Education means opportunity, and it certainly applies to 401(k)s. A survey found that while plan participants are satisfied with their 401(k), a lack of understanding of basic investment concepts likely contributes to lower plan engagement and less successful retirement outcomes. For retirement plan advisors and administrators, the implication should be clear.
The Guardian Insurance and Annuity Company released The Guardian Small Plan 401(k) RetireWell Study 2.0: What’s Working and Not Working for Small Plan Participants on April 16. When respondents were asked which terms they had heard of in connection with their 401(k), the results were mixed. Fifty percent said they had heard of target date funds; 45 percent had heard of dollar cost averaging and 39 percent were familiar with target risk funds.
While being familiar with a term is one thing, comprehension is another. Two-thirds of participants who have heard of target date or target risk funds admit they do not understand the term. Seventy-seven percent have heard of vesting but fewer than half assert that they understand the term completely. Plan participants need a better grasp of basic retirement planning terms to truly understand how 401(k)s work and how they can be engineered to meet their financial goals and optimize their contributions.
This is particularly important as 401(k)s and other defined contribution plans are by far the largest anticipated source of retirement income for plan participants. In fact, 77 percent of survey respondents expect it to be their most important source of income in retirement. This is the primary vehicle they use to fund their retirement and it’s the primary vehicle they plan on drawing from to provide income in retirement. Personal savings is viewed as the third largest source of income with Social Security ranked second.
Additionally, while plan participants place the 401(k) on a pedestal, it still remains underutilized. The average 401(k) participant under 50 contributes $8,700 per year to his or her account; for those 50 or over the average is $9,100. In both cases this equates to a median deferral rate of nine percent of personal income, certainly less than most financial professionals recommend to build a secure retirement income.
On top of not investing enough, the study shows that most individuals are unprepared to make decisions or take action to optimize their 401(k) plans and are leaving tax-efficiency on the table. One-third of all 401(k) participants chose to leave their 401(k) accounts completely untouched within the past year, meaning few increased their contribution. This is where proper education and guidance can influence how plan participants engage with their retirement plans.
“Our research also shows that most individuals are unprepared to make decisions or take action to optimize their 401(k) plans,” said Douglas Dubitsky, vice president of Guardian Retirement Solutions. “This is where education and support can make a significant difference in improving retirement outcomes.”
The study finds that plan participants are fairly realistic about the connection between savings behavior today and retirement income tomorrow. However, plan participants are overly concerned with checking on their account balances and do not focus enough on how to convert their balance into income. This directly influences their retirement outlook; 50 percent are only somewhat confident that they will hit their target retirement income. Further guidance and knowing how current contribution rates stack up against future income replacement would cause plan participants to set more money aside.
“It’s certainly reasonable to speculate on the link between comprehension, clarity, and participant engagement,” Dubitsky added. “The simple conclusion is that the more participants know, the more they will save.”
With more than 20 years serving financial markets, John Sullivan is the former editor-in-chief of Investment Advisor magazine and retirement editor of ThinkAdvisor.com. Sullivan is also the former editor of Boomer Market Advisor and Bank Advisor magazines, and has a background in the insurance and investment industries in addition to his journalism roots.
