Study: Auto Enroll Programs Boost Lower Income Participants the Most

July 13, 2005 ( - Lower-income workers stand to benefit the most from auto enrollment in 401(k) plan as they hit retirement with a higher account balance, according to a new study.

A news release from the Employee Benefit Research Institute (EBRI) and the Investment Company Institute (ICI) said the agencies’ joint study found that low-income workers would see the biggest boost because they are least likely to participate in a 401(k) plan on their own.

The report noted that without automatic enrollment K plan participation depends strongly on age and income, and ranges from a low of 37% among the young, lowest-income workers who are K plan eligible to a high of 90% among the older, highest-income eligible workers.

Among those turning 65 between 2030 and 2039 and who are K plan participants, researchers found that without automatic enrollment those in the lowest income quartile would end up with 51% replacement ratio by age 65 (the amount of their pre-retirement income), while those in the third quartile hitting 54%, those in the second quartile 59% and those in the top quartile 67%.

Auto Enrollment Data

By comparison, according to the researchers, among those working for an employer with auto enrollment, the retirement replacement ratio would be:

  • Lowest quartile – 37%
  • Second quartile – 40%
  • Third quartile – 45%
  • Highest quartile – 52%

The figures assume a 3% default contribution rate and a money market fund default investment option.

The EBRI/ICI researchers asserted that an employer’s plan design has a notable impact on a worker’s retirement replacement ratio. According to the data, among those at an auto enrolling employer with a 6% default deferral and a lifecycle fund default investment option, the replacement ratio would be:

  • Lowest quartile – 52%
  • Second quartile – 54%
  • Third quartile – 57%
  • Highest quartile – 63%

Not surprisingly, the EBRI/ICI research also found that workers who are in K plans their entire career do better than those who only work for an employer with a K plan part of the time. For example, the lowest-income participants currently between ages 26 to 35 are estimated to have a median income replacement rate of 25% when they turn 65 if future 401(k) coverage is random; however, they would have a 51% replacement rate if each subsequent job is covered by a 401(k) plan. The trend also holds for the highest-income participants of that age group, who would have a 30% replacement ratio under random coverage and 67% if 401(k) coverage is continuous.

Impact of Default Investment Option

The study also concluded that:

  • 401(k) plans that set a lifecycle fund as the default investment option have higher forecasted income replacement rates than plans that have a money market fund as the default investment option, the study reports.
  • 401(k) catch-up contributions – available to participants who are age 50 and older and are already contributing the limit – primarily increase higher income participants’ projected income replacement rates.

Finally, if employees contribute to IRAs during lapses in 401(k) coverage, lower-income participants are not likely to fall as far behind in retirement savings as are higher-income workers, because contributions from low-income workers to 401(k) accounts tend to be close to IRA limits, the study found. But higher-income workers who are not offered a 401(k) plan at work will not be able to duplicate through IRAs the amounts they tend to contribute to a 401(k) plan.

The full report is here .