Different Nudging Required for Auto Enrollment Plans Than Opt-In Plans

A study from the TIAA Institute concludes that focusing on financial literacy and understanding of exponential growth is likely to be fruitful for getting defined contribution (DC) plan participants in an opt-in plan, while efforts targeted at procrastination tendencies are likely to be particularly important in automatic enrollment plans.

The study looked at employees of the U.S. Office of Personnel Management (OPM). Benefits-covered federal employees participate in an optional defined contribution (DC) plan, the Thrift Savings Plan (TSP). The Federal government implemented automatic enrollment for all benefits-covered employees hired after August 1, 2010. Under automatic enrollment, employees are enrolled in the TSP at a 3% deferral rate, while employees hired prior to August 2010 had to opt in to participate in the TSP.

TIAA quantified present bias (PB), which is the tendency to exhibit patience when contemplating tradeoffs between future periods, but impatience when making tradeoffs between the present and the future; this is the central measure of procrastination tendencies. It also quantifies understanding of exponential growth by measuring exponential growth bias (EGB) and financial literacy.

According to the study report, defaults have been shown to have powerful effects on retirement saving behavior. Under auto-enrollment (AE) with a default contribution rate of 3%, the tendency to procrastinate is associated with higher tendencies to remain at the default contribution rate; however, procrastination tendencies do not predict such behavior in the opt-in regime in which the default contribution rate is effectively 0%. By contrast, the TIAA Institute found that lower financial understanding and misunderstanding of exponential growth increases the likelihood of remaining at the default rate under the opt-in regime, but these factors do not predict this behavior in the opt-out (auto-enrollment) regime.

Approximately 9% of pre-AE employees are at their default contribution rate of 0%, while 14.7% of post-AE employees are at their default contribution rate of 3%. The two groups of employees also differ on their contributions at higher levels. Approximately 19% of pre-AE employees contribute 5% of their salary—the amount to maximize the company match, while 31.1% of post-AE employees contribute 5%.

The institute also observed that whereas 13.3% of pre-AE employees are contributing the annual maximum statutory limit for deferrals, only 6% of post-AE employees are at this cap. Employees hired before AE have annual TSP contributions of $8,460 on average, while the younger cohort hired after AE average $5,223. The institute does note that because automatic enrollment is determined by hire date, and its data comes from a single cross-section, people hired before automatic enrollment are also longer-tenured and generally older. Therefore, some of the differences may be due to systematic differences in tenure and/or age between the two groups.

According to the study report, TSP annual contributions are increasing in age, possibly due to increases in salaries; notwithstanding, the pre-AE cohort consistently contributes more than the post-AE cohort at any given age.

The results show no evidence that PB is a predictor of remaining at the default when the default contribution rate is 0%, but strong evidence that PB is a predictor of remaining at the default when the default contribution rate is 3%. While procrastination tendency does not predict remaining at the default contribution rate for employees hired under the opt-in regime, EGB and financial literacy do predict this behavior.