Administration February 3, 2022

Social Security Replaces More Retirement Income for Low-Income Participants

Plan sponsors can assist low- and moderate-income workers’ retirement readiness by educating them about the benefits of delaying Social Security until full retirement age.
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Social Security is more important for low- and moderate-income (LMI) earners’ retirement than it is for higher-income workers because the benefit is expected to replace a greater share of their lifetime earnings, according to Rich Johnson, senior fellow and director of the Program on Retirement Policy at the Urban Institute, a Washington, D.C.-based think-tank for economic and social policy research.

“It’s not that their benefits are higher than [they are] for higher-income workers,” he says. “It’s that Social Security will replace a larger share of lifetime earnings for lower-income people than for higher-income people. Because higher-income people tend to invest more in retirement plans outside of Social Security, they have other sources of income from investments and those other sources are more important, while Social Security is a smaller share of their total income at older ages.”

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Changes the Social Security Administration has made—to gradually push the age for collecting full Social Security benefits to 67 from 65—could reduce the benefit’s importance for all workers, Johnson explains.

“Going forward though, it’s not clear that Social Security is going to be more important than it is today and, in fact, there’s some indication that it might be less important for workers at all levels,” he says.

Beneficiaries that retire at age 62 will receive 70% of full benefits, whereas “it used to be the case that if you retired at 62 you would get 80% of your full benefits,” Johnson says.

Social Security Communications

Retirement plan sponsors and advisers have many options when deciding how to include information about Social Security in communications to LMI participants to help them with their retirement readiness, but there are also challenges that come with those efforts, according to sources.

LMI participants could benefit from education that places more emphasis on understanding how the system works and where the benefit comes from, says Chuck Williams, CEO at Finspire, a Chicago-based corporate retirement planning consultant. In other words, information provided to LMI retirement plan participants on how to maximize the benefit could be improved, he says.

“People sometimes know maybe what [their benefit] is, but those are really estimates and can be very far off on what the actual case is,” he says. “[They need] a more specific formula and guidance on not just where the estimate comes from in Social Security, but how do I maximize it?”

Beneficiaries can begin to claim Social Security benefits starting at age 62. However, an individual is entitled to full benefits at the full retirement age of 67. Claimants that begin Social Security early will receive reduced amounts by a small percent for each month before the full retirement age is reached.

“One of the bigger mistakes people make is starting Social Security early,” Williams says. Participants need assistance to make the optimal choice for when to begin claiming benefits, with education that highlights the benefits of delaying, he adds.

“[It’s] really educating them on that benefit of waiting and improving Social Security, improving their fixed income in retirement, and also incenting them to save more so that they can delay Social Security until later on,” Williams says. “Tying that in to understanding of ‘How do I maximize that Social Security’ versus just giving them a rough guideline of what it is and then maximizing the impact of that is really key. That is not really getting conveyed enough.”

Williams adds that most existing education is general advice and not tailored to LMI participants’ needs.

Boosting LMI Savings

Because LMI workers will have to rely on Social Security to replace larger portions of their income than other workers, plan sponsors and advisers can also encourage them to boost their retirement readiness by saving in an employer-sponsored retirement plan.

“The best thing an employer can do is to offer financial planning for these employees,” says Warren Cormier, executive director of the Defined Contribution Institutional Investment Association (DCIIA) Retirement Research Center (RRC).

Personalized financial advice for LMI workers, automatic enrollment that is paired with auto-escalation, and financial wellness programming tailored to challenges for these participants are impactful approaches, Williams adds.

“If you can eliminate those obstacles and get them education to improve their overall financial health [by] paying down debt and building an emergency savings, you can get on that path to retirement,” he says.

LMI workers can be helped by reaffirming the critical importance of contributing to an employer-sponsored retirement plan with ongoing financial education, says Greg Adams, consultant at Fiducient Advisors.

“Doing some financial education just once isn’t going to get it done,” he says. “You get a little bit of a decreasing return every time you do one of these, but each time you might hit on something a little bit different for somebody else.”

Adams suggests holding annual financial wellness campaigns for participants. “This can be done a whole bunch of different ways: in-person, virtual webinars, seminars, recordings, information posted on a company intranet site—[there are] a lot of different ways you can try to reach participants,” he says.

Administration February 3, 2022

Public Sector 403(b) Plans Have a Participation Problem

Nonetheless, there are ways governments can create more engaged employees and encourage workers to join defined contribution plan programs.
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North Carolina State Treasurer Dale R. Folwell recently announced that the North Carolina Supplemental Board of Trustees voted unanimously to discontinue the state’s 403(b) program for employees, opting to focus on the more popular state 401(k) and 457 plans.

“While the program offered competitive, low-cost investment options, enrollment … lagged,” the announcement said. “As of December 31, the NC 403(b) program has just over 1,400 participants and less than $33 million in assets. By contrast, the NC 401(k) and NC 457 plans serve a total participant base of almost 300,000 and more than $16 billion in assets.”

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The low participation rate is not a problem exclusive to North Carolina. A 2017 study by Lincoln Financial Group found participation rates in defined contribution (DC) plans offered by a government employer are much lower than private-sector 401(k) plans, with only a 44% participation rate found in government plans versus 82% in 401(k)s.

The low participation rate in public DC plans could be partly attributed to the fact that employees feel confident their defined benefit (DB) pension plans will meet their retirement income needs. A study by the LIMRA Secure Retirement Institute (SRI) of the public K-12 market found one-quarter of plan administrators think their employees do not participate in their 403(b) plans because they are already covered by other retirement plans.

