As part of a new law designed to encourage more people to save for retirement, the U.S. Department of Labor has proposed rules to guide companies that automatically enroll workers in certain retirement savings plans, including a 401(k).
The Pension Protection Act of 2006, signed recently by President Bush, made it easier for companies to force employees to save for their retirement. I used the word “force,” but I don’t mean it in a negative way.
After all, traditional pensions, known as defined-benefit plans, are about as rare as a belt on many a young teenager’s pants. Both are left hanging.
Workers can no longer count on their employer putting away money for their retirement. Thus the 401(k) and similar employer-sponsored retirement plans were born.
For the most part, workers are signing up for them, electing to take pre-tax dollars and invest them in various investment options.
But there are still holdouts. About one-third of eligible workers do not participate in these defined-contribution plans, according to the Labor Department.
To encourage workers to save, some employers decided to automatically sign up workers. The theory is that once you enroll employees in a 401(k), most won’t make the effort to stop the contributions.
Some companies, however, worried that they may be sued for such a paternalistic move, have balked at creating an automatic enrollment system.
That’s where the new law comes in. Chiefly, the law amends the Employee Retirement Income Security Act to shield fiduciaries of individual account plans when certain default investment alternatives are selected for workers.
To get this liability protection, the Labor Department wants to make sure companies follow certain guidelines. Here are some key things the department proposes:
* Companies have to give employees and beneficiaries 30 days’ notice before the money is invested. And they must continue to get such notice each year.
* Companies have to be clear about the investment options available to those who are automatically enrolled.
* If an employee’s contributions are placed in a default investment option, he or she can’t be financially penalized for switching the money to a different option.
* The default options must be diversified to minimize the risk of large losses.
* An employee’s money has to be invested in a “qualified default investment alternative,” or QDIA. Under the Labor Department proposal, a QDIA has to be a life-cycle or targeted-retirement-date fund, a balanced fund or a professionally managed account.
A life-cycle fund or target-date fund allocates the money you invest according to a preset schedule based on your target retirement date. The longer you have until retirement, the more aggressive the fund may be.
A balanced mutual fund typically has a combination – or balance, thus the name – of stocks and bonds with a goal of preserving your principal investment and providing some income. And just like it sounds, the third option for automatically enrolled employees would be a professionally managed account.
Typically, companies that automatically enroll employees put their contributions in either a money market mutual fund or a stable value fund, according to Dallas L. Salisbury, president and CEO of the nonprofit Employee Benefit Research Institute. A stable value fund generally has returns that are a few percentage points higher than a money market fund.
The new choices outlined by the Labor Department are aimed at helping employees gain greater returns over the long term. However, Salisbury is concerned that employees who cash out of their retirement account in the short term will be subject to wild swings in the market and could end up losing money.
“As a plan sponsor, if this is what the regulation says, I would not adopt it,” Salisbury said.
Salisbury does make a good point given the fact that many employees with relatively small amounts of money in their 401(k)s do cash out when they change jobs.
In fact, if you’ve got an opinion about the proposal, now’s the time to speak up. The comment period runs through Nov. 13. Comments on the proposed regulation should be directed to the U.S. Department of Labor, Employee Benefits Security Administration, Room N-5669, 200 Constitution Ave. NW, Washington, D.C. 20210, Attention: Default Investment Regulation; e-ORI@dol.gov; or .
For questions about the proposed regulation, contact EBSA’s Office of Regulations and Interpretations at 202-693-8500.
Overall, I support automatically enrolling people in a retirement savings plan. Nobody is locked in, and this is an example of where inertia could help folks in the long term.
Washington Post Writers Group
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