Hewitt Outlines Alternatives to 401(k) Match Cut Savings

Copyright 2009 Institute of Management & AdministrationAll Rights Reserved Managing 401(K) Plans

June 2009

HUMAN RESOURCES Vol. 2009 No. 6

1530 words

Hewitt Outlines Alternatives to 401(k) Match Cut Savings

Main article

As the recession has gained a stranglehold on many companies, more are starting to consider eliminating or suspending their 401(k) company match as a way to save money. And money it will save. But what are the consequences?

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In fact, a growing number of employers have announced that they are either reducing or eliminating their 401(k) plan matching contributions on a temporary basis. In most cases, the employers say that they must make changes to their matching contributions as an alternative to laying off workers.

Some of the companies cutting or reducing their matching contributions, according to a noncomprehesive list compiled by the retirement savings advocacy group Pension Rights Center include: General Motors Corp., Eastman Kodak Co., Motorola Inc., FedEx Corp., Starbucks Coffee Co., Sprint Nextel Corp., Penske Automotive Group Inc., Macy's Inc., Huntington Bancshares Inc., 7-Eleven Inc., Eddie Bauer Holdings Inc., Coca-Cola Bottling Co., Hewlett-Packard Co., PPG Industries, Black & Decker Corp., Xerox Corp., JPMorgan Chase & Co., Federal Signal Corp., Boise Cascade Corp., and Weyerhauser Co.

And the list is far from complete. Other surveys have shown, like that of the Spectrem Group (Chicago), that one-third of employers have reduced or eliminated retirement plan matches during the economic crisis. Others are more optimistic. But the trend is clearly there, and employers need to carefully assess if such a move makes sense.

Savings to Be Had

It's no wonder companies are eyeing their match in these times of intense cost pressures. A recent analysis by Hewitt Associates (Lincolnshire, Ill.) found that companies can save, on average, more than $1,500 per employee each year by suspending their 401(k) match, assuming the average employer match is 50 cents to the dollar, up to 6 percent of pay.

A typical large U.S. company, for example, can see savings of $25 million a year. The average midsize company can save more than $10 million, and the average small company can save nearly $2 million annually. Hewitt defined a large company as one with 15,001-plus employees. A midsize company was defined as one with 2,001 to 15,000 employees. A small company was defined as one with one to 2,000 employees.

"Companies are weighing their options, especially if they are in a cyclical sector, and evaluating their specific situation before making a decision to suspend the match," Pamela Hess, director of retirement research for Hewitt told us.

"Providing retirement benefits, especially matching benefits, are very costly," Hess said. "Certainly a temporary suspension is preferable to having one's pay cut or being laid off."

Hess noted that in the last economic downturn, companies that suspended their matches to address their deteriorating financial conditions largely restored the match in full once they were on more solid financial ground.

Nonetheless, Hewitt recommends employers take this step only as a last resort due to the significant impact it has on employees' ability to save enough for retirement.

Research has shown that suspending the company match negatively impacts employee participation and contribution rates. Once the match is suspended, employees may reduce their own 401(k) contributions or even stop contributing to their plan entirely. As a result, employees' retirement savings shrink by thousands of dollars due to that one-year suspension. For example, a younger worker earning $50,000 a year who contributes 6 percent of his or her salary will have $16,000 less for retirement than what they would have had if their employer hadn't suspended their match for one year. That number jumps to $48,000 if the employee stops contributing during that year as well.

Many workers who stop contributing to their 401(k) when their company suspends their match don't immediately resume contributing once their employer reinstates it. While they may eventually start saving in their 401(k) again, Hewitt finds even a hiatus in savings of just a few years can still deplete retirement savings by hundreds of thousands of dollars. For example, a younger worker earning $50,000 a year who stops contributing 6 percent of his or her salary for five years can have up to $150,000 less for retirement.

"Companies are making difficult decisions to keep their bottom line in the black, and the employer 401(k) match is one of the costliest retirement expenditures they sustain in a given year. Cutting this benefit to reduce costs is a much less drastic action than eliminating jobs or reducing salaries," Hess added. "However, suspending the match has a significant impact on employees. Not only does it dissuade many workers from saving in their 401(k), but it also adversely affects their ability to save enough to retire. We believe employers should suspend their match only as a last resort. There are less drastic steps they can take to lower costs while still preserving the incentive for workers to save for retirement."

Alternatives to Consider

So in these very tough economic times, what other alternatives do employers have? Hewitt suggests that employers:

Decrease the match. The average large employer can save nearly $13 million each year by decreasing their match by half instead of suspending it entirely, Hewitt advises. This still motivates employees to continue contributing to their 401(k), even if at a lower rate.

Communicate to employees only through online means. Hewitt research shows that employers believe communication is a critical tool in helping their employees save properly for retirement, particularly during these troubled economic times. Three-quarters (75 percent) of companies are using their intranet site, 60 percent are making use of e-mail blasts, and 49 percent are using Webinars. Still, many employers use printed materials in addition to online tools to communicate with employees. By moving to online-only communication, employers can effectively reach their employees while saving money on paper costs.

Make fees transparent. Employers should take a closer look at the funds they offer in their 401(k) plans to ensure they do not carry high expense ratios. Hewitt research shows that additional annual expenses of 0.25 percent--the difference between the typical institutional fund and retail mutual fund portfolio--can reduce projected retirement income substantially over time. For younger employees, these higher costs can erode 401(k)-related retirement income levels by nearly 6 percent by the time these employees reach retirement age.

Tips for Employees

If the worst case happens and a match is suspended, employers can advise employees to take some steps to keep their retirement savings whole. Hewitt suggests that employees:

Save more. According to Hewitt's research, the average employee can bridge the savings gap a company 401(k) match suspension creates by upping their contribution by three percentage points a year. Employees who cannot afford to save an extra three percentage points should explore whether their employer offers automatic contribution escalation, which allows workers to increase their 401(k) contributions in smaller increments of one to two percentage points per year. Steadily increasing saving rates in this manner can have a noteworthy impact on employees' ability to accumulate sufficient retirement assets.

Diversify assets. Employees should make sure they properly diversify their portfolio by regularly rebalancing their asset allocation. Workers who are not financially literate can accomplish this goal by investing in target date funds or managed accounts. For do-it-yourselfers, automatic rebalancing is a great tool to get the portfolio realigned regularly. These tools help workers maintain a proper asset mix, which can help offset the roller-coaster fluctuations of the market and maximize their retirement savings. Hewitt research shows 77 percent of employers now offer target date funds. About half (49 percent) offer automatic rebalancing, and another 20 percent are likely to add the feature in 2009.

Take advantage of advice. Many companies offer services and tools that can help workers make informed investment choices based on their particular needs. According to Hewitt research, 38 percent of companies offered online, third-party investment advisory services in 2008, and another 43 percent planned to add these services in 2009. In addition, one-fifth (20 percent) of companies currently offer managed accounts, which allow employees to delegate the overall management of their accounts to an outside professional.

Don't cash out. According to Hewitt research, 45 percent of employees cash out their 401(k) plans when they leave a job. Although it seems tempting to cash out 401(k) savings, employees will forfeit 20 percent or more of their account's value in federal taxes and another 10 percent in early withdrawal penalties. By keeping money in their companies' 401(k) plans--even when switching jobs or exiting the workforce--workers can continue to grow their savings in a tax-free environment and, in many cases, avoid higher investment fees typically associated with retirement savings accounts offered in the retail market.

May 26, 2009