Lower-Income Workers May Be More Retirement Ready Than They Think

Low-income workers do not need to save much because Social Security may be adequate, a study suggests.

Social Security benefits may be the majority of income replacement available during their retirement years for lower-income workers with little savings, and a study suggests that may be enough for them.

A research study published by The Wharton School, University of Pennsylvania, explores how much low-earning households need to save considering Social Security’s progressive benefits. Researcher Andrew G. Biggs, from the American Enterprise Institute, points out that while low-earning households save little, their retirement incomes have risen steadily over the past few decades and their poverty rates dropped significantly, seemingly as a result of rising Social Security benefits. He says low-income retirees express less satisfaction with the adequacy of their retirement incomes than other retirees, but their self-assessed retirement income adequacy has increased in recent years.

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The Social Security 2100 Act, which would raise benefits for all retirees and especially those with low earnings, and automatic individual retirement account (IRA) plans, which would automatically enroll employees without a workplace retirement account into an IRA, have been proposed to help low-wage earners and those who lack a workplace retirement plan. According to the Bureau of Labor Statistics (BLS), only 34% of the lowest decile of wage earners are offered a workplace retirement plan, versus 91% of the highest decile, cites the study.

Biggs contends that because low earners are a target population for these initiatives, and “given the costs of expanding Social Security and of establishing state- or city-run auto-IRA plans, saving requirements for low earners are a relevant topic for policymakers at all levels of government.”

Figures from the Social Security Administration—as well as Congressional Budget Office (CBO) calculations that retirees in the bottom quintile of earnings have income replacement rates between 84% and 96% of real average pre-retirement earnings—“do not express a pressing need for additional retirement savings by the poorest fifth of the population,” Biggs says. “Even in the second quintile, only modest additional retirement savings would be needed to maintain pre-retirement levels of expenditures.”

Other data he cites suggests low-earners have income replacement rates greater than 100% of pre-retirement earnings.

For his analysis, Biggs selected a target replacement rate of 90% for the very-low-wage earner, 83% for the low-wage worker, 75% for the medium wage earner, 67% for the high-wage worker, and 60% for the maximum wage earner. Calculations using certain assumptions about longevity and rates of return on investments, with a starting age for savings of 30, suggest that a savings rate of only 0.4% of earnings from age 30 to 65 is needed for the very-low-wage worker and 2.6% of earnings for the low-wage worker. “These required rates of retirement saving seem readily accomplishable without creating undue stress on household finances,” Biggs says.

Biggs adjusted calculations for different assumed rates of return on investments, but found generally well below 1% of earnings needs to be saved by the lowest wage workers and around 3% for the second earnings quintile. “Such a saving rate is likely achievable for most low-earning households, but only if they are offered a retirement plan and participate in it,” he says.

Biggs concludes that his analysis suggests that “to the degree that U.S. households are undersaving for retirement, this undersaving is not focused among low earners.” Yet, he says, initiatives to expand access to retirement savings plans have merit since many low earners currently lack access to one.

However, he notes that by the age at which many households begin saving for retirement in earnest, most Americans are married, and if both spouses are working, the chances that the household will have access to a workplace retirement plan are higher than those of either spouse alone.

Biggs adds that a 2004 study found a boost in savings by low-income working-age households can trigger punitive reductions in certain Social Security benefits. And a 2017 study found federal employees with less than a high school education who were automatically enrolled in a defined contribution (DC) retirement plan increased borrowing for mortgage, auto and revolving credit loans by substantially more than the amount by which their retirement plan contributions increased in order to maintain their standard of living.

“This implies that hasty efforts to expand retirement savings among low-income households may be counterproductive. Given that it does not appear that low-earners need to save substantially more in order to maintain their pre-retirement standards of living once they cease working, promoting such savings through either a hard or soft mandate might cause unnecessary hardship to working-age households,” Biggs concludes.

