Participant Misperceptions

Art by Kiki Ljung

Advisers with their plan sponsor clients have to conquer many fiduciary and plan design basics when setting up a retirement plan. Yet they might not think about the misconceptions that participants have about these plans and retirement saving—which could impede setting savings goals.

“Some of the most harmful misconceptions that participants have have to do with feeling that retirement plans are so complicated that a person can’t make prudent decisions,” says Molly Beer, an executive vice president in the retirement plan consulting practice at global insurance brokerage Gallagher. “The mere idea of using the plan to get themselves to retirement can feel overwhelming.”

Additionally, young participants may feel that retirement is so far away, they can put off starting to save, says Christian Mango, president of Financial Fitness for Life, a financial wellness provider.

Many advisers say these and other misconceptions, such as what deferral rate to choose, can be largely resolved through automatic enrollment and automatic escalation. Still, it is not enough to use auto-features without also providing communication and advisory support.

Another potentially confusing feature of retirement plans that precludes people from participating is the vesting schedule, especially when a participant must wait years to receive the employer match, notes Erik Daley, managing principal at the Multnomah Group.

On top of this, he says, there is no single agreed-upon calculation for making the retirement income projections; recordkeepers must provide these on participants’ statements starting this fall, under the Setting Every Community Up for Retirement Enhancement (SECURE) Act.

“While the intention and purpose of these projections is good, the assumptions going in will greatly diverge and could confuse some participants and give others a false sense of security,” Daley says. “Some participants may even think these projections are a guarantee of income.”

Another misconception, says David Swallow, managing director of consulting relations and retention at TIAA, is that low-cost investing is superior and it will always lead to higher portfolio balances—even a larger pot of money at retirement. “We think low-cost investments should be part of a diversified lineup, but they don’t always translate into better performance,” Swallow says.

Hand in hand with this challenge is participants’ pursuit of the current best-performing funds, Daley says. Those funds might look good now, but that does not mean they are the best option.

On the subject of annuities, Swallow says the retirement plan industry is now coming around to the idea of prompting those who reach retirement to purchase an annuity outside of the plan. Through its many surveys, TIAA has found that 69% or more of employees place guaranteed income as a top retirement goal, he says.

“But if they wait until retirement, they will pay retail prices, and the psychological hurdle of purchasing an annuity at that point will keep them from taking that step,” he says. “We think sponsors should give participants the opportunity to have lifetime income options in the plan. That gives people financial confidence. Purchasing an in-plan annuity minimizes people’s risk and increases their retirement income. That said, participants need to assess what is right for their particular situation.”

Then there is the issue of fees. “A prevalent misconception among participants is the notion that the retirement plan has no fees,” Daley says. On the flip side of this, some participants think they need to go with expensive investment options with advice embedded in, such as managed accounts. “This could lead to the participant being sold a service or a product they don’t need,” he adds.

Adequate deferral rates are also critical, says Michael Montgomery, managing principal at Montgomery Retirement Plan Advisors. “It’s faulty for employees to think that investment returns are more important than what they’re putting into the plan,” Montgomery says. “How much they save is just as critical.”

Because many participants mistakenly think saving at the default deferral rate—potentially 3%—is adequate for achieving retirement security, sponsors and advisers need to educate them that savings should total 10% to 15% of their salary each year, including any employer contributions. “Otherwise, a 3% deferral rate is a disservice to participants,” Montgomery says.

According to Daley, most participants, especially near-retirees, need education to understand their options—such as what Social Security may provide them or what health care supplemental insurance they will need besides Medicare. “People ages 50 and older will be more receptive to such education,” he adds.