K Plan Features Offer Little Incentive to Participate

October 24, 2005 (PLANSPONSOR.com) - A study published by the Pension Research Council found that employer match, liquidity, and investment features in 401(k) plans have little effect on participation or contribution rates.

Noting that workers who participate in a 401(k) plan throughout their career can expect replacement income of nearly 60% from their 401(k) plan, the authors, Olivia S. Mitchell, Stephen P. Utkus, and Tongxuan (Stella) Yang, looked at plan features that may offer incentive for plan participation. The authors used a dataset of around 500 plans covering 740,000 workers.

The study found that employer matching contributions, considered to be a driving force in 401(k) plan participation rates, actually offer little incentive to employees to participate. The authors pointed out in its paper that the most prevalent employer matching formulas provide participants an annual rate of return premium on their contributions of 1% to 5% above the expected return on investments. In spite of that, the authors estimate that about 60% of employees would participate in a 401(k) plan independent of a match feature, and only an additional 10% would respond to the addition of an employer match. The remaining 30% would not participate regardless of any employer match offered.

In addition, the study results showed that the average workforce forfeits about half of the company’s match due to failure to contribute the maximum employee rate that is matched.

As far as liquidity and investment features of a 401(k) plan, the authors found that participant responsiveness to these features was minimal and at times contradictory. Fund liquidity via a loan feature had no affect on participation rates, but did increase plan contribution by non-highly-paid participants by about 10%. Offering a larger choice of investment funds does induce participation, but too many equity fund choices seemed to create “overload” and discourage participation.

The authors recommended in their paper that employers and lawmakers consider automatic enrollment, employer or governmental non-elective contributions, and mandatory retirement contributions as plan features to increase 401(k) plan participation rates.

The study is here .