Most Younger Workers Don’t Contribute to Workplace Plan

An analysis of 401(k) data by Fidelity Investments has identified behaviors hindering savings for workers at different life stages.

While the portion of workers in their 20s who participate in a workplace savings plan such as a 401(k) or 403(b) has increased in recent years with the help of automatic enrollment, the majority still do not participate, according to data on plans Fidelity administers. Less than half (44%) of eligible workers in their 20s contribute to their workplace plans today Fidelity’s quarterly release on trends in 401(k) industry suggests.

Scott David, President of Workplace Investing at Fidelity Investments, told that sponsors should be concerned that younger employees are not participating, as most are not going to be eligible for a defined benefit pension in their lifetime. Sponsors should consider auto enrollment, especially to get Gen Y enrolled, according to David.

A recent analysis from Fidelity indicates that auto enrollment in 401(k) plans is proving to have the biggest impact on younger and lower-compensated employees (see “Fidelity: Auto Enrollment Working as Intended”). Last year Fidelity told that the younger generation is open to the “do-it-for-me” approach. Furthermore, Fidelity suggested retirement plan advisers are key to helping ensure that the youngest generation has enough retirement savings, and advisers have a huge opportunity to start relationships early with that group (see “Gen X, Y Could Use More Savings Help”).

Fidelity found that when workers reach their 30s and 40s, savings behavior improves, with participation rates of more than 65% and a higher average elective deferral rate of 7.7% of salary.  However, the frequency and the prevalence of taking out a loan against workplace savings increases significantly as many at this life stage have competing financial priorities. When workers reach their 30s and 40s, many are focused on buying their first home, saving for their children’s education, and saving for retirement, as well as managing debt.

Nearly one in four workers (23%) in this age group have one or more outstanding loans, and more than one in 10 (10.6%) initiated a loan over the past 12 months. Workers in this age group also tend to be repeat loan users, as Fidelity found nearly one-third (31%) of continuous active participants in this age group who took a loan last year also took one this year.

David said Fidelity advocates limiting loans to only one outstanding at a time. “Sponsors have been hesitant to impose a limit, but data shows it can be detrimental to retirement savers,” he noted.

By the time participants reach their 50s, some of the pitfalls and behaviors evident among younger workers are much improved.  The Fidelity analysis showed participation rates among this age group are higher, with more than 70% participating, and they also contribute an average of 10% of their salary.

However, poor asset allocation detracts from overall results, according to Fidelity. More than one in 10 pre-retirees (11.4%) hold no equities in their 401(k) plan, a strategy that has historically resulted in significantly lower returns on an inflation-adjusted basis than those of more diversified portfolios, while 14.2% are 100% invested in equities, an overly aggressive approach that leaves them much more vulnerable to a market downturn.

Fidelity suggests that as employees reach pre-retiree years, sponsors provide more education about savings and investing, and even go so far as to provide advice services, according to David.

David points out though that diversification has improved extremely, thanks to asset allocation funds, which Fidelity finds to be the most popular investment choice among participants. He also notes that the data shows equity extremes in all age groups.

Long-Term Savers See Reward

David told that while there has been a lot of attention on the erosion of account balances during the economic downturn, Fidelity is seeing that for those employees that maintained their accounts, they are being rewarded for their patience, and are starting to see a recovery now.

According to David, for those who had a 401(k) account five years ago and maintained that account, average account balances are up 35%. "The value of dollar cost averaging is still the inherent benefit in investing in a 401(k)," he said.

Fidelity's data, based on more than 17,500 corporate defined contribution plans it administers and 11.2 million participants as of June 30, show that the portion of participants increasing their deferral rate in the second quarter was larger than the portion decreasing the rate, reversing the trend of the prior three quarters. In addition, the percentage of active participants who decided to stop contributing during the second quarter was 1.3%, down from 2.2% in the past two quarters and in line with the longer-term historical trend of about 1%.

Fidelity reported that there has been a shift to more conservative investments over the past year. About 68% of 401(k) contribution dollars in the first half went to equities, down from around 75% for the past few years and more than 80% in 2000.

More specifically, Fidelity found that in the second quarter of 2009, 8% of contribution dollars went to company stock, 42% was invested in domestic and international equity options, 24% went to blended or lifecycle options, and 24% was allocated to conservative options such as short-term (i.e., money market), stable value, and fixed-income.

The average account balance rose 13.5% in the second quarter from the end of the first quarter 2009 to $53,900, primarily driven by increases in the equity markets as well as participant and employer contributions.