The Importance of Public DC Plans

Joshua Franzel, managing director, MissionSquare Research Institute, says data based on the work the research entity has done with the Public Plans Database shows all states and the majority of local governments have made changes to their retirement options in recent years, including reducing benefits and increasing vesting schedules. “Based on our research, there’s been a reduction in public employers’ generosity,” he says.

Franzel says that reduction highlights the expanded role public DC plans play in making up the benefit difference. “The good news is public pensions are well-positioned to pay out benefits with funded ratios and contributions received but, still, the reforms create the need for robust DC savings vehicles,” he says.

Amy Simonson, vice president of finance and operations at Verity Asset Management, says state pensions and Social Security alone don’t provide the income replacement ratio needed for retirement in most situations. Most participants will require supplemental savings to meet their retirement goals.

“North Carolina has received very positive national attention over the years for the way the Treasurer’s Office has effectively managed the supplemental retirement benefits. The office has been extremely proactive with efforts to support retirement readiness, defined as 80% income replacement,” she says. “All of the North Carolina supplemental retirement programs are seen as critical to getting teachers, staff and administrators to that core threshold of retirement readiness.”

Highlighting the importance of DC plans to public employee retirement readiness, Simonson cites statistics from the North Carolina State Treasurer’s Office website that show 77% of employees who are enrolled in one of the three supplemental plans are considered on track for 80% income replacement. Comparatively, only 44% of people not enrolled are considered on track. “The availability of supplemental savings plans is critical in helping people meet their retirement goals,” she says.

Ways to Boost Public DC Plan Participation

Franzel says MissionSquare Research Institute has thought a lot about what governments can do to boost participation in public DC plans, but the institute doesn’t advocate for any one particular solution.

Automatic enrollment is a potential solution, he says, but many states limit the ability to automatically deduct money from employees’ paychecks, so the rate of auto-enrollment use in 403(b) plans is not nearly the same as it is for private-sector 401(k) plans.

Nonetheless, public employers have options. The institute has done case studies and found that “even in states where auto-enrollment is not allowed, there are other ways to implement auto-enrollment, for example, including the provision in collective bargaining agreements,” he says.

Franzel says he’s seen an increase in public employers offering financial wellness programs, and there’s a clear preference from employees for the topic of retirement savings to be covered in these programs. “From our 2020 research, we know that only 29% of state and local respondents reported having a financial wellness program, but 68% said they would participate in one, if offered,” he says. “Planning for retirement was the top topic preference, selected by 65% of respondents. This was followed by investment education, budgeting, estate planning and debt planning.”

Franzel says, anecdotally, he’s also seen an increase in enrollment in DC plans as a result of engagement with financial wellness programs.

Rob McLean, chief governance officer at Verity Asset Management, says effective plan design will boost participation. “For example, plans with employer contributions such as matching contributions or broader eligibility provisions will certainly lead to greater participation,” he explains. “Also, providing a simple and easy enrollment process, where employees can enroll in a few simple steps on a single website, will boost participation.”

McLean notes that employers managing a local government plan are free to design their own enrollment process, eligibility requirements, contribution types and financial education programs. He says an engaged employer contouring a plan for its own employees will provide a better retirement benefit than a more generic option.

The messaging and positioning of DC plans are also important. “Controlling the message to meet the needs of a sponsor’s participants is very different than employees receiving multiple messages designed to sell them something,” says Al Otto, national director, plan government solutions at Verity Asset Management.

“Look at it from the participant standpoint, putting yourselves in the shoes of a teacher walking into the lunchroom and [seeing] someone has a table set up,” adds Jae Di Lorenzo, director, participant engagement at Verity Asset Management. “The presumption is that they’re trying to sell you something, a position that can be uncomfortable for people. But when you have a plan sponsor’s central, unified, consistent message that demonstrates a commitment to the financial wellness of your employees, that’s something that a teacher, a participant, an employee can trust, and that makes a huge difference in getting engagement from participants.”

Otto says that in a multi-vendor environment—which most public 403(b) plans have—plan sponsors should control the messaging the providers offer.

“Despite there being a lot of good providers out there, there’s this assumption that many are high fee, low value, which just isn’t the case at all,” he says. “By controlling the messaging, the plan sponsor gets to make sure good providers have the opportunity to educate employees about the products that best suit their needs.”

McLean says one of the reasons state plans might not have good participation rates is that employers are less engaged in their state plan than they are their local plan. He says a plan with high participation and good investment value for employees comes from employer engagement.

“An engaged employer will regularly review investments and investment providers; will assure that technology is used to streamline and consolidate plan operations for an easy participant experience; will adopt, implement and review a financial education policy specifically designed for its employees; and will adopt plan provisions that encourage employee participation,” he says.

Simonson says the North Carolina 403(b) program through the Treasurer’s Office solved the need for effective oversight and provider management, “but, since the program was optional at the local district level, it didn’t really change the mechanics of actual 403(b) enrollment and access at the local level.

“At the local school district level, significant barriers to participation remained for the 403(b),” she adds. “The only way to remove those barriers is to engage the districts directly in communication and education strategies that promote access and awareness.”

“With independent investment education, a plan sponsor can deliver targeted messaging that meets employees where they are, addressing their concerns, addressing the things that keep them up at night,” Di Lorenzo says. “And it comes from a trusted source: their employer. There’s a greater opportunity for connection, and that drives engagement.”

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