How Plan Design May Impact Participant Behavior
Based on analysis conducted by the Principal Financial Group®, employees may need to save at least 10 percent of their pay plus employer contributions over their entire working careers to have enough income in retirement. This assumes they may need about 85 percent of their pre-retirement income to maintain their current lifestyles after they retire. Each individual's situation is unique, though, so savings and post-retirement needs may differ.
We suggest three steps to retirement readiness:
- Strategic measurement
- Plan design changes
- Goal driven education
One of the steps that can help toward reaching your retirement plan goal is plan design changes. To help optimize your participants' opportunities to become more ready for retirement, consider the following plan design best practices:
Leveraging the automatic enrollment default rate
|3% Default Rate||6% Default Rate|
|11%+ Savings Rate||35%||50%|
|6-10.99% Savings Rate||65%||50%|
As illustrated above, increasing the automatic enrollment default rate to 6% or more can have a positive impact on participant savings rates overall. In plans that have a 6% default deferral rate, nearly 50 percent more participants (50%) reach an overall savings rate of 11% or more compared to those in plans with a 3% default rate (35%).
The power of the match
|100% up to 2% of pay||2%||6.8%||8.8%|
|50% up to 4% of pay||2%||5.9%||7.9%|
|25% up to 8% of pay||2%||7.1%||9.1%|
In the three different employer match formulas, the employer contribution is the same. You can see as the match "stretches," the participant contribution tends to increase without increasing the overall matching contribution amount. "Stretching" can be a way to incent participants to save at more adequate levels.
Automatic features encourage savings behavior
We do not see a high opt out rate of the automatic enrollment or automatic escalation default features, but rather a very small percentage of participants actually sign up voluntarily for an automatic escalation. As a result, inertia works in plan sponsors' favor here. 88% of employees participate in an automatic escalation program when it's a default feature, though only 6% participate when they have to sign up on their own.
|Plan Feature||Participant Action|
|Automatic enrollment||9% of participants opted out|
|Automatic escalation (Default feature)||12% of participants opted out|
|Automatic escalation (Voluntary choice)||6% of participants opted in|
Consider making plan design changes to help your participants get more retirement ready.
Contact your financial professional or representative from The Principal® for more information.
- Based on analysis conducted by the Principal Financial Group, August 2013. The estimate assumes a 40-year span of accumulating savings and the following facts: retirement at age 65; a combined individual and plan sponsor contribution of 12 percent; Social Security providing 40 percent replacement of income; 7 percent annual rate of return; 2.5 percent annual inflation; and 3.5 percent annual wage growth over 40 years in the workforce. This estimate is based on a goal of replacing about 85 percent of salary. The assumed rate of return for the analysis is hypothetical and does not guarantee any future returns nor represent the return of any particular investment. Contributions do not take into account the impact of taxes on pre-tax distributions. Individual results will vary. Participants should regularly review their savings progress and post-retirement needs.
- Assuming pre-retirement annual gross income of $40,000. Aon Consulting's 2008 Replacement Ratio StudyTM http://www.aon.com/about-aon/intellectual-capital/attachments/human-capital-consulting/RRStudy070308.pdf
- Chart source: (3% Default Rate) Based on group of 24,985 participants in 165 plans with a stated employer match, and a default deferral percentage of 3% as of 12/31/12. (6% Default Rate) Data based on group of 4,581 participants in 42 plans with a stated employer match and a default deferral percentage of 6% as of 12/31/12. Deferral percentages presented are of those participating in the plan (does not include anyone that has opted out to 0%).
- Chart source: The Principal Financial Group. Analysis based on 172 contracts that showed a stated match formula. Total contribution percentage includes participant contribution and employer match (as of 12/31/2012).
- Chart source: The Principal Financial Group. Data based on a combination of 42,807 participants opting out of Automatic Enrollment or Automatic Increase as of 4/25/13 and 65,662 opting in to Principal Step Ahead Retirement OptionSM as of 3/31/13.
Insurance products and plan administrative services are provided by Principal Life Insurance Company, a member of the Principal Financial Group (The Principal), Des Moines, IA 50392.