Personal Accountability in a DC World

The concept of retirement income planning may be common parlance among industry professionals, but plan participants are still adjusting to the new age of personal accountability.

For many workers in the U.S., the effort of saving for retirement is no longer a cradle-to-grave proposition with a generous lifetime pension waiting at the back end, says Shams Talib, a senior partner at Mercer and leader of the consulting firm’s retirement business in North America. Shams says a number of recent Mercer research projects suggest younger workers—especially those born after the end of the Baby Boom, circa 1965—must come to a new understanding of retirement if they are to successfully self-fund their golden years. 

This understanding must be anchored in a sense of personal accountability, Talib tells PLANADVISER, which in turn can only be cultivated by employers who are active in promoting their defined contribution (DC) retirement benefit programs. Well-executed DC plan communication programs can play a big part in helping workers come to terms with the new paradigm, he says (see “Sending the Right Message”).

And what makes an effective communications program? Shams says it’s in large part about coming to an understanding of what has changed for workers over the last several decades. The biggest and most obvious shift has been the widespread transition by employers away from defined benefit (DB) pension plans in favor of DC arrangements, he explains. Employers have grown far less accepting of the open-ended nature of pension benefit liabilities, passing the bulk of “longevity risk” onto employees.

The negative effects of this change have been widely reported and are still playing out, adds Orlando Ashford, president of the talent business at Mercer, but there are some positive outcomes as well. For example, with the evolution of a DC-centric retirement system, employee-participants can often become vested in a firm’s retirement plan in just one or two years. This compares with vesting periods that can last up to five or even 10 years for many DB plans. As Ashford explains, faster vesting periods in the DC system allow workers to change jobs more often without sacrificing employer matching contributions.

Plan sponsors and advisers should be sure to highlight these types of details when presenting a DC plan, Mercer contends, especially to younger workers. The Millennial generation in particular—which Mercer defines as individuals born after 1981—appears especially interested in this kind of thinking.

“Millennials aren’t necessarily driven by money,” Ashford explains. “But the compensation has to be strong enough to take that question off the table. It needs to be fair, relevant and competitive. But then it gets to the question of, is this exciting work? Am I with really smart colleagues, am I learning, am I developing, do I get a chance to grow internationally?”

Ashford says most companies want their stables full of Millennials, because they typically are more affordable, eager to please and naturally help companies market themselves as being progressive. And while Baby Boomers, and to a lesser extent, Generation Xers, are scrambling to make sense of their new-found personal accountability, Millennials are entering the workforce knowing nothing else.

Beyond the employer-driven shift toward DC plans, there have also been more subtle, worker-driven changes in behavior that are of increasing importance in the retirement planning context. For example, Shams says employees in previous generations often desired to stay with one or two employers for the entire course of their working lives, and they were not very likely to change industries mid-career. Generation Xers and Millennials, on the other hand, appear to be more interested in regularly switching employers and industries.

According to the Bureau of Labor Statistics (BLS), there is actually scant data on the question of whether employees are changing jobs more now than in the past. To determine the metric, one would need data from a longitudinal survey that tracks successive generations of respondents over their entire working lives, the BLS explains. So far, no longitudinal survey has ever tracked sufficiently many respondents for that long.

Still, Talib says it is clearly true that the shape of the U.S. workforce is changing, largely due to the increasing prevalence of remote office technology and “off-the-balance-sheet” employment arrangements. And anecdotally there does seem to be mounting evidence behind the proposition that workers are changing jobs more often, he says.

“We are seeing the workforce become much more mobile, and it is increasingly transient,” Talib explains. “At the very least there is the recognition that employees have been given more responsibility towards their own life goals, and especially their own retirement goals, as the default retirement benefit shifts from defined benefit to defined contribution.

“The employees are in charge now,” he adds, “so they need to be more equipped to make long-term financial planning decisions. We’re asking these young people to make complex financial decisions that will have an impact 30 or 40 years later.”

One strategy that companies are trying with success is applying behavioral science to improve retirement savings patterns, Talib says.

“Behavioral scientists have studied how people make tradeoffs between present and future rewards,” Talib says. “They say low savings for younger workers is partly a result of ‘hyperbolic discounting,’ which means that people value money spent today much more than they value the idea of deferring their spending far into the future. Put another way, buying stuff today provides a bigger psychological boost than saving money for later.”

One can argue that the way plan sponsors and advisers are presenting information to their participants is actually compounding this problem, Talib says. Most young workers can’t reasonably entertain the idea of retiring for at least another 25 to 35 years. It’s difficult for them to imagine what their 401(k) account balances might convert into in terms of a retirement income. “Even those forward-thinking sponsors who provide income projections are likely to find that presenting income numbers alone will not change savings behavior.”

So it’s time for sponsors and advisers to get creative, Talib says. He points to research from the Stanford Center on Longevity, which found that when 401(k) participants viewed an age-enhanced, “3D” avatar of themselves, they were willing to put an average of 6.8% of their salary into a 401(k) plan, versus only 5.2% for people who had not seen the avatar.

Michael Fein, president and co-chairman of CIC Wealth, says another key is to remember that, as workers age, they generally start to make more money. It’s critical to work with these employees over time to instill the sense of personal accountability for retirement savings.

“When you talk about workers born in the 1980s or even in the late ’70s, these folks are just starting to make better money,” Fein tells PLANADVISER. “They have much more disposable income and they must decide what to do with it. I often hear clients say, ‘I really want to redo my bathroom or buy a new car,’ but it’s the adviser’s role to convince them to start socking it away as soon as possible.

“I always tell them it’s more important to save, and when I can’t convince them, I say, whatever big ticket item you want to buy, put away as much as you spend,” he continues.

So if the worker wants to spend $5,000 on a big screen TV, he’ll have to put $5,000 into the savings account first, Fein explains. “And the main thing to remember is that most people work hard and spend all day dealing with work, so it’s very difficult for them to do financial planning.”