The research report, “How Much Should the Poor Save for Retirement? Data and Simulations on Retirement Income Adequacy Among Low-Earning Households,” may be downloaded from here.

Class Action ERISA Fiduciary Breach Lawsuit Targets Evonik

Similar to the plethora of ERISA excessive fee fiduciary breach lawsuits that have been filed in recent years, this one suggests the plan failed to use its bargaining power to negotiate lower fees.

A new Employee Retirement Income Security Act (ERISA) lawsuit has been filed in the U.S. District Court for the District of New Jersey, alleging that the Evonik Corp. permitted excessive fees to be charged to its defined contribution (DC) retirement plan.

Also named as defendants in the lawsuit, which seeks class action status, are the company’s president, the board of directors, the retirement plan investment committee and 30 “John Does.”

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Similar to the plethora of ERISA excessive fee fiduciary breach lawsuits that have been filed in recent years, this one suggests the plan failed to use its bargaining power to negotiate lower fees. According to the text of the suit, the DC plan held more than $1 billion as of 2017.

“Defendants, however, did not try to reduce the plan’s expenses or exercise appropriate judgement to scrutinize each investment option that was offered in the plan to ensure it was prudent,” the lawsuit states. “Instead, defendants abdicated their fiduciary oversight, allowing Prudential Bank and Trust to lard the plan with funds managed by the trustee and/or its affiliates. These plan funds charged excessive fees.”

Notably, the lawsuit does not accuse Prudential of fiduciary breaches. Instead, it focuses on the conduct of the plan’s fiduciaries, who are also accused of failing to take advantage of the lowest cost share class for many of the mutual funds offered within the plan. The plaintiffs also accuse the fiduciary defendants of failing to consider collective trusts, comingled accounts or separate accounts as alternatives to the mutual funds in the plan.

Based on this alleged conduct, the plaintiffs assert claims against the defendants for breach of the fiduciary duties of loyalty and prudence (organized under count one) and failure to monitor fiduciaries (count two).

Turning to the ever-important topic of timeliness, the complaint states that plaintiffs “did not have knowledge of all material facts (including, among other things, the investment alternatives that are comparable to the investments offered within the plan, comparisons of the costs and investment performance of plan investments versus available alternatives within similarly-sized plans, total cost comparisons to similarly-sized plans, information regarding other available share classes, and information regarding the availability and pricing of separate accounts and collective trusts) necessary to understand that defendants breached their fiduciary duties and engaged in other unlawful conduct in violation of ERISA until shortly before this suit was filed.”

The text of the complaint goes into significant detail while describing the duties of prudence and loyalty under ERISA before turning to the specific allegations at hand. It also discusses the broad debate about the use of active management funds within retirement plans.

“The funds in the plan have stayed relatively unchanged since 2013,” the complaint states. “Taking 2018 as an example year, the majority of funds in the plan (at least 10 out of 16) were much more expensive than comparable funds found in similarly-sized plans (plans having between $500 million and $1 billion in assets). The expense ratios for funds in the plan in some cases were up to 54% above the median expense ratios in the same category.”

The complaint then suggests that, in several instances, “defendants failed to prudently monitor the plan to determine whether the plan was invested in the lowest-cost share class available for the plan’s mutual funds, which are identical to the mutual funds in the plan in every way except for their lower cost.”

“A prudent fiduciary conducting an impartial review of the plan’s investments would have identified the cheaper share classes available and transferred the plan’s investments in the above-referenced funds into the lower share classes at the earliest opportunity,” the complaint alleges. “There is no good-faith explanation for utilizing high-cost share classes when lower-cost share classes are available for the exact same investment. The plan did not receive any additional services or benefits based on its use of more expensive share classes; the only consequence was higher costs for plan participants.”

The complaint goes through similar arguments with respect to the defendants’ alleged permission of excessive recordkeeping fees and their offering of poorly performing and expensive actively managed funds.

The Evonik Corp. has not yet responded to a request for comment about the litigation.

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