi Liam, In addition to what has already been stated, there are a couple of other points:

Auto-enrollment will actually drive up the administration/recordkeeping costs of the plan, at least at first, because you'll have more accounts. This assumes your provider charges either per head or per eligible employee, which is common. It will especially increase expenses if you have high turnover and the plan bears the expense for the terminated employee accounts. If your provider prices your plan based on average account balance with higher = better, that might also be impacted as you'll have a whole lot of new and presumably small accounts added, pulling the average down. If the participants and not the employer are bearing the cost of the plan (i.e. paying all the fees/no hard dollar charge to the employer), the company may not feel it. Either way, take note of what formula is used to price your plan and what impact that will have.

Also, an eligible automatic contribution arrangement (EACA) can allow automatically enrolled participants to withdraw their contributions within 30 to 90 days of the first contribution. That seems to solve employee grumblings if they meant to opt out because they can get a refund if they act within that window. Generally EACA can't be added to the plan mid-year though.

Here's a basic overview from the DOL's website: http://www.dol.gov/ebsa/publications/automaticenrollment401kplans.html It addresses the part about the match and the Qualified Default Investment Alternative.

And the IRS FAQ is here http://www.irs.gov/Retirement-Plans/FAQs---Auto-Enrollment---Can-an-employer-add-an-automatic-contribution-arrangement-to-its-existing-retirement-plan%3F

Hope this is helpful!

Comment   |  Flag   |  Feb 20, 2013 from Alexandria, VA

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7 votes

Hello Liam. According to a 2009 survey by Deloitte, plans with higher participant or employer contribution rates tended to have slightly lower 'all-in' fees. This trend was primarily driven by the service providers in that plans with higher levels of participant or employer contributions, may lead to plan growth. These plans are generally viewed as more attractive than those with lower expected asset growth. As a result, expected plan asset growth was a key element for service providers to consider when determining fees. Providers can plan for higher expected investment revenue from these plans over longer - term periods, and as such, may offer pricing (and bear the risk) aligned with those expectations. I hope this helps and good luck!

Comment   |  Flag   |  Mar 08, 2013 from Newport Beach, CA

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Hi Liam - There's a chance you might get a mixed bag of answers on this. Auto-enrollment and auto-escalation have gradually been gaining favor inthe retirement plan industry. Most studies have now come back and shown that they can greatly impact overall participant success, so I'm certainly a fan and have assisted many clients with its implementation. We've seen several companies double their plan's participation and average deferral rates by implementing these strategies. In the retirement savings game, intertia is a killer. Have auto-enrollment and auto-escalation are, without a doubt, game-changers.

There are right ways and wrong ways to do implement this however. Believe it or not, but higher auto-enrollment rates (5% and above) have actually been shown to result in fewer opt-out's compared to lower auto-enrollment rates (1-3%), based on several studies out there. Also, I believe that if you implement auto-enrollment, you really need to ensure auto-escalation is included. It's like peanut butter and jelly. Having one without the other just doesn't make sense and certainly won't taste as good (i.e. have the same impact on participant success). Having auto-escalation set to occur at the same time for everyone that was auto-enrolled is the easiest way to administer it. So, having it set for the beginning of each year is the most common setup.

This can also benefit the entire plan by increasing assets more quickly. Typically, the more assets you have, the more access to services and investment options the plan will have at a lower cost (as a % of total assets). That's just economies-of-scale.

Consider applying it to all employees, not just new employees after implentation. Otherwise, the impact is greatly diminished. Also, be sure to have Qualified Default Investment Alternative (QDIA) in place so the participants are invested into something appropriate and so the fiduciaries have some level of protection.

The cost is usually pretty minimial. Most providers will be glad to assist and not charge anything for it since it gets more assets in the plan (which ususually means their revenue goes up). However, the provider may charge if you want them to automatically send the required notices and enrollment materials to newly eligible participants. It just depends on the contract. But you could also just do that yourself. Just make sure employees get the notices or the plan can get into trouble.

Hope this helps and good luck!

1 Comment   |  Flag   |  Feb 20, 2013 from Virginia Beach, VA
Jason Hull

This. I'm not a huge fan of paternalism, but Craig's nailed the behavioral aspects of why a SMaRT (Save More Tomorrow) plan is great.

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Flag |  Feb 20, 2013 near Fort Worth, TX

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Jason Hull Level 20

Liam--

One thing that you'll want to consider is the tendency for 401k providers to lower the match when they have auto-enrollment so that the overall costs remain neutral. If you expect reasonable participation, then perhaps the higher match is more important. I'm still a big fan of Craig's answer, but research from Boston College shows:

"The so-called 'default' rate that employers in the study with auto enrollment set for employees who don’t actively choose their own contribution rate was only 1.8 percent of pay. This level is below the maximum possible match – 3.2 percent on average – available from these employers. And while one in five employers automatically increases the default contribution rate over time, this pushed up the rate to only 2.1 percent. The default rate is particularly important because many 401(k) participants tend to stick with the default, effectively staying where they are put."

