The days when workers could count on a comfortable retirement after a lifetime of company devotion are a distant memory for most. Public pension funds across the country teeter on the edge of collapse, and the traditional company pensions that sustained previous generations through their golden years are fading into the sunset.
Meanwhile, the self-funded plans, like 401(k)s and Individual Retirement Accounts that companies have largely turned to as cheaper alternatives have proven to be less than foolproof. Many workers have failed to invest enough in these defined contribution plans, and those who have watched their nest eggs get battered by the stock market in recent years.
The United States' retirement outlook is uncertain in part because of the swing from traditional pensions to 401(k)s. But a new day is dawning when it comes to employee-sponsored retirement benefits as employers and workers search for stability. Workers, including younger employees, are craving greater retirement security. And companies, while not returning to the paternalism of years ago, are changing their retirement benefits to provide a more certain financial future for their workers.
"This is one of the more interesting times in retirement," says Alan Glickstein, a senior retirement consultant at Towers Watson & Co. The shift from defined benefit to defined contribution plans reached its maturity about 15 years ago, says Glickstein, pointing out that, today, 401(k)s "are almost universal." And that approach is proving to be problematic, some experts say.
"What we've seen since the 2008 downturn is the shortcomings of a defined contribution plan-only approach," Glickstein says. "These plans shift the risk from employer to employee, but that doesn't make risk go away. Employee balances are lower than expected; therefore, the ability to retire is curtailed and that has an impact on employers, too. What we're now seeing is a serious examination of what type of plan works best. There is quite a bit of discussion and reflection among employers."
These efforts include hybrid plans that combine a 401(k) component with a guaranteed benefit, such as a cash-balance plan. These plans are the fastest-growing segment in the retirement planning market, increasing 20 percent since 2001, according to a recent survey by Kravitz Inc., a retirement consulting firm based in Los Angeles.
Companies are also taking steps to automatically enroll employees in retirement plans and are offering them access to financial advisers to help with investment choices.
But companies aren't doing this out of sheer goodwill.
"The real purpose behind retirement plans wasn't to attract and retain but to keep the organization flowing along," Glickstein says. These plans were "intended to manage the workforce. When people don't leave, it creates fewer opportunities for the people behind them, and that affects morale. It can be costly for employers to manage the issues that arise."
Without a steady cycle of the newly hired and recently retired, companies face the expensive prospect of an aging pool of disaffected workers clinging to their jobs because they can't afford to retire.
'The Employment Deal'
Given all the federal rules around 401(k)s and the legacy of pensions, it is easy to forget that employment retirement benefits have always been voluntary. They came to prominence in the 1940s after World War II as a tool to attract and hold on to workers during a time of federal wage controls to curb inflation.
In the 1950s, '60s and '70s, corporate pensions were a central part of the "employment deal" in America: Workers spent lifetimes at companies in exchange for a generous retirement benefit of a set amount of money each month. In 1975, 88 percent of private-sector workers covered by a workplace retirement plan could count on their employer to pay into a traditional pension plan that would provide them with a monthly annuity based on pay and years of service, according to the National Institute on Retirement Security, a not-for-profit research institute based in Washington, D.C. The longer an employee stayed with a company, the greater the payment.
For Carl Richie, 70, the guarantee of a monthly income means a comfortable retirement in Phoenix after working 25 years as a safety engineer for Dow Chemical Co. He receives 40 percent of his salary plus retiree health benefits. He also has money in a company-provided Individual Retirement Account. In 2007, the Midland, Michigan-based company stopped offering a defined benefit plan to new employees and switched to a cash-balance plan.
"When you're 25 and they talk about your pension, you don't have a lot of interest, and back then it wasn't unusual to work at a company for 30 years," says Richie, who retired in 1999. "I'm certainly glad now that I have one. If it wasn't for this pension, I'd be on the street. You would see a significant lifestyle change."
By the 1990s, employers began viewing pensions as a growing burden because of increasing costs and complicated laws and regulations that made the plans difficult to manage. Many companies began freezing their plans and switching to 401(k)s, which emerged in 1981. By 2005, only 33 percent of private employers offered a traditional pension plan.
"There was a new view of the relationship between employer and employee and the concept was personal responsibility," says Karen Ferguson, director of the Pension Rights Center, a not-for-profit watchdog group based in Washington, D.C. "401(k)s seemed like the answer. Not only were they about personal responsibility but they were a heck of lot cheaper. Employers felt they didn't need pensions to attract workers anymore."
As benefits eroded so did the relationship between companies and their workers.
"There has been a tremendous breakdown of trust between employees and employers," said Phyllis Borzi, assistant secretary of labor, at a recent panel discussion sponsored by the New America Foundation, a nonpartisan policy think tank in Washington, D.C. "Years ago employers really cared about their employees, they cared about the community in which their workers worked, and they cared about their retirees. They felt a commitment to them for having been there to grow the business. I don't see much of that anymore."
While responsibility for retirement saving and investing has shifted from employer to employee, so has the risk. In a 401(k), employees are offered a portfolio of investment options ranging in risk level. Employees typically have bet their retirement savings on mutual funds weighted heavily toward equities. As many workers discovered after the stock market crash of 2008, it was a gamble that didn't pay off.
The results are sobering: 51 percent of working-age households are at risk of not having enough retirement income to maintain their standard of living in retirement, according the National Retirement Risk Index, which is developed by the Center for Retirement Research at Boston College.
