How Helpful Is Auto-Enrollment in 401(k) Plans? – Center for Retirement Research

The long view lowers its impact estimates, but streamlining savings remains important.

The same research team that documented the impact of automatic enrollment and automatic increases in 401(k) plans returned to the topic to examine how real-life events affect the long-term effect of these automatic provisions. I think it’s really good for researchers to go back and kick the tires on previous results. My reading is that the authors still think these automatic provisions are useful – and do little harm – but the magnitude of the positive effect on savings is much smaller than they originally thought.

Some background. As 401(k)s began to replace traditional defined benefit plans in the 1990s, critics noted the burden placed on prospective participants. They had to decide whether or not to join the program, how much to contribute, how to invest those contributions, how to change the asset allocation and amount of their contributions as they get older, how to handle accumulation when they change jobs, and how to downsize. investing in retirement. That’s a lot. In response, academics and industry have tried to figure out how changing program design can simplify the process and thereby increase participation rates and balance.

Great innovation is applied to inertia. It involved removing the opt-in mechanism, where employees had to sign up to participate, and opting out, where employees were automatically enrolled in the program at a certain contribution rate. In a 2001 study, one member of the “gang” showed that when a large company in the United States introduced automatic enrollment, the percentage participating in the program increased from 37 percent to 86 percent. This effect was significantly greater than that from employer matching contributions. Moreover, the latter work found that it was not dependent on a fixed contribution rate, be it three or six percent. Remarkably, people tend to stick to a fixed ratio.

Much of this early work contributed to the provision of the Pension Protection Act of 2006, which promoted automatic enrollment and automatic increases in the automatic contribution rate. (The law also authorized target date funds.) And SECURE 2.0 requires most 401(k) plans to use both automatic enrollment and automatic accrual.

While the impact of default provisions on participation is clear and strong, the impact of contributions is a little more complex. Automatic enrollment will increase the contribution rate of those who have never joined the program and those who would have joined at a lower rate, but will reduce the contributions of those who would have contributed more than the limit. On average, studies have shown that auto-enrollment increases donations. These findings raise the question of where the additional contributions come from. Did participants cut back on their spending or take on more debt? While a study of young people’s enrollment in the Federal Thrift Savings Plan showed little negative credit effects, an analysis of mandatory automatic enrollment in the United Kingdom, with a much larger sample size, found that the positive effect of automatic enrollment in the retirement savings plan is half – about 20 percent – removed increase in unsecured debt.

All of this is the background of the gang’s latest paper, which looks at other factors – beyond rising debt – that could undermine the positive effect of auto-enrolment. In their sample, first-year experience suggests that automatic enrollment increased the savings rate by 2.2 percent (see Figure 1). (For simplicity, this discussion focuses on automatic enrollment, but combining automatic increases produces a similar pattern.) However, after five years of employment, this percentage drops to 1.8 percent, because most people not depending on auto-enrollment they increase their contribution rates, which removes another savings gap. In addition, employee turnover is high, and many leave before their employer matching contributions are fully vested, further reducing the savings rate increase to 1.5 percent. Finally, because auto-enrollees have relatively small balances, their cash flow rate at exit is higher than opt-in, further reducing the increase in the savings rate to 0.6 basis points.

So where does that leave us? Auto-registration greatly increases participation and has a positive effect on savings. And while only looking at the first-year impact overrides the long-term increase in savings, focusing on real-world problems overrides the negative impact on employee well-being. Indeed, a few thousand dollars may be acceptable support for an employee moving from one job to another. So even if it’s not perfect, making savings automatic and easy should continue to be our goal.