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Retirement Readiness

by Renee M. Rettler, The Principal Financial Group®, Appleton, WI

Retirement readiness is everywhere these days. With more than 10,000 baby boomers turning 65 every day from 2011 to 2030[1], the concern about whether retirees are financially prepared for retirement is real and something we need to start acting on - now.

  • 48% of workers have less than $10,000 in savings and investments (not including the value of primary residence and defined benefit plans)[2].
  • 58% of employees have not calculated their financial needs for retirement[3].
  • 5.3% was the average pre-tax salary deferral rate for 2001 and 2010 (no change)[4].
  • 6% or more - what 56% of pre-retirees estimate they can spend each year of retirement. Actual withdrawal rates should be more in the range of 4 to 5% a year[5].

If you combine these startling statistics with the fact that 62% of plan sponsors feel they have some obligation to prepare their employees for retirement[6], you can see why retirement readiness is something we need to start acting on.

The retirement industry generally uses a target replacement ratio of 85% of projected salary[7] prior to transitioning to retirement as a way to help measure if an employee is on track. After all, the true measure of retirement planning success is the size of a participant's account at retirement and whether it can sufficiently replace an adequate level of income at retirement.

At first blush it may appear that much of the focus around retirement readiness is on increasing an employee's 401(k) plan balance using a combination of the following strategies:

  • Increasing participation rates — automatic enrollment at 6%,
  • Increasing deferral rates — automatic escalation 1% a year up to 10%,
  • Improving investment decisions — diversification of retirement funds among investment options from various asset classes.
  • Stretching the matching contribution — a match of 100% up to 2% or 25% up to 8% both cost the employer the same amount. However, the match of 25% up to 8% can increase deferral rates from 5.3% to 7.2%[8].

Some employees are fortunate enough to have another feather in their retirement readiness cap — their Employee Stock Ownership Plan (ESOP) balance!

Most companies that have an ESOP also have a 401(k) plan. Company contributions to participants' ESOP accounts can be significant and are positioning many employees to retire ready. Research from the National Center for Employee Ownership (NCEO) shows that ESOP participants receive company contributions of about three times as much in their ESOP account than comparable employees receive in their 401(k) plan account.

What we know about the current workforce however, is that it is mobile. Even though the contributions going into a plan may be three times as much as a 401(k), to truly know if your participants are reaping the long-term benefits you need to analyze your turnover and tenure rates. A participant may need to be saving around 11-15% over their working career in order to be financially ready for retirement[9]. Just because your plan offers this doesn't mean a previous employer did. Looking at their lifetime of savings is imperative for your employees to know if they will be ready or not.

When participants are modeling their balances to determine if they are on track to retire, all savings sources need to be taken into account, including the ESOP. There are many tools that you can use that allow employees to see the potential impact of a change in their deferral rate on their 401(k) account balance at retirement. You can enhance these calculations by allowing participants to also see what their ESOP balance might be at retirement. In order for your participants to get an idea of their ESOP account might be worth, it would be helpful to first do some education on anticipated ESOP contributions and potential stock value growth so they enter reasonable assumptions into their calculation. Some tools may allow you to hard code amounts into the tool to help produce a more realistic amount at retirement.

As you are discussing the role the ESOP can play in retirement readiness, take advantage of the opportunity to remind employees that the work they do every day can impact the company stock value, and in turn, the amount they could have in their ESOP account at retirement. You may want to share specific examples of how employees can help increase revenue and decrease expenses. Encourage your employees to share their own ideas and recognize those who have suggested changes that have been implemented. Sharing how employees' ideas have impacted the stock value can be a very powerful motivator for other employees to look for improvement ideas.

You could also consider sharing the average amount that has been paid to retirees. Testimonials are a great way to help employees appreciate the ESOP. Invite your retirees to come back and speak to your participants about how the ESOP has helped them fulfill their retirement dream.

There is no doubt that retirement readiness will continue to be a very important issue for employees and employers alike. Providing the tools and information to help your employees understand their current situation will help them to make necessary changes in their savings and spending habits. ESOP participants are fortunate to have an additional source of retirement funds. When they understand the impact the ESOP can have on their financial security in retirement, their appreciation of the ESOP should increase. This appreciation can, in turn, result in improvements in employee performance, improvements in company performance and possibly stock value, and finally increases in ESOP balances. Quite a wonderful cycle!

[1]
"Ready or Not, First Baby Boomers Turn 65 This Year" written by Emily Driscoll, published January 28, 2011, FOX Business.
[2]
EBRI Retirement Confidence Survey, 2012.
[3]
EBRI Retirement Confidence Survey, 2012.
[4]
Plan Sponsor Council of America (PSCA), September 2002-2011.
[5]
The Principal Financial Well-Being Index, Q1 2010.
[6]
Annual 401(k) Survey Retirement Readiness, Deloitte, 2010.
[7]
Aon Consulting's 2008 Replacement Ratio Study TM.
[8]
Principal Financial Group analysis, December 2011. Data based on a group of 6,560 contracts that show a stated match formula.
[9]
2011 Principal Financial Group Retirement Readiness Analysis.

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