The index is based on the Federal Reserve's triennial Survey of Consumer Finances. These shortfalls represent a cumulative $6.6 trillion "retirement income deficit," according to the center.
"Where we are today is very disturbing," says Ferguson of the Pension Rights Center.
"Even though traditional pensions are far from perfect, they are far more secure than 401(k)s," Ferguson says. "People in corporations are just as worried as we are. 401(k)s were a great experiment, but they just can't do the job. We have a system that doesn't make sense for most working Americans."
Those working Americans are waking up to the problem. And they are taking a greater interest in retirement benefit plans. According to a 2011 survey of HR leaders conducted by Bank of America Merrill Lynch, nearly half have seen an increase in the number of employees asking about retirement plans. Younger workers are enrolling earlier and maxing out their contributions at an earlier age, the survey shows.
At the same time, workers have greater power to judge retirement benefits. BrightScope Inc., a financial information firm, publishes free reports on the generosity and costs of 401(k) plans. Starting in April, employers will have to disclose the fees associated with these plans under a new federal regulation.
So companies are feeling pressure to improve their retirement benefits for recruiting and retention reasons. And a growing number are feeling an increasing responsibility to help their workers achieve their financial goals, according to a Bank of America Merrill Lynch survey of 650 top executives. Coming out of the recession, 59 percent of employers reported feeling "an increased sense of responsibility towards helping employees meet their financial goals," the survey says.
"Large employers have been very innovative in this area," says Mark Ugoretz, president and CEO of the ERISA Industry Committee in Washington, D.C. ERISA, or the Employee Retirement Income Security Act of 1974, is a federal law that governs employee benefit plans. The committee is a trade group that lobbies on behalf of large employers and their benefit plans. "They've extended a great deal of financial and intellectual resources into developing plans that provide a sound benefit for employees."
In addition to offering retirement plans that make sense to their workforce, Ugoretz says employers have stepped up their efforts to help workers make good investment choices through financial education programs.
A growing number of employers are studying alternatives such as cash-balance plans and target-date funds, which have become increasingly popular in the past 10 years. Target-date funds follow a programmed strategy that automatically shifts money from stocks into less-risky investments as an employee's retirement date approaches. More than 80 percent of 401(k) plans now offer them, according to Aon Hewitt, a consultancy based in Lincolnshire, Illinois.
The Pension Protection Act of 2006 allowed employers to convert traditional pension plans to cash-balance and other "hybrid" plans such as pension-equity and target-date funds.
"The two most significant trends right now are auto enroll and target-date funds," says Robyn Credico, a senior retirement consultant at Towers Watson. "Auto enroll is important because employees tend to be very passive. It's easier to do than asking employees to enroll themselves."
She says that about 95 percent who are automatically enrolled in a 401(k) stay in the plan but fail to increase their contribution from the default savings rate, which is usually 3 percent. So, they're not saving enough, leading some employers to automatically bump up contribution rates over time. "That's an auto increase. There is a trend there, but it's moving slower than auto enroll."
The lack of participation in a retirement plan is at the heart of the crisis, says Michael Calabrese, a senior research fellow at the New America Foundation, which studies retirement security and health policy.
"America's real retirement security crisis is not Social Security solvency or the many big firms freezing or terminating their traditional pension plans," he says. "The larger problem is that the majority of American adults do not participate in any retirement saving plan—whether pension or 401(k) or Individual Retirement Account. Participation in employer-sponsored plans peaked in the late 1970s and appears to be at its lowest level in more than 30 years."
Employers see auto enrollment as one of their most effective tools for changing that trend, but financial education is viewed as equally important, according to Credico. Yet, fewer strides are being made on that front.
"There is a big effort to provide education and advice," she says. "This sounds like a good idea but it hasn't turned out so great. Many employers began providing online tools to educate on levels of risk. Employees must input their expenses and financial information into a tool, and that comes up with suggestions. This requires a tremendous effort of following through and doing it more than once. Not many took advantage. Employers are trying hard to do better but it's a fairly large effort."
Bigger companies now offer workers access to managed accounts—financial plans that are managed by experts. Most charge employees a fee for this service but a few, like Bank of America Merrill Lynch, offer it for free.
The program, which was launched eight years ago, is called Advice Access, and services more than 1 million participants, according to Kevin Crain, head of Institutional Retirement & Benefit Services for Bank of America Merrill Lynch. The service is provided through Ibbotson Associates, the consulting arm of Chicago-based investment research firm Morningstar. Advisers are available to employees online, on the phone and in person.
"It's hard for employees to feel safe in this volatile market and confident that they can make good decisions," Crain says. "Historically, everyone focused on health care, but retirement programs have definitely ratcheted way up as the things that employees care about. Employees are much more critical about what kinds of retirement programs exist and don't want to wait to enroll. I've seen a change in behaviors in the last two years for sure."
But whether this change will have a meaningful impact on future retirees remains to be seen.
Retirees like Richie realize that future generations face big challenges when it comes to retirement planning—something he and his contemporaries didn't have to worry about.
"I feel lucky," he says. "I didn't have to spend a lot of energy planning my retirement. All the decisions were made for me. This next generation is more in charge of their retirement, for better or worse. They will have to be more cognizant of their options in a way that I never had to be."
Rita Pyrillis is Workforce Management's senior writer. To comment, email firstname.lastname@example.org.