Vanguard Commentary: How Plan Design Can Help Promote Saving Equity in Retirement Plans

A secure retirement. American employees share this common goal, but an examination of their retirement preparedness reveals disparate trends and behaviors in its pursuit. Many of these disparities can be better understood by asking:

• Does an employee have access to an employer-sponsored retirement plan?

• If an employee has access to an employer-sponsored plan, do they save for retirement?

• If they save, how much do they save?

• How do they invest their retirement assets?

• Do they tap into their retirement assets to meet present-day obligations?

Vanguard research has shown how demographic factors such as income, age, gender, and employment tenure influence employees’ retirement saving. Studies from such research firms as Pew and Morningstar have also revealed large gaps in overall retirement saving outcomes, specifically when comparing race and ethnicity groups, including Black, Hispanic, Asian, and White employees. How do American employees of different racial and ethnic backgrounds save, invest, and access retirement assets within a defined contribution (DC) plan?

While Vanguard’s mission has always been to give all investors the best chance for investment success, not all investors have even access to the path to successincluding the path to 401(k) retirement savings. And often, investors are making decisions and navigating through complex situations that could pose challenges to taking a consistently funded and appropriately allocated approach. Vanguard conducted research into the role that plan design plays in fostering more equitable saving to gain a deeper understanding of any saving disparities that could affect retirement preparation across racial and ethnic segments.* (Note that our research was limited only to an employer’s defined contribution retirement plan.)

Plan design features deeply influence participant retirement saving behaviors. Over the past decade, DC plans have increasingly turned to automatic solutions to help their employees save more for retirement. As a result, plan participation rates are on the rise, employee saving rates have increased, and participant portfolio construction has improved with more age-appropriate, well-diversified allocations. Automatic enrollment designs help improve retirement savings for all employees, but how significantly do they improve outcomes across race and ethnicity groups?

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Our study of current plan participants finds that the use of automatic plan design features helps reduce disparitiesin some instances, significantly. Based on a sample of nearly 115,000 eligible employees from 14 DC plans that provided race and ethnicity data for participant populations, our research compared participants in automatic enrollment plans with those in voluntary enrollment plans across a wide spectrum of industries to better understand the impact plan designs have on creating more equitable retirement saving.

One important caveat is that our study was conducted in the context of employer-sponsored retirement programs. It’s intended to examine differences in that context and not to address differences beyond workplace retirement plans, whether in personal savings or in household wealth accumulation. Our study addresses an employee’s current workplace savings plan, which is only part of the household wealth picture albeit a growing and significant part of the balance sheet for many Americans. Increasing the availability of workplace retirement plans would benefit the roughly one-half of employees who do not have access to a plan. A disproportionate number of those employees identify as Black and Hispanic.

White participants (64%) make up the largest group, followed by Black participants (12%), Hispanic participants (10%), and Asian participants (9%) (Figure 1). Other race and ethnicity segments, including participants of two or more races or ethnicities, compose the remaining 6%. The median age is 42; the median job tenure, four years. Median participant income is $74,696.

Six plans have an automatic enrollment plan design with initial default rates between 2% and 5%. In addition, five plans use an automatic escalation feature for automatically enrolled participants that automatically increases the employee deferral rate by 1 percentage point each year. The remaining eight plans have a voluntary enrollment design, and most provide participants with the ability to enroll in an automatic increase feature.

In total, 52% of the employees in our sample were in an automatic enrollment plan. The average age, tenure, and compensation of employees in automatic and voluntary enrollment designs was similar.

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This article first appeared on GuruFocus.