Over the past two decades, 401(k) and other defined contribution plans have emerged as the cornerstone component of the United States’ retirement system. With Social Security under increasing duress and defined benefit pension plans unavailable to most young workers, the defined contribution structure will only grow in importance.
A thought leadership study sponsored by financial services firm Northern Trust and conducted by research firm Greenwich Associates has resulted in a 12-page white paper, The Path Forward: Designing the Ideal DC Plan. The study surveyed and interviewed U.S. defined contribution plan sponsors and investment consultants on key matters concerning the best structure for a defined contribution plan. Not all of those surveyed agree on every point, and when they don't, the white paper summarizes their viewpoints.
'Ideal' Plan Characteristics
Among the recommendations that received broad consensus:
• Default employee contributions at 5-6 percent of salary, and increase this contribution rate automatically annually until it reaches 11-12 percent of salary, the contribution level commonly recommended for retirement security.
• Allow immediate vesting so that today's mobile workforce can recognize immediate benefit from plan participation.
• Optimize investment menus, limiting funds to a relatively small menu of not-too-complicated, low-fee funds covering broad asset classes. Guide unsophisticated investors into target-date or other managed products. (A smaller number of plan sponsors advocate a larger number of investment options targeting participants of varying levels of sophistication. And some noted that target-date funds often are misunderstood by participants and lack effective benchmarks.)
• Provide guidelines regarding asset allocation to help those participants not defaulting to target-date funds or other managed products to create well-diversified portfolios suitable to their long-term needs and risk-tolerance levels.
• Conduct in-person group educational meetings once, twice or even four times a year. If feasible, offer participants the option of one-on-one meetings, as requested.
• Eliminate or restrict participant loans to cases of proven hardship, removing the temptation to draw on balances for non-retirement-related expenses. (A minority feel that loans should be more widely permittted because, in the words of one plan sponsor, "Although I think it's a bad idea, it's their money.")
Fees Structures: An Open Question
When it comes to fees, the study found little consensus. Roughly half of the surveyed plan sponsors believe that at least three-quarters of plan management or maintenance fees should be passed on to active plan participants. About a quarter of plan sponsors believe that participants should incur from 1 percent to 50 percent of fees, while another quarter of sponsors contended that participants should not bear any plan management or maintenance costs. Most sponsors, however, believe that participants should pay separately for discretionary services such as loans and brokerage windows.
In addition, most plans sponsors believe that plans should provide high levels of transparency and detailed disclosures regarding administrative expenses, investment management fees and participant-initiated transaction fees.
Stephen Miller is an online editor/manager for SHRM.
BrightScope 2010 Top 30 401(k) Plans, BrightScope, December 2010
Plan Sponsors Lack Understanding of Target-Date Funds, SHRM Online Benefits Discipline, November 2010
On the 401(k) Menu—Do More Funds Help Participants Diversify?, SHRM Online Benefits Discipline, re-reviewed November 2010
Tiers Recommended for 401(k) Investment Menus, SHRM Online Benefits Discipline, October 2010
Final Rule on 401(k) Fee Disclosure to Participants Seen as 'Reasoned Approach,' SHRM Online Benefits Discipline, October 2010
SEC Proposes Rules to Disclose Risks in Target-Date Funds, SHRM Online Benefits Discipline, September 2010
Helping 401(k) Participants Pays Off, SHRM Online Benefits Discipline, February 2010
SHRM Online Benefits Discipline