401(k)plans: fact or fiction?
New study debunks many commonly accepted myths.
401(k)s and other defined contribution plans were all the rage back in the 90s and early 2000s. Now it seems they are simply a source of rage.
While the recession had a great deal to do with it—a total of $ 2.7 trillion in retirement assets were lost during this time1 —a recent study reveals that much of the criticism is based on commonly-held beliefs that have proven to be false. The study, which was conducted by New York Life Retirement Plan Services'2 identifies a number of these myths and gives us the knowledge we need to make informed decisions about the future.
Myth #1 – Most of us will not save for retirement.
You may be surprised to learn that more than 92% of employees who are automatically enrolled in a workplace retirement plan remain enrolled over time. That number proves that most of us can and will save for retirement—all we need is a little help getting started.
Myth #2 – We can’t afford to contribute much.
While we all have our own comfort level, the average 401(k) contribution rate for someone making less than $75,000 is 5.6%. For someone making $75,000 that’s an average annual contribution of $4,200 and a still impressive $2,800 for someone making $50,000. That’s significantly higher than the national savings rate, which currently stands at 4.4%,3 so it’s clear that retirement plans encourage savings.
Myth #3 – Automatic features make us feel less empowered.
Many retirement plans contain features that enroll employees as soon as they are eligible or that assign a specific contribution level if one is not selected. While some critics believe these features hinder employee engagement, there is no evidence to support the claim that most of us will “set it and forget it.” In fact, 25% of us change our asset allocation within a year of enrollment, and another 23% change our contribution rate.
So far, all of the myths identified in the study were those that underestimated people’s ability to take advantage of these plans. In some cases, however, just the opposite was true.
Myth #4 – We’re taking full advantage of matching dollars.
Sure, everyone wants matching dollars—but it isn’t always easy to collect the full benefit. The survey found that 70% of participating companies set a contribution default rate that is too low to automatically qualify for the full match. For example: if your company will match up to 3% of your contributions, but the plan is structured so that it pays 50 cents on the dollar, the auto-enrollment setting would need to be 6% to get the full benefit. If not, you will need to manually adjust your contribution rate to make up the difference.
Myth #5 – Everyone knows how harmful loans can be.
Whether it’s a lack of information, or act of desperation, many of us continue to borrow from our 401(k)s. In fact, there is a 1 in 5 chance that plan participants have an outstanding loan balance of $7,000. Even worse, two-thirds of us never pay off these outstanding loans and are forced to pay IRS penalties and taxes. Plus, any money taken out of a plan could miss out on any future gains. How much could all that add up to? Using a bankrate.com calculator, a person 15 years from retirement taking out a $7,000 loan (as mentioned above) at 5% interest would lose $19,6454—almost three times the original loan value.
401(k)s are by no means perfect, however they can—when used properly—be an effective way to prepare for retirement. If you would like to find out if you are making the most of your plan, or are interested in hearing about other ways to build a more secure future, please let us know.
Unless otherwise noted, all statistics quoted in this article represent New York Life Retirement Plan Services’ 401(k) plan participants as of 12/31/2012.
Please consult your own legal and tax professionals before deciding on a course of action. New York Life, it’s affiliates, subsidiaries, Agents, and employees cannot provide legal or tax advice.
1 US News and World Report, “Why retirement should scare you,” September 27, 2013.
2Under a separate agreement announced on December 23, 2014, New York Life Investment Management sold New York Life Retirement Plan Services (RPS), excluding the stable value business, to John Hancock, which will merge RPS with John Hancock Retirement Plan Services.
3US Personal Saving Rate, July 2013, Bureau of Economic Analysis.