Familiar Challenges Could Dog State-Based DC Plans

At least half of state governments in the United States are exploring or implementing programs to provide retirement savings options for private-sector workers who do not have retirement plans through their employers, according to a report released by The Pew Charitable Trusts.

The report, “How States Are Working to Address the Retirement Savings Challenge: An Analysis of State-Sponsored Initiatives to Help Private Sector Workers Save,” examines efforts in 25 states and finds the vast majority of workers would participate in a workplace retirement savings plan if given a chance. However, it found potential problems state-run plans may face, some of which employer-sponsored defined contribution (DC) retirement plans also face.

The report notes that many state proposals require that employers of a certain size enroll all workers, though these employees can opt out. While some may see state-run programs as a way for small businesses that want to offer a retirement plan to employees to avoid the administrative and fiduciary burdens of sponsoring an Employee Retirement Income Security Act (ERISA)-governed plan, Pew reports that small-business owners express concerns that mandating automatic enrollment could be an administrative burden, which could reduce the appeal of these proposals.

In addition, the report says many proposed laws seek to limit businesses’ responsibilities for implementation; however, unless a state makes a major effort to inform workers and employers about details in such cases, some targeted workers may opt out. Employers may have to engage in ongoing communications with workers about the program—and bear the economic and lost-time costs—if the state does not perform these outreach functions effectively.

NEXT: Will savings be adequate?

States using automatic enrollment in their retirement programs for private-sector employees must carefully consider where to set the initial percentage of employee pay that will go into the accounts—the default contribution rate. Because workers typically do not opt out of automatic enrollment or adjust this default rate once they are enrolled, a rate that is too low could encourage employee participation but result in little savings, forcing the state to administer a large number of small account balances. A rate that is too high could lead to higher balances but could also cause some workers to avoid taking part altogether.

This is a delicate balance employers that sponsor defined contribution (DC) retirement plans also face.

According to the Pew report, states face challenges in generating and protecting workers’ savings over the long run. Low-risk investments make losses less likely but also increase the chances that accounts won’t grow enough to meet retirees’ needs. Some states have looked at ways to guarantee certain rates of return, but that approach also brings possible risks and costs to the state.

Likewise, employers that sponsor DC plans grapple with the right investment choices to offer participants and whether to offer guaranteed income.

“Many states are considering new options for increasing retirement savings, and early indications are that it’s feasible for them to take on this challenge,” says John Scott, director of Pew’s retirement savings project. “Interested policymakers must explore ways to maximize program effectiveness, minimize administrative and financial costs for employers, and manage states’ legal and financial risks. But these priorities can conflict and require consideration of difficult trade-offs, making the task of crafting proposals tougher.”

Pew’s analysis identifies and examines the approaches that states are taking and looks at the specific choices facing policymakers, such as costs; employers’ participation, responsibilities, and liabilities; and rules for employees’ enrollment, contributions, and withdrawals. The report is here.