The traditional retirement landscape is rapidly evolving. Despite the prevailing narrative of a looming crisis, several trends have positive implications for older adults.
Many states have passed laws requiring employers to offer a state-run individual retirement account (IRA) program, which third parties and auto-enrolled employees typically run with the option to opt out. This is an important trend to watch for your business.
Social Security
There’s no doubt that Social Security benefits play a critical role in most retirees’ income. But that’s not the whole story.
The reality is that most of the workforce doesn’t have access to employer-sponsored retirement plans such as 401(k)s or even individual retirement accounts (IRAs). Many workers must rely on a “three-legged stool” consisting of Social Security, personal savings, and workplace pensions.
Those with access to pensions have modest incomes in retirement, and many people in the bottom third of the income distribution receive no pension income. This is especially true for women.
The good news is that a solution exists: state-mandated retirement programs. These plans require most private-sector employers unless they sponsor their plan, to offer employees a state-facilitated individual retirement account program that’s auto-enrolled at a fixed savings rate of 3% or 5% of earnings and that increases each year automatically (though an employee can decline the program). EPI has long been a champion of these “auto-IRA” programs and has helped to spread the word about how they can boost much-needed retirement savings.
Pensions
State mandated retirement plans are gaining momentum in the US. The majority of states have implemented or are in the process of implementing programs that require companies of certain sizes to automatically enroll employees into a retirement savings plan, often an IRA, with payroll deductions.
The goal is to help Americans save more and retire with enough income. Many Americans don’t have access to an employer-sponsored retirement plan like a 401(k) or are at risk of not saving enough for retirement.
A traditional defined benefit pension plan typically pays a retiree a monthly amount calculated using a formula, including salary and years of service. These pensions are overseen by the government-run Pension Benefit Guaranty Corporation (PBGC).
A growing number of employers are opting to offer their employees a new type of retirement account, a Roth auto-IRA. These accounts are similar to a 401(k) but don’t carry any fees or administrative costs for the employer. They also offer a wide selection of investment options, including low-cost index funds and the ability to invest in inflation-linked investments.
Employer-Sponsored 401(k)s
Most retirees rely on three income sources: Social Security, employer-sponsored retirement plans, and personal savings. These systems are often referred to as the three-legged stool of retirement planning. However, each leg of the stool is experiencing significant funding challenges.
Many small businesses have difficulty offering employees retirement benefits, which may explain why so many states are mandating them to do so. But, the laws that accompany these mandates can be confusing and complicated for small business owners.
Depending on the mandate, a small business may have to sponsor a government-sponsored plan, offer an individual state 401(k) program, or both. While state-mandated programs can be a low-cost solution, they have some drawbacks. For example, they typically have limited fiduciary responsibilities for the employer and are more inflexible than privately offered plans. This is why SMBS must evaluate all options before deciding which type of retirement savings plan works best for them.
IRAs
A slew of new state-mandated retirement plans could help tackle the looming retirement savings gap. Most of these mandates are aimed at boosting employee participation through auto-enrollment, which is proven to boost retirement savings.
Currently, 14 states have state-facilitated retirement programs active or in the works—most cover private-sector employees, except Massachusetts, which covers only non-profit employers.
One such program is some states require companies of a certain size that don’t offer an employer plan to either offer their plan or enroll workers in the state-run Save for Retirement program. This plan provides low-cost options for employees, and several states are considering allowing them to invest their money in individually managed funds.
Investments
There is no doubt that retirement savings are a major challenge for many American households. Despite the best efforts of lawmakers, regulators, and employers, the gap between what workers earn and what they’ll need to live on in retirement continues to widen.
The federal government has responded to this reality with programs that encourage savings but don’t mandate them. However, these efforts are having only modest effects on the savings behavior of individual workers.
As a result, some states have passed laws requiring employers to offer a state-directed retirement plan. These programs generally require companies to offer a payroll-deducted savings account with the state’s program, but they don’t have to use the state’s chosen provider.
As a result, businesses that don’t offer a retirement plan or are looking to improve their existing plans have been turning increasingly to collective retirement structures like pooled employer plans and master trusts. These solutions reduce administrative costs by handling employee communications, investments, and reporting requirements and transferring the risk of managing assets to the investment manager.
