What Makes A Good 401k Plan?

What makes a good 401k plan?  Last week I offered my perspective on the challenges I see with President Obama’s myRA retirement plan initiative.   Today I’ll share my opinion on how companies can design a 401k plan for participants the right way.  From a participant’s standpoint, there are only four variables that go into the “retirement savings equation” – what goes into your account (contributions by you and your company), what comes out (fees, loans, and distributions), what rate of return you achieve and time.  If people are going to retire successfully, it’s going to require a combination of sacrifice and an aggressive partnership between workers and companies, which I think should include:

1. Aggressive automatic enrollment (at least 6%) – studies show that the default percentage does not strongly impact opt-out rates, so it makes sense to be aggressive – your employees will thank you later.
2. Aggressive auto-escalation (at least 2% per year) – most participants keep their contribution at the default instead of incrementally increasing over time – people need to save more.
3. Diversified, Low-Cost Portfolios – The vast majority of employees will be far better off over time by being invested in a well-diversified, low-cost portfolio (with exposure to riskier asset classes like stocks) that are managed for them – plus, a 2-3% return is not going to be enough over time
4. Low Fees – Participants should pay no more than 1% in total plan fees (and ideally less than .50%) – to achieve this; companies generally need to pay more of the plan’s administrative fees directly.
5. Company Generosity – Studies show that employees need to save at least 10% per year, and in many cases, that number may be closer to 15-20%.  I believe companies (including my own) have a moral obligation to help their people retire successfully, and a 3-4% company contribution just isn’t going to get them there.  Companies need to begin to view retirement contributions as not just an expense but an investment in their people and their business.
6. Time – Accumulating sufficient retirement assets does not happen at night, it takes a long time, which means employees need to start saving as early as possible.