Workers' Retirement on Shaky Ground; Employers Can Help By Brenda Watson Newmann Managing Editor, mPower You arrive home after a hard day at work, fix dinner, wash the dishes, do the laundry and walk the dog. Maybe you even help your kids with their homework. When you finally have a chance to sit down, it's 10 PM. And now you're supposed to figure out how to invest your retirement money? U.S. workers are shouldering a bigger responsibility for saving and investing for retirement, as 401k and other defined-contribution plans increase in number. But if you're like many workers, you face obstacles to managing your retirement savings effectively. You may lack the time or investment knowledge to figure out how much to save and how to invest the money. "The need (for employers) to focus on educating employees on how much to contribute and where to invest it is higher now than it's ever been," said Ted Benna, creator of the first 401k plan. Employers should consider offering employees independent investment advice, he said. What's more, employers should review their plans to make sure they are offering a variety of good-quality, low-cost investments to their employees, he said. Benna was among a panel of experts assembled this autumn by mPower, an online investment advice company, to look at the growing threat to retirement security in the United States. Other panelists included David Goerz, chief investment officer of mPower, and Linda Shore, a Washington D.C. benefits attorney. mPower also publishes this Web site. Shifting Plans Over the last two decades, "there has been a seismic shift in the way Americans save for retirement," said Goerz. Fewer employers offer "defined benefit" (DB) plans, in which the employer guarantees a set payment every month in retirement, and more offer "defined contribution" (DC) plans, in which payments during retirement depend on how much a worker saves and how he or she invests the money. From 1983 to 1998, the percentage of U.S. households participating in a defined-contribution plan increased from 10.9 percent to 48.8 percent, while the percentage participating in a defined-benefit plan dropped from 52.6 percent to 35.3 percent, according to a study by New York University economics professor Edward Wolff, in his book Retirement Insecurity. Younger workers plan to rely more on their own savings and money they contribute to employer-sponsored retirement plans to finance their retirement, while current retirees rely more on Social Security and defined-benefit pensions, according to figures from the Employee Benefit Research Institute, in Table 1. Table 1. Expected Largest Sources of Income in Retirement, By Age Group All Workers Workers 20-39 years Workers 40-59 years Retirees (age 60+) Money you and/or your spouse put into a retirement plan at work 30 percent 38 percent 25 percent 7 percent Other personal savings or investments that are not in a work-related retirement plan 14 18 13 9 Money provided by an employer through a pension 14 12 15 22 Social Security 13 7 16 48 Employment 9 10 9 1 Money provided by an employer through a contribution to a retirement account 7 4 9 1

Source: EBRI 2002 Retirement Confidence Survey

"Companies are continuing to move away from DB," said Ted Benna. "The likely scenario is that the responsibility will continue to get shifted more and more onto the individual."

The problem is that many Americans don't save nearly enough for retirement, and what they do save, they often don't invest properly.

"Most individuals are not equipped to manage their own assets," said Goerz.

Problem: How Much to Save?

According to the Profit-sharing/401k Council of America (PSCA), the average percentage of pre-tax salary deferral by non-highly compensated employees to 401k plans was 5.3 percent in 2000. Is this enough? If your 401k plan is your only retirement fund, probably not. Even 10 percent of your salary may not be enough.

Take the following example, cited by Goerz. Say a 25-year-old worker earns $35,000 a year. He contributes 10 percent annually to his 401k for 40 years, and has 6 percent salary increases each year (on average). His investment return averages 8 percent while working and 5 percent after he retires and moves some of his investments into more conservative funds. This person would end up with a nest egg worth $441,518 in today's dollars, said Goerz. That may sound like a lot, but if it were to be drawn down to zero over 30 years of retirement, it would provide only $20,000 a year (in today's dollars) in income.

A nest egg of $1 million would provide around $50,000 a year in income, said Goerz.

Of course, everyone's needs will vary when it comes to retirement income. The important thing to know is approximately how much you'll need in order to maintain your lifestyle. But recent surveys have indicated that many Americans don't know how much they need to save in order to have a comfortable income in retirement -- and many of them don't even realize that they don't know.

