Retirement Security 10 Years After the PPA

“From a defined contribution [DC] plan perspective, the Pension Protection Act of 2006 [PPA] was an incredibly powerful shift from a system designed as a voluntary supplemental program towards creating an environment for predictable outcomes to happen,” says Anne Lester, portfolio manager and head of retirement solutions for J.P. Morgan Asset Management in New York City.

Lori Lucas, defined contribution practice leader at Callan in Chicago, agrees that the PPA hit the mark on what it wanted to do. It was focused on helping participants accumulate assets in DC plans, but was not oriented in improving overall coverage or helping participants in the decumulation phase, she notes. “Those things weren’t in its purview, but things it focused on worked well,” she says.

“It’s unfortunate that the nondiscrimination testing safe harbor was set up the way it was—that it capped employee deferral escalation at 10% of pay,” Lucas says. “Some interpreted it as a model for how automatic enrollment should be set up, but it should only be used for the discrimination testing safe harbor. I think Treasury would agree that the best model is to get participants to the savings they need to have a successful retirement. It’s fine for some plans to default at 3% and auto escalate to 10%, but not for all plans.”

Drew Carrington, leader of Franklin Templeton Investments’ U.S. large market institutional defined contribution business in San Mateo, California, says, “The PPA has been an amazing piece of legislation in terms of improving retirement security more generally.”

He points out that the original purpose of the PPA was shoring up defined benefit (DB) pensions, helping with airline plans, shoring up the Pension Benefit Guaranty Corporation (PBGC), and providing tax incentives for DBs to fund plans more aggressively. “So the DC provisions were fixes, but not an overarching strategic vision for creating a system to improve retirement security for all Americans. It fixed things broken prior to 2006,” he says.

For example, he notes that automatic enrollment could be viewed under state law as wage garnishment, so plan sponsors were reluctant to auto enroll participants. The PPA fixed that and similarly addressed automatic deferral escalation and what plan sponsors could use as a default investment option.

“No one really contemplated the coverage and access question. To blame the PPA for not addressing that is misplaced; it was not the intent of the DC provisions. In terms of what it tried to achieve, it was an unqualified success,” Carrington says.

While experts believe the PPA was instrumental in helping DC plans improve on outcomes for participants, there are still many retirement security issues facing America—lack of access to coverage, plan leakage, and guaranteeing an income stream in retirement.

Carrington says there is much plan sponsors can do now that is not restricted by regulations and legislation. “There are more than 500,000 401(k) plans, and less than 1,000 have more than half of the participants, so while the average plan may be small, the average participant experience is a large plan experience, in which plan sponsors are using best practice features such as automatic enrollment and auto deferral escalation,” he notes. “So one of our opportunities is helping small employers introduce those features that we see in larger plans.”

Lucas says plan sponsors still haven’t taken full advantage of PPA provisions. Auto enrollment default rates could be more robust, and many plan sponsors do not use auto escalation in conjunction with auto enrollment.

Lester adds that only about 7% of plans have done a re-enrollment of all participants. “That is disappointing,” she says. “There’s a ton of evidence that shows enrolling participants in a professionally managed investment provides the best outcome.”

Carrington agrees plan leakage is a real problem, and says the primary source of leakage are small balance cash outs. “We can change that today to make the easiest thing for participants to leave money in their plan or rollover into an IRA, or better yet, their next employer plan,” he says. “Treasury has issued guidance to make this simpler.” Carrington contends that if rollover solutions can help individuals get their balances over $10,000, it will reduce the likelihood of cashouts. “If we can encourage them to roll over until they get to $10,000, they will be more likely to consolidate balances with a new employer or an IRA,” he says.

Regarding plan loans, Carrington points out that when someone changes jobs, many plans force them to pay off loans right away, and if they don’t, the loan becomes a taxable distribution. “There’s nothing in the law or regulations that require that,” he says. “We can allow repayments, and can even set up payroll deductions from the new employer to make payments to the old plan.”

As for the decumulation challenge, Carrington says it should be noted that if someone is approaching retirement, there is a likelihood she has other assets in other savings vehicles, is part of a household where the other member has one or more sources of retirement wealth, and has Social Security as a resource. However, there are a couple of simple things plan sponsors can do. Some plans still have language that if someone separates from service, they have to take out all their money. Plan sponsors can change their plans so that participants can take systematic withdrawals—monthly, quarterly or irregularly. They can also offer participants guidance such as a Social Security optimizer tool, offer an outside retirement income marketplace or offer managed account options.

Recently, the Bipartisan Policy Center’s Commission on Retirement Security and Personal Savings issued a report of a comprehensive package of bipartisan proposals to address key challenges to retirement security.

Lucas said the report had a lot of recommendations about reducing plan leakage—from helping people have emergency savings to helping make the move from one qualified plan to another less hard. She says the report recommendations can become fodder for future regulations, a source for potential policy making.

Lester was recently in Washington for an event hosted by the Aspen Institute, marking the upcoming 10-year anniversary of the debate and passage of the PPA. She says there are a number of really encouraging conversations with stakeholders coming together to take a look at retirement security issues.

She recently told PLANSPONSOR there is increasing agreement that we need to make changes to improve accessibility to tax-advantaged savings. “A lot of people at the forum expressed optimism about open multiple employer plans as the most likely path forward when it comes to addressing many of these issues,” she said.

Carrington explains open multiple employer plans (MEPs) is a way to allow small employers to band together to offer a 401(k), achieve scale and eliminate administrative headaches. “Small plans could have access to many things large plans have access to, such as competitive pricing and state of the art communications,” he says. “The thing that is really important about open MEPs versus state-run plans is they allow for higher contribution limits, Employee Retirement Income Security Act [ERISA] protections and employer matches. In addition, open MEPs can take advantage of auto features and result in much higher savings.”                                           

Regarding state-run retirement plans, Lester says on the one hand, it is suboptimal to have 50 different plan rules, but on the other hand, it may start a conversation that will result in a broader solution.

“Whatever it is we think about in terms of trying to fix what may or may not be broken, it is essential we don’t break anything working now,” Carrington concludes.