The changes to your next 401(k) statement could be alarming, but don’t panic just yet. (utah51, Adobe)
Estimated reading time: 4-5 minutes
ATLANTA — Your next 401(k) filing could be a very ominous surprise.
Pension plan holders typically receive quarterly statements in the mail that provide an update on how much they have saved and where their investments are allocated. Starting in late June, they will also receive a “lifetime income illustration” that shows the monthly income a saver would receive from their current 401(k) savings once they retire.
The change aims to help employees visualize what the money they’re saving today could mean to them in retirement and encourage them to think of those savings as a regular future paycheck, much like Social Security. , instead of a lump sum.
In 2019, Congress passed the SECURE Act to help Americans save by strengthening 401(k) programs – employer-sponsored tax-deferred retirement accounts to which employees can contribute pre-tax income, and employers may match all or part of these contributions.
The law included a clause intended to address a growing concern that 401(k) participants do not fully know whether their savings will be sufficient to support them in retirement. The clause requires plan administrators to provide illustrations of estimated monthly payments if the current account balance has been converted into a lifetime monthly income stream. Earlier this year, the Department of Labor issued guidelines on how to implement these changes and said they were to come into effect by the end of June.
The illustrations aim to change the way people think about their retirement savings, said Chad Parks, founder and CEO of Ubiquity Retirement + Savings. People tend to think of the money they’ve accumulated as a lump sum, which can discourage earners with smaller account balances from saving more, he said. Translating dollars going into 401(k) plans into dollars going out in the future can provide more clarity on how their money would work for them.
The idea works in theory, but the execution could end up scaring off potential savers, experts say.
Starting this quarter, plan holders will see two new estimates on their 401(k) statements. Each assumes they will use their checking account balance to purchase an annuity, a retirement vehicle that allows investors to invest a lump sum that will be converted into fixed monthly payments for life.
It doesn’t help you understand what changes if you save more money each pay period.
–Edward Gottfried, Workplace Improvement
An estimate on the statement will be for a single life annuity, which pays income to an individual. The other will be for a qualified joint and survivor annuity that pays income to the annuitant and their surviving spouse for life.
Illustrations do not take into account social security or any outside savings, nor any future growth in investments or market capitalization.
Experts say those approaching retirement age will benefit from knowing how much they can expect to live when they stop working. But age isn’t factored into the equation, so younger workers might see numbers that discourage them from saving more, said Edward Gottfried, director of product management at Betterment at Work.
“It doesn’t help you understand what changes if you save more money each pay period,” Gottfried said. The actual implementation of the decision by the Department of Labor, he said, lacks the spirit of the law enacted by Congress.
Parks thinks new savers will be encouraged to consider the meaning of the numbers presented to them and make their own calculations. But Gottfried said these calculations would “require a great deal of financial knowledge and even actuarial mathematics”.
Gottfried, who professionally studies and advises on retirement plans, said it took him a few weeks to unpack and figure out what the charts meant. This is a bad sign for the average investor.
A three-legged stool
Ultimately, the changes are a step in the right direction and a good first step, Parks said. But there are still huge challenges ahead.
Retirement savings in the United States has long been considered a three-legged stool. Most American workers had pensions, Social Security benefits, and defined contribution plans like the 401(k). Not anymore.
Pension plans are almost extinct. About half of private sector workers were covered by these defined benefit schemes in the mid-1980s, but by 2021 only 15% of private sector workers had them.
Social Security payments still provide about 90% of the income of a quarter of older people, according to SSA surveys. But the Social Security trust fund faces a 75-year deficit, and without intervention it will be depleted by the mid-2030s. Lawmakers have faced a decades-long political stalemate over how to fix it. solve.
What remains is the 401(k), which 68% of private sector workers have access to, but only 50% take advantage of. The SECURE Act is an attempt by Congress to broaden the scope of the 401(k) to make it a better retirement savings vehicle. Whether this effort will be successful remains an open question.