Imagine, you’re ready to transition into retirement, financially secure, barely having planned for it. Is that even possible without winning the lottery, receiving a large inheritance or having an old-fashioned pension plan? As more employers add automatic features to their 401(k) retirement plans, one day this could be possible. Some pieces of the puzzle are already in place. Others will be coming soon. Here’s how they could help you now and in the future.
A key ingredient to any successful retirement strategy is savings. Employers have been using automatic enrollment in 401(k) and other retirement plans for well over a decade. This feature in a 401(k) plan means that your salary contributions, or your savings, will start automatically without you having to do anything. While you may stop your retirement savings at any time or “opt-out” before they even start, less than 1 in 10 do. The data around automatic enrollment has shown it incredibly useful to help people start their savings journey to retirement. In fact, according to a recent study by Vanguard, automatic enrollment is used in nearly half of retirement plans today, a three-fold increase since 2007. Also, in 2018, two out of three new participants in workplace retirement plans started their retirement savings because of automatic enrollment. Starting early and consistent savings are two critical pieces of the puzzle automatic retirement plan features help put in place.
Most retirement plans that use automatic enrollment will start your savings rate between 3% and 6% of your salary. If your retirement plan offers a matching contribution, when you start saving, you generally begin receiving the match as well. Now, retirement experts frequently state that you should strive to save 15% of your salary to put yourself on a successful path to retirement. Even with the most generous of employer matching contributions, if you rely solely on automatic enrollment, it won’t be enough to produce the level of savings you need to replace your income in retirement. The good news is, when you are automatically enrolled in your 401(k) plan, there is a 2 out of 3 chance that your plan will also annually increase your savings rate. This “automatic increase” function usually means that unless you decide otherwise, your savings rate will eventually hit 10% or the endpoint your retirement plan has set. With a consistent savings rate of 10% and the potential help of your employer match, without any decisions on your end (other than not to stop saving), you could automatically have the savings piece of a financially secure retirement in place.
You won’t have a financially secure retirement if your automatic savings don’t grow. Don’t worry. There are automatic investments. If you are automatically enrolled in your retirement plan, your plan will also designate a default investment option. Nearly all retirement plans use an investment option known as a target-date retirement fund as their default strategy. While specific investment options can be different, they share a common goal: To provide a single diversified investment strategy that will help your savings grow while gradually adjusting over time as you approach retirement.
As an automatic investment option, target-date retirement funds are a compelling option. Especially when you consider the only data point they have to use is your age. However, the retirement industry and your employer realize that just because you have the same birthday as someone else, it doesn’t mean you have the same investment needs. Today, there are already innovations that will automatically factor in other data points to determine an investment strategy more customized to you. One example is a managed account. While not new, with improved data sharing and technology, they could automatically factor in details your employer and retirement plan provider know about you. For example, along with your age, your income, retirement account balance, and savings rates can help to determine a more customized investment strategy automatically. This way, as your financial life evolves, your investment strategy will also. Without having to make any major decisions so far about your retirement, two major puzzle pieces are already in place. But what happens when you inevitably change jobs?
Unfortunately, job change is one of the single most significant threats to a secure retirement. There are two primary reasons why: Interruption to your consistent savings and the potential to raid your savings. The emerging solution of auto portability will help with part of the challenge. Today, when you leave your job, you have to decide what will happen to your savings in your retirement plan. Soon, there will be an automatic option that will move your retirement savings from your retirement plan at your old company to the retirement plan at your new one. Like with automatic enrollment and automatic investments, you have the option to make a different choice. However, there will be a similar path to help preserve and transfer your retirement savings automatically as you change jobs.
Auto portability will not solve for the resumption of your retirement savings. However, the trends would tell you there is a strong chance your future company will have automatic enrollment and automatic investment solutions. That way, if you are still not inclined to make your own decisions, the automatic features will be there to help you continue on your path to a financially secure retirement.
While you can still find pension plans today, they are not common in the modern workforce. However, recreating a pension-like benefit in your retirement plan is not far off. The distribution phase of your retirement savings is the most complex and individualized aspect of creating a financially secure retirement. While this might not be an “automatic” element of your retirement plan now, it will be available in your retirement plan soon. To gain broad acceptance in 401(k) plans, investment options designed to create retirement income will need additional safe harbor protections for employers and a more comprehensive understanding by individuals. With a recent announcement that the SECURE Act is moving through Congress, some of the long-anticipated legislative help could arrive sooner than later.
The details of automatic enrollment and automatic investments will vary from one retirement plan to another, yet the underlying concepts will be similar. However, the way employers decide to offer retirement income could be completely different in almost every way. One solution available today is a specific investment in your plan that provides guaranteed minimum withdrawal payments to you in retirement, along with the flexibility to access your savings if needed. Another solution that will emerge is a service to help purchase annuities outside your plan cost-efficiently. One more example is a specific set of investment options managed to produce consistent income for retirees. Finally, underdevelopment is another option that would include longevity annuities built into select investment options in your plan. Their purpose is to ensure you don’t outlive your money.
Relying entirely on the automatic features in your company retirement plan won’t ensure a financially secure retirement today. Even if automatic savings or investment defaults are not exactly what you will need to replace your income in retirement, they will ensure you have something to work with when you decide to start planning the financial aspects of your retirement. With the launch of auto portability and as retirement income gains traction, more pieces of the puzzle will be in place to minimize the stress and financial decisions needed along your journey to retirement.