You can see the full article here: http://fsp.bc.edu/corporate-match-falls-in-auto-enrollment/

Comment   |  Flag   |  Feb 21, 2013 from Fort Worth, TX

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Peter C. Karp Level 20

Liam,

The majority of employers recognize the powerful impact auto-enrollment plays in preparing workers for retirement. The conversation has shifted from if to implement auto-enrollment and auto-contribution increases to when we should implement these features. The Pension Protection Act acknowledged that saving for retirement needed to be more accessible, simple, and automatic. As a result, we began to see a steady rise in the number of employers utilizing auto-enrollment features.

The 401(k) was once considered an opportunity for an individual to assume responsibility for his or her retirement - empowering personal control over their financial future. But the reality that the individual was ill-prepared to create and maintain a long-term financial plan became abundantly clear, and it has fallen to the employer to offer a plan that allows the individual to succeed with minimal (or no) effort. The current philosophy or plan design is no longer centered on empowering the individual, but rather maximizing savings through plan design.

79% of auto-enroll plans set deferral rates at 3% or lower. Participants auto-enrolled at a low rate slowly increase their contribution rates over time to the national average. The higher the default auto-enroll contribution rate, the LESS likely participants are to opt out of their 401(k) plan. Many plans only auto-enroll new participants as opposed to the entire employee population. This means older workers or employees who stopped saving and have not yet re-enrolled are missing the benefit their less tenured counterparts enjoy. Automation does not mean eliminating individual choice, but is rather the hallmark of a modern, effective plan.

Auto-enrollment can be used by any size company and typically involves amending your plan document. There maybe some additional costs from providers if they are charging you per participant charges. More information about the benefits and guidelines of implementing this feature can be found at the DOL’s website http://www.dol.gov/ebsa/publications/automaticenrollment401kplans.html. We have had numerous conversations with clients from different industries and plan sizes. We are available for consultation at 415-345-8185 or email peter@karpcapital.com.

Disclosure: The posted information is for informational purposes only. This message does not constitute an offer to sell or a solicitation of an offer to buy any security. All opinions and estimates constitute Karp Capital's judgment as of the date of the report and are subject to change without notice. Accordingly, no representation or warranty, expressed or otherwise, is made to, and no reliance should be placed on, the fairness, accuracy, completeness or timeliness of the information contained herein. Securities offered through Financial Telesis Inc., member SIPC/FINRA. Financial Telesis Inc. and Karp Capital Management are not affiliated companies.

Comment   |  Flag   |  Feb 26, 2013 from San Francisco, CA

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Liam, if you make the plan a QUALIFIED automatic enrollment plan, the 401(k) ADP discrimination is deemed to have passed. This will allow your higher paid employees to contribute more into the plan.

The only additional cost would be more company match since there will be greater participation and contributions. Be sure your TPA provides the proper notices to employees and the document is amended. Communication with the employees is vital and required when implementing and automatic contribution provision.

Comment   |  Flag   |  Feb 20, 2013 from Montgomeryville, PA

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Hi Liam, I think it has more to do with what type of employees you have. If you employees are predominately salaried, and provide "intellectual support", than an auto-enrollment as well as an auto increase, should work for the company. On the other hand, if the company is "labor intensive", I would not go with the auto feature. I have found that many manufacturer companies have a low particiatipation rate, as well as a high with drawal rate. Best of luck, Angela

Comment   |  Flag   |  Feb 20, 2013 from Narragansett, RI

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This can work really well, but you will not be able to auto-increase contributions based on individual raises. You must auto increase uniformly, not through individual raises. It should raise participation rates tremendously

There really should be no additional costs, other than a small per employee administirative cost that is typically borne by the employees. Assets should grow in the plan much more quickly, thus reducing admin costs overall.

There will also be more administrative paperwork, at least in the beginning, simply because you are enrolling everyone, and have some opt-outs. You may need to consider employer matching contributions. But auto-enrollment can be structured with a safe harbor that is cliff vested after 2 years; typically safe harbor is vested immediately.

There are rules for auto-enrollment, but I don’t know of any rules to restrict types of companies.

Here’s a great link to a Department of Labor brochure http://www.google.com/url?sa=t&rct=j&q=&esrc=s&frm=1&source=web&cd=3&cad=rja&ved=0CEIQFjAC&url=http%3A%2F%2Fwww.dol.gov%2Febsa%2Fpdf%2Fautomaticenrollment401kplans.pdf&ei=0SclUfCgPIfK9QS0oYCQBw&usg=AFQjCNHipUJKyGENj48fkGU5rLFRTfVk7A

Comment   |  Flag   |  Mar 08, 2013 from Delray Beach, FL

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