MONEY Investing

Fixing the Holes in Your 401(k)

Employer-sponsored retirement plans are getting better, but they've still got plenty of holes. Here's how to plug them.

Prodded by Washington, the 401(k) industry has in recent years cut fees, increased participation, and made it generally easier for Americans to invest in these tax-advantaged retirement accounts.

Still, shortcomings remain. And some of the fixes that have improved the overall system may actually be impeding your progress.

“You’ve got be careful,” says Rick Meigs, who runs 401khelpcenter.com, an industry website that tracks trends in the retirement marketplace. “There are always unintended consequences.”

In the stories that follow you’ll learn the various ways that your plan is letting you down. More important, you’ll find out how to make the best out of a savings tool that — holes and all — is still likely to be your best bet at being able to fund a pleasant and prosperous retirement.

Leak No. 1: Auto-enrollment is a double-edged sword

The push to enroll employees in 401(k)s automatically has generally been praised — for good reason. Participation rose from 67% in 2005, before these programs began, to 78%, as young workers have been swept into the system. But for long-time savers, auto-enrollment cuts a different way.

Related: What is a 401(k) plan?

Most companies set aside a fixed pot of money for 401(k) matches and other benefits. As the pool of eligible employees grows, firms can either set aside more or cut the size of the benefits. It’s too early to tell how companies will respond in the long run, but a study affiliated with the Boston College Center for Retirement Research found that plans without this feature matched 3.5%, vs. 3.2% for auto-enroll plans.

Another unintended consequence: Many plans default workers in at a meager 3% savings rate, in part to avoid scaring off new participants. You know that’s too little. What you may not realize, though, is that a low default rate for newbies can help “frame” what even experienced hands think is an adequate level of saving. In auto-enroll 401(k)s, those making more than $100,000 sock away 9.3% of their pay, vs. 10.7% for highly paid workers who aren’t in such plans.

“People look at the 3% and think, ‘That’s what the company is recommending. So if I’m saving twice as much, that must be a good thing,’ ” says Rob Austin, director of retirement research at the benefits consultant Aon Hewitt. Yet even three times the default is probably insufficient, as many planners advise socking away 15% of your pay, including the match.

WHAT TO DO

Make automation work for you. Two in five auto-enroll plans offer a different automated function — one that boosts your contribution rate over time unless you opt out, according to the Plan Sponsor Council of America. If yours doesn’t, you may still be able to opt in to such a tool. Even if you think you’re disciplined enough to make these adjustments yourself, sign up just in case.

Bank your raises as you go. At the same time some businesses are cutting their match, many are restoring bonuses and raises. Commit to saving at least a portion of those pay hikes before you get them, says Shlomo Benartzi, chief behavioral economist at AllianzGI.

“People tend to feel the pain of losses more than the pleasure of gains,” he says. In this context, money “lost” to savings “feels like a loss.” But that won’t be the case if you sock the raise away before you ever have a chance to enjoy it.

Is your 401(k) plan letting you down?

Send a letter to the editor to money_letters@moneymail.com.

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