By the end of the year, the Department of Labor (DOL) is expected to publish a proposed rule clarifying how states can move forward in creating retirement plans for private-sector workers.
“We really applaud the DOL and the President for addressing what we believe is one of the most important topics for American workers today, and that is the low percentage of working Americans that have retirement plan access through their employers,” says Fredrik Axsater, head of global defined contribution (DC) at State Street Global Advisors (SSGA). “We have for some time highlighted the importance of providing greater access to retirement savings plans,” he adds. “This is an important step forward on this issue.”
Now a growing number of states are coming in with their own approaches to fill the gap, explains Lynn Dudley, senior vice president for global retirement and compensation policy for the American Benefits Council. Before legislators can build these plans, though, there are more than a few hurdles to overcome. Axsater points to three principles his firm believes need to be addressed before a state-based retirement system for private-sector workers will take hold.
First, he says, participant and plan sponsor success should be made easier by optimizing the plan design.
“State plans should encourage, for example, automatic features,” Axsater notes. “That’s the way to use inertia in the right way, nudging people to participate in the plan and to save more.” Different states may pursue different auto-features, but the goal should be making savings easier and simplifying the fund lineup. “We know that too much choice is overwhelming, so listen carefully to some of the choice architecture that’s been done.”
Second, participant and plan sponsor failure should be made more difficult. Getting and keeping participants—and their savings—in the plan is not just about facilitating enrollment but also limiting leakage. “Find ways to make it a little bit more burdensome for participants to withdraw assets from the plan, or reduce some of the cash distributions,” he says. If participants do take loans or hardship withdrawals, or if they are going to leave the plan and/or move to a new employer, “make loan repayments easier and plan-to-plan transfers more operationally efficient and seamless.”
Finally, he says, these plans will require “superior, ongoing governance” in order to be effective. “As participants’ needs change, as their priorities change, as markets evolve, these plans [must] have the ability to evolve and improve over time.”
NEXT: Staying on track
“Their number one issue is they need to be able to be fair,” Dudley says of state-based plans for private industry. The number two issue is that companies need to be free to run their business, and they can’t have so much complexity going into these plans that it is adding administrative costs. As Dudley explains, these will likely be costs the participants would have to pay.
“We don’t see it as a silver bullet,” Axsater adds, “and this also can raise some issues on its own.” For example, how will these plans serve employers and employees that cross state lines? “It’s important to look at pros and cons and the trade-offs that will be involved.”
“Not only do [employers] have to track and comply with the law, but they have to track the source of the money and the earnings on the source,” Dudley says. “And one reason that’s problematic is that, in the future, states will try and compete to tax the retirement money.”
“How different will individual state plans be?” Axsater asks. “For employers that may have people across multiple states, it would be a challenge. What policy would dictate a retiree’s decision to move out of state when he exits the work force?”
If a person lives and works in one state, and has put savings into a retirement plan and grows his assets there, what percentage of the assets can be attributed to his time working in that state? “You have to do these complicated calculations for every person,” Dudley points out, “and then you get prone to making mistakes.”
“It’s important then, that these plans, as they emerge, consider the entire ecosystem,” Axsater says. The problem is not just one of access and investment—it’s also about strong communication support, strong engagement with participants and, eventually, helping people with the transition from savings to distribution.
“You don’t want to preclude innovation,” Dudley says, “but you don’t want to create bureaucracy for the sake of bureaucracy, and you don’t want to treat people differently.”
NEXT: The ‘Great Divide’
“We talk about the ‘Great Divide,’” Axsater says. “There are some really strong practices that are used by the mega plans, the largest employers in the U.S. At the same time, the lack of access and the lack of retirement savings for smaller plans are troubling. I think that the state plans initiative is a way of addressing the gap, but it must be part of a broader agenda.”
In terms of access, he says, the fundamental question remains why far more large employers offer plans than smaller companies. This is partly because fewer people enroll in smaller plans, and those who participate tend to do so at a lower rate and have a smaller balance overall. This makes the market less of a target for skilled consultants and advisory firms that can bring in best practices and make running plans far more efficient.
Dudley feels that more small plans would launch if it was more administratively feasible. “And they have to get credit for what they’re doing, and they have to be able to get a fair deal,” she explains.
Given that federal-level solutions have been slow on the uptake—see myRA, among others—the states are in various stages of trying out legislation in a whole range of retirement- and compensation- related efforts, Dudley says.
“It’s all part of a larger policy trend. Not only is there more job turnover, but there has also been a change in the way people work,” she feels. “Many more people have only part-time or project-based work. There needs to be some options to fill the gap.”
NEXT: Impact on private plans
“I think companies that are already offering very robust retirement plans are thinking that, so far, at the state level, they would be excused from new legislation because they’re already offering very robust plans,” Dudley says. “To the extent that they have employees that are part-time or contingent, then I think that they’re ok with having to comply with states as long as they can do it in a reasonable way.”
Problems arise in a “situation where they have to go state by state and there are different rules”—i.e., for the type of plan offered or contribution made.
Further, the impact of state-run plans on employer-sponsored plans will largely depend on the plan’s size, Axsater predicts. “The impact for the mega market is limited,” he says, while for smaller plans it is “potentially significant.”
The emergence of these plans may lead employers to rethink their retirement benefit offering, Dudley warns, and policymakers likely will struggle to do this in a way that will not cut off jobs.
“It’s important to consider the entire ecosystem here to make sure that we don’t have any unintended consequences from the individual state initiatives,” Axsater adds. “State plans can offer a very easy way to provide access to retirement savings,” he says, but before they can meaningfully affect potential savers, policymakers must ask themselves: “What are the needs of individual investors?”
“I don’t know exactly how we’re going to figure this one out,” Dudley concludes. “It’s a tough nut to crack.”