The Mechanics of Matching

Some employees will be urged to keep their savings on track in 2025 to avoid potentially missing out on $300,000 in retirement wealth. That’s what Vanguard’s research looking into so-called “savings frictions” estimated as the amount a worker may lose through job changes. It can happen when workers are defaulted to a lower deferral rate at a new company’s 401(k) plan, rather than carrying over higher contribution levels from their prior jobs.

“All of these defaults that allow the savings to happen more on auto-pilot have been really, really great, but what we are focused on is the next generation, or next frontier, of plan design, where we can see there are some inefficiencies or what we call, ‘savings friction,’” says Kelly Hahn, Vanguard’s head of retirement research, based out of Malvern, Pennsylvania. Vanguard is developing an effort to engage new retirement plan joiners on its platform to carry over their prior savings rates when they change jobs in 2025 so as not to lose that savings momentum.

For many researchers and consultants, employer contribution strategies are getting a rethink. They see tweaking automatic-enrollment strategies, reviewing default rates and communicating with employees as paying big dividends in improving retirement planning and readiness.

Hahn’s research showed that the frequency at which people change jobs, with a median tenure of about five years, has a lasting effect on overall savings. The findings demonstrated that savings rates drop largely due to default rates and automatic features that do not align from employer to employer.

As an example, with the most commonly used plan features—typically a default rate of 3% salary deferral, with automatic increases of 1 percentage point up to a 10% cap—a person with a five-year tenure would achieve an 8% savings rate. But when that individual changes jobs, if the new employer defaults to 3% and the employee does not choose to increase the savings rate, there is an immediate savings reduction of 5 percentage points, she says.

“We need to be smarter about improving the auto features even more to help people maintain their savings,” she says. “When we saw the results, they were intuitive, because it makes sense that many people are unengaged, and they follow the auto features that have already been implemented by their employers, so when you look at it from that angle, it’s not so surprising. But what was surprising was the magnitude of the reduction and how often it can happen to a participant.”

Default Rates’ Significance

David Blanchett, head of retirement research at PGIM DC Solutions, also finds that the default rate has the biggest impact on retirement savings and has even more bearing on success than a company match.

“The match is important, but what is most important is default savings rates,” says Blanchett, based in Lexington, Kentucky. By his calculations, plan sponsors should boost the default savings rate substantially: “6% is the new 3%.”

Lower default rates may also, unintentionally, signal sufficient savings to some employees, Blanchett’s research finds. His examination of about 157,000 plan participants who had recently enrolled in a 401(k) plan, showed that plans with the lowest savings rates offered both low default and low match of 5.7%. Savings rates increased by about 1.58 percentage points for plans that defaulted to a higher savings rate , according to his research.

Considering that plan sponsors have different goals and may be concerned about the cost of matching if defaults are increased, Blanchett recommends simply reducing the match.

Employers’ ‘Very, Very Important Role’

Vanguard is also encouraging plan sponsors and consultants to consider setting higher default savings rates of around 6%, since at that rate, the slowdown in savings rate is minimal, Hahn says.

There is also a push to automatically enroll, for anyone who has not already adopted that feature, according to Hahn. (Only about 60% of plan sponsors on Vanguard’s recordkeeping platform auto-enroll, she says.)

Finally, she urges plan sponsors and consultants to nudge their participants to transport their prior retirement savings rates to their new company to maintain what she calls “savings momentum.” Hahn also recommends that plan sponsors