The first quarter of the year, when many advisers conduct year-end plan reviews, is opportune to reflect not only on asset performance but on plan performance. Every 401(k) year-end review must include a comprehensive review of plan data.
These measures can help advisers gauge the health of the plan—and perhaps the satisfaction of the plan sponsor:
- The percentage of eligible participants deferring (including a Roth breakout, if applicable);
- The average deferral percentage of participants;
- Loan and hardship withdrawal activity;
- Investment transaction activity;
- Types of investments where assets are being held; and
- A comparison of all of the above to previous years.
Armed with this information, advisers are better equipped to offer recommendations on plan design and investment options to increase plan health and, ultimately, participant retirement readiness. Some clients may opt for the status quo, but most will appreciate being offered design choices with a positive approach.
Automatic enrollment and automatic deferral increases are proven methods to boost employee participation and raise deferral percentages. Even a simple provision to opt out rather than into plan participation each year can dramatically increase participation rates. A safe harbor plan design can also help increase plan participation.
This plan design offers a unique trade-off: In return for immediately vesting contributions in full, higher-paid employees can maximize their deferrals and match without subjecting the plan to testing requirements (thus, no funds returned for failed testing).
Needless to say, every employer has a different opinion on these strategies. Some may not embrace any methods to increase participation because of budget constraints on the match. Others who deal with high turnover may be more concerned about preserving unvested employer contributions in the face of increased distributions.
Some plan sponsors don’t want to be bothered with the employee communications involved in any plan design change of this nature. On the other hand, many employers are open to—even eager for—suggestions to improve the investment efficiency of their plan.
Reducing Loan and Hardship Withdrawal Activity
Some participants may need loans or hardship withdrawals but this privilege can be abused. Employers share some of the pain when employees deplete their retirement savings prematurely without appreciating the long-term impact – or the short-term consequences. Participant education in these cases can make a big difference.
When plans have an increase in loan and hardship transactions, the plan sponsor will undoubtedly appreciate the services of an adviser to educate participants on the long-term impact of withdrawing funds from the plan, because they know their employees’ long-term satisfaction depends on the quality of their retirement savings.
Adjusting Investment Allocations
Even with the dramatic shift of retirement assets into target-date funds (TDFs) or other asset-allocation vehicles, many plans still grapple with participants who are too conservative—keeping all funds in a fixed or low return account—or too aggressive—chasing last year’s winners. The plan review is an opportunity to see if the investment lineup needs additional default funds, managed accounts, brokerage windows or TDFs.
The review is also a good setting to consider adding a Roth deferral feature and even a Roth conversion feature. The tax benefits of these recently expanded plan options may offer participants a way to better diversify retirement taxable income.
Opportunities for Advisers
Year-end plan reviews are an excellent time to start a conversation about fundamental plan design issues. In the current culture of fee disclosure and demonstrating value, plan advisers will want to articulate their value in all aspects of the plans they work with.
More importantly, plan reviews are a rare window on what plan sponsors need and want. Discussing past plan results with clients and prospects so they can take action to improve future plan operation and avoid repeating past mistakes would certainly make Mr. Santayana happy!
Robert M. Kaplan, CFP, CPC, QPA, APA, is vice president and national retirement consultant for ING U.S., where he uses his 30 years of experience in the retirement industry to help educate a variety of stakeholders on complex regulatory topics, plan design matters, administration and sales strategies.
This information is provided as general guidance. It is not intended to be legal or tax advice. You should contact your legal and/or tax advisers regarding the facts and circumstances around your retirement plan and the applicability of the issues discussed in the communication.