Employer-Based Retirement Plans: Pros and Cons

Employer-based retirement plans are the keystone of retirement preparedness. A recent Forbes column examines the centrality of employers’ role — and the areas where there are shortcomings.

In “Should We Continue to Count on Employers for Retirement Provision?” Forbes contributor Elizabeth Bauer, FSA (a.k.a. blogger “Jane the Actuary”) discusses the advantages of a system that relies heavily on employer-based plans, and also suggests that it poses some challenges. “Yes, this is a question,” she writes, going on to say, “We take the so-called ‘three-legged stool’ a bit for granted, don't we?”

Bauer suggests that when DB plans were the norm, employers relied on pensions to encourage employees to retire at a “traditional” or early age and considered employees who stayed for their whole careers to be highly valuable. She adds that at that time, pensions “were a relatively affordable and low-risk means of achieving their business objectives” due to the state of funding requirements and longevity at that time, as well as attitudes toward investment and risk.

Bauer notes that despite the widespread shift to DC plans, “it’s still taken as a given… that employers, second only to the government, should be the chief providers of retirement accruals to workers.” Listing the positive aspects of this prevailing practice, she notes that employers can:

• provide enrollment forms and ongoing communications about the plan;

• use automatic features to increase participation in 401(k) plans, and “in ways that a financial advisor setting up shop and handing out business cards just can't do,” says Bauer, noting that this includes auto-enrollment and auto-escalation, and that both require employees to take active steps in order to not participate, as opposed to requiring them to actively participate and increase their contributions;

• default employees into funds that are invested in ways that are appropriate for their age, with younger employees’ funds invested in ways that entail higher risk (and also higher expected return);

• make available through an employer-provided retirement plan forms of saving that may not otherwise be available for employees with lower incomes;

• if they are sufficiently large, exercise bargaining power that will allow them to: (1) elect low-fee fund options for their employees; (2) work with consulting firms to identify the best ways to help employees save for retirement; and (3) provide online modelers and other sorts of advice; and

• offer matching contributions that can encourage employees to save for retirement.

But Bauer also argues that there are “some real disadvantages to our employer-centered retirement saving system.” Prominent among those, she says, is that such a system “misses those without conventional employment” — part-time employees, freelancers, contractors and employees and owners of small businesses. Bauer acknowledges that this group comprises a small percentage of the workforce, and further notes that it has shrunk from 11% to 10% of workers since 2005.

Bauer also notes that there is a “considerable number of workers” in traditional employer/employee arrangements who lack access to an employer-provided retirement plan. And she warns that some of the advantages to the employer-based system can also entail challenges; for instance, she says, some employees may regard an employer match as a ceiling for their own contributions to their retirement accounts.