401(k) Reform Needed To Boost Retirement Savings
An examination of the experiences of other countries, especially Australia, may prove useful for U.S. policy makers as they consider ways to improve retirement savings rates among American workers, a white paper released by the nonprofit Retirement Solutions Foundation has suggested.
The study, “Filling America’s Empty Nest Eggs: The Crisis Nobody’s Talking About,” was written by Retirement Solutions president Jane White. According to White, the average American has saved less than one fifth of the amount needed for a secure retirement, which pension actuaries estimate to be a multiple of 10 to 12 times the worker’s final annual salary. Even after Social Security benefits are figured in, the study warned, the average worker can expect to replace less than 45% of his or her pre-retirement income.
Yet, in Australia, where most workers save for retirement using defined contribution plans similar to 401(k) plans, White observed that workers tend to be much better prepared at retirement: Whereas the average American household between the ages of 62 and 65 currently has combined
401(k) and IRA savings of around $110,000, the average Australian household can expect to retire with a savings nest egg of around $535,000, excluding the value of the family home.
White attributed the significant difference in retirement savings between the two countries in part to the fact that, in Australia, employers are required to contribute to workers’ defined contribution plan accounts, known as super annuation accounts. Currently, companies in Australia must contribute 9% of salary, up to a salary ceiling of $145,880. By contrast, employers in the U.S. typically only contribute to the 401(k) accounts of their workers in the form of matching contributions that tend to be significantly lower than the 9% mandated in Australia.
The paper also noted that, in Australia, workers are permitted to contribute a much larger percentage of their salary to their defined contribution accounts than is allowed in the United States, with the joint employer-employee contribution topping out at $50,000 for those under the age of 50 and at $100,000 for those over the age of 50. Moreover, Australian workers age 50 and older are allowed to sell a home or other asset and add the proceeds to their superannuation accounts. Indeed, White noted, these incentives have proven so attractive that employees in Australia are actually contributing more to their accounts than the 9% of salary contributed by their employers.
According to White, retirement savings in the United States have been eroded in recent years by a combination of the sharp decline in traditional pension plans and their replacement with the 401(k) plan, a retirement program originally intended to capitalize on tax breaks and add security to existing defined benefit plans—but not to be the sole source of retirement security.
Current proposals to encourage U.S. workers to save more for retirement, such as automatic enrollment in 401(k) plans, will likely prove ineffective, White asserted. Most automatic enrollment programs have a starting contribution rate of 3%—far below the amount needed to achieve retirement security, even for the youngest workers. Moreover, White pointed out, workers who change jobs frequently may continue to contribute at rates far too low to achieve adequate savings.
Instead of relying on automatic enrollment features or trying to bring back traditional pensions, White recommended that U.S. policy makers consider redesigning the 401(k) so that it looks more like its Australian counterpart. “To make a 401(k) plan walk, talk, and quack like a defined benefit plan, but without the counterintuitive DB shackles,” White said, her organization proposes that companies with at least 10 employees contribute 9% of pay to a portable account. For smaller companies, the federal government could set up accounts for employees, matching voluntary contributions by workers and their employers with refundable tax credits. White also recommended that, as is the case in Australia, a much higher catch-up contribution ceiling be set for older defined contribution plan participants. To further improve retirement security, workers would not be permitted to access their 401(k) balances until retirement, and balances would have to be annuitized at retirement to ensure a lifetime income stream.
