Automatic Enrollment Does NOT Mean Automatic Retirement
November 27, 2013As Thanksgiving approaches, what are some things you have to be thankful for? Your health? Your family? Your friends? How about a new job? According to the most recent data released by the Bureau of Labor Statistics, over 200,000 people entered the workforce in October. Whether they are entering the workforce for the first time or found a new job after previous employment, many will be automatically enrolled in their new employer’s 401(k) plan.
The idea of automatic enrollment began in 1998, but it wasn’t until the Pension Protection Act of 2006 that it became widely used. Today, over 50% of employers automatically enroll employees in their employer-sponsored retirement plan. Yet recent studies suggest that employees that are automatically enrolled save less and get smaller employer contributions than those that voluntarily enroll in their plans.
If you or someone you know has recently been automatically enrolled into their 401(k) plan, here are two things you should do to improve your chances of a comfortable retirement:
Number 1 – Increase the amount you are deferring
According to a paper by Barbara A. Butrica and Nadia S. Karamcheva, the average default contribution rate for employees enrolled under an automatic-enrollment feature is 3.4%, well below the average maximum matching rate of 5.1% and way below the amount most financial planners suggest employees will need to contribute in order to achieve a comfortable retirement: 10-15%. How much you should increase your contribution rate will depend on how much, if anything, your employer is willing to match and how much you will need to save to reach your income-replacement goal in retirement. It’s easy to figure out the answer to the first question—just ask your employer or HR representative—but to answer the second question, you will need to use a retirement plan estimator such as this one: https://secure.financialfinesse.com/go/4831.
Number 2 – Review your investment options
Not only does a plan with an automatic-enrollment feature set a default contribution rate, but it also chooses a default investment option for the employee. If the plan offers target-date funds then the default investment option is typically the fund with the target date closest to when the employee turns 62 or 65. This investment option is probably a good option for an inexperienced investor or one that prefers to be “hands off” when it comes to managing their investment portfolio. If the fund does not offer target-date funds, then the default option is usually a balanced mutual fund or a conservative investment option such as a stable-value fund or money market fund.
Regardless of how your contributions are invested, you should review your risk tolerance to determine whether the default option is too aggressive, too conservative, or just right for you. If your default option is too aggressive, you may be tempted to move money out of this option when the market gets volatile. If it is too conservative, you may not achieve your full savings potential. Either way, you may have to work longer or accept a more conservative lifestyle in retirement.
Just because your employer has taken care of setting you up with a 401(k) contribution does not mean they have set you up for the retirement you are looking forward to. Be proactive and evaluate the amount you are saving along with the way the contributions are being invested. If you don’t, you can’t blame your employer for not trying to help.