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Mid-market 401(k) participation increases with use of automatic enrollment

Participation rates climb as mid-market firms add feature to 401(k) plans

Mid-Market 401(k) Automatic Enrollment

Mid-market employers are embracing automatic enrollment, the biggest 401(k) plan design change since the plans first were launched three decades ago.

Automatic enrollment is aimed at employees who don't respond when they are asked whether they want to participate in their company's 401(k) plan. They are told that, unless they object, they will be automatically enrolled in the plan.

Among employers with between 500 and 2,500 participants in their 401(k) plans, 43% now offer an automatic enrollment feature, according to research by Fidelity Investments. That's up from just 28% four years ago and isn't that much lower than the automatic enrollment adoption rate — now 50%, according to Fidelity — among employers sponsoring the largest 401(k) plans with more than 25,000 participants.

“There has been a definite uptick in the percentage of plans offering automatic enrollment,” said Jeanne Thompson, Fidelity's vice president of thought leadership in Boston.

The biggest factor driving mid-market employers to add automatic enrollment to their 401(k) plans is that it's a sure-fire way to boost the percentage of employees participating in the plans.

“Automatic enrollment really does change behavior,” said Michael Weddell, a principal with Mercer L.L.C. in Detroit.

Experiences of middle-market employers that have added automatic enrollment features to their 401(k) plans provide real-world examples of that behavior change.

Prior to adding automatic enrollment to its 401(k) plan roughly two years ago, PFSweb Inc. had an anemic participation rate. Just 22% of eligible employees participated in the plan, said Jennifer Davis, vice president of human resources for the Allen, Texas-based e-commerce solutions provider, which has about 1,000 U.S. employees. But with that one simple change, the participation rate jumped to 85%.


“This has been huge,” Ms. Davis said, referring to the effect of automatic enrollment on the plan participation rate.

Other mid-market employers also have calculated how automatic enrollment has boosted 401(k) plan participation rates.

Before adding automatic enrollment in January 2009 at Sanden International (USA) Inc., a Wylie, Texas-based manufacturer of automotive air compressors with about 500 employees, between 55% and 60% of eligible employees participated in its 401(k) plan.

Now, with automatic enrollment in place for several years, about 80% of eligible employees participate in the plan, said Stephanie Caraway, Sanden's senior human resources manager.

“We want to do what we can to help ensure that employees have sufficient retirement plan savings,” Ms. Caraway said.

Such increases in 401(k) plan participation rates after an automatic enrollment program is added are common, benefits consultants say.

“It is not unusual for a company that had a 50% to 60% participation rate before automatic enrollment to see the enrollment rate hit 90%,” said David Altimont, a senior vice president and practice leader with Lockton Retirement Services in Dallas.

“You see significant increases in participation. Eighty percent is a common goal,” said Alan Vorchheimer, a principal with Buck Consultants L.L.C. in New York.

There are costs to adding an automatic enrollment feature to a 401(k) plan. Typically, because employers at least partially match employees' salary deferrals, employer contributions will increase to the extent employee participation increases. There are several key benefits resulting from automatic enrollment that help to offset those costs.

One is that by increasing employee participation, the likelihood that a 401(k) plan will fail nondiscrimination tests will decrease. Under those tests, plan contributions made by higher-paid employees cannot, on average, exceed those of lower-paid employees by an amount set under the Tax Reform Act of 1986.


When a 401(k) plan fails the nondiscrimination tests, contributions have to be returned to higher-paid employees, which is administratively complicated for employers and harmful to employee morale, because affected employees will have a higher taxable income than they expected and less tax-favored retirement savings.

Because lower-paid employees are less likely to sign up to participate in 401(k) plans, adding an automatic enrollment will bring in more of them and reduce the likelihood of a plan failing the nondiscrimination tests.

“Automatic enrollment is a help in passing the nondiscrimination tests,” said Jack Abraham, a principal with PricewaterhouseCoopers L.L.P. in Chicago.

Automatic enrollment also helps to offset another big retirement plan trend: employers freezing defined benefit pension plans.

When those plans are frozen, 401(k) plans typically become an employee's sole employment-based retirement plan. If employees don't contribute to 401(k) plans after a pension freeze, the likelihood they will not have accumulated sufficient savings to retire increases significantly.

This has negative consequences for employers. If employees remain working longer than they or their employers expected because they can't afford to retire, the movement of younger employees to more senior positions in a company can be disrupted.

“Employees can outstay their welcome, if they stay longer than either they or their employers want,” Lockton's Mr. Altimont said.

The likelihood of that scenario is somewhat reduced if employees who didn't sign up for their company's 401(k) plan are automatically enrolled.

“There is a value in helping employees save for retirement,” said Joleen Workman, assistant vice president of retirement services with the Principal Financial Group Inc. in Des Moines.

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