In August, Charles Schwab & Co. released results of a survey showing to what extent Americans are unrealistic about their retirement prospects. Sixty-four percent of those surveyed -- Americans ages 45-65, with household income of at least $75,000 -- said they were confident they would have enough money for a comfortable retirement. However, when Schwab advisors then actually assessed what their retirement needs would be and told them the numbers, the confidence figure dropped by half, to 32 percent.

Problem: How to Invest?

Simply contributing more to tax-deferred retirement accounts isn't enough, though. In order to get the most out of your savings, the money you contribute should be invested in a diversified portfolio with a risk level that's appropriate for you. The right combination of investments is the most important factor in determining your investment return, but it can be tricky and time-consuming to figure out on your own.

For example, many investors appear not to understand the risks of investing in a single stock, said Goerz. Even after the Enron fiasco that depleted the 401ks of workers who held large amounts of company stock, 28.1 percent of total defined-contribution assets were invested in company stock early in 2002, said Goerz, citing a study by The Institute of Management and Administration (IOMA).

A survey released in May by John Hancock Financial Services found that respondents "still think company stock is less risky than a diversified domestic stock portfolio." In reality, a diversified portfolio is less risky because your fortunes are not tied to movements of just one stock.

Solutions

What can be done to help workers prepare financially for retirement?

In addition to education, employers should consider providing investment advice for their workers, the panelists suggested. An advisor, either online or in person, would help you determine how much to save and how to invest the money in order to have a good chance of meeting your retirement income goal. In addition to taking the guesswork out of retirement saving, an advisor could help you stick to your saving and investing plan, for example by encouraging you to rebalance your portfolio regularly. (Rebalancing is when you adjust the percentages of stock, bond and cash investments to correspond with your desired asset allocation. It's particularly important during times of market volatility, because sharp movements in the market could leave you with much more or much less of an asset class than is desirable according to your plan.)

A good advisor would also likely encourage you not to react to short-term market events, and to stick to your long-term investment plan.

Some employers already offer their employees advice and financial education, either through an online service or through seminars and meetings with financial advisors. But many employers have avoided offering advice because they are afraid of being held liable for the results if employees aren't satisfied, and because federal law doesn't specifically address the legality of offering advice.

However, the Department of Labor has been encouraging employers to offer independent investment advice to employees, said Shore.

If employers are worried about being sued because of poor 401k results, "one of the best things (they) can do is offer independent investment advice" to employees, thereby helping them to make rational investment decisions, she said.

The following strategies could help companies reduce the risk of litigation related to a retirement plan, according to Shore:

• avoid recommending plan investments in company stock
• inform participants if they have investments concentrated too much in a single security
• make independent investment education and advice available to plan participants.

Congress has been considering various bills designed to alleviate the issue of company stock, but it seems unlikely that agreement will be reached before the October recess. Our article, listed in "Related Reading" has an overview.

Benna said he supports the idea of employers offering independent investment advice to employees. He also suggested that in the short run, employers should focus on improving three aspects of the defined-contribution plans they offer their employees:

• How much the investments and plan administration cost the participant in fees
• How many different types of investments participants have to choose from
• The quality of the investment options

Advice Helps

When individuals get advice on investing their money, they are likely to act on it, said Goerz.

He cited two studies that examined investor behavior. One, by EBRI, looked at investors who received advice on how much to invest in different asset classes, but not on which specific funds to choose. Seven percent of participants made changes to their investments after receiving this type of advice, the survey found.

The second study, conducted by Modalis Research Technologies for mPower, looked at behavior by participants receiving advice from mPower on how much to contribute and which particular funds to invest the money in. Twenty percent of those participants made changes based on the advice they received.

Also, the average participant receiving advice from mPower increased his or her contribution from 7 percent of salary to 10 percent, the Modalis study found.

The information provided here is intended to help you understand the general issue and does not constitute any tax, investment or legal advice. Consult your financial, tax or legal advisor regarding your own unique situation and your company's benefits representative for rules specific to your plan.

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