Given the energy and focus on participant outcomes, and the collective wisdom around defined contribution (DC) plans, Spencer Williams, CEO of the Retirement Clearinghouse, says it is puzzling why retirement savings have become so fragmented.
Optimizing asset allocation and maximizing participation are two frequently cited tactics for improving participant retirement outcomes, Williams tells PLANADVISER, but he feels an overlooked issue is account consolidation: helping a participant to gather up abandoned retirement accounts from previous employers, or providing the right counsel so that a participant does not cash out of a plan when leaving a job.
Part of the problem could be participant behavior, according to a paper by Warren Cormier, president of the Boston Research Group. Participants are caught in an unintended glitch of the retirement savings system, Cormier says. At a time when they’re highly emotional and possibly uncertain about their futures—separating from a job—they are asked to make decisions from a web of complex options, often without any assistance.
In “Eliminating Friction and Leaks in America’s Defined Contribution System: Fixing the Systemic Breakdowns that Impact Every Sponsor, Participant and Provider,” Cormier says it is not surprising participants often take the path of least resistance. Some do nothing at all, and a staggering 45% cash out, according to the group’s data, despite stiff penalties and taxes.
It is easy to cash out these days, according to Williams. “But that’s like shooting yourself in the foot,” he says. “Like the Marine Corps motto, No Marine left behind, it doesn’t matter how small the balance is, it’s still the participant’s retirement savings, and each dollar he puts in will serve him well later on.”
Williams points out that DC plan features are increasingly automated. Participants are auto-enrolled; deferral increases can be automatic; portfolio allocations are chosen for them—but there is no automatized way of bringing accounts together. The average American worker can have about seven jobs over a lifetime and wind up with seven scattered, abandoned 401(k) accounts.
Some abandoned accounts have substantial assets. When account balances reach $20,000, Williams says, the rate at which people drop out dips dramatically. They become much more invested. But participants need to know that even a thousand dollars is worth hanging onto, he says.
Account consolidation also aligns plan sponsor and participant needs, Williams says. The Employee Benefit Research Institute (EBRI) estimates that reducing cash-outs by just 50% could add as much as $1.3 trillion to the DC retirement system over 10 years. A program that helps people move money to the new plan benefits not just the participants, but both plan sponsors—the previous one and the plan sponsor that will take the new account.
The named fiduciary of the plan, Williams points out, must act in the best interests of the plan participant. Preventing the problem of fragmented savings would fulfill this obligation, he says.
A majority of account-holders—more than two-thirds—have less than $20,000 when they change jobs, Williams says. About three million accounts have less than $5,000. He questions the efficiency of running a plan littered with abandoned accounts that hold less than $5,000.
“I’m not so sure that retaining accounts is an optimal course for a plan sponsor,” Williams says. On the face of it, a sponsor might equate more assets with a bigger plan, but that does not factor in all the costs.
The plan sponsor still must send statements and include the separated participants in open enrollments. If the participant has a new address but doesn’t inform the previous employer, the plan sponsor cannot fulfill the fiduciary obligation of keeping him informed about the plan.
Consolidation at Work
The Government Accountability Office (GAO) released a report last year saying regulators should take steps to address the difficulty and complexity of plan-to-plan transfers.
Plan sponsors can turn to a service like the one provided by Retirement Clearinghouse, in Charlotte, North Carolina. Williams says they began offering consolidation service to serve the needs of a plan studied in the report from the Boston Research Group. The plan is a multi-regional employer with more than 190,000 employees in the health care sector. The plan sponsor averages 38,000 new hires annually and 43,000 separations annually.
The outcomes from their first foray were a dramatic decrease in cash-outs, which were halved, from 47% to 23%. Stranded accounts also dipped significantly, with 72,000 accounts consolidated.
The firm consolidates accounts for participants of a plan on a flat-fee basis. For a first account, the charge is $79 per participant, and $49 for the second account (for the same participant). The plan can decide how the fee is paid, Williams says. The participant immediately saves money, because of the fees that would otherwise go into maintaining multiple accounts. “It pays for itself in the first year,” he says. Retirement Clearinghouse provides a service that engages participants directly and helps them in the location and identification of old accounts. The firm processes paperwork and helps direct the funds into the plan’s account.
Plan sponsors can also check or direct participants to the National Registry of Unclaimed Retirement Benefits or the Department of Labor's (DOL’s) Abandoned Plan Database.
Williams calls the benefits of consolidation and portability an “aha!” moment for the industry, much like auto-enrollment and auto-escalation. Put simply, consolidation helps deliver better outcomes for plans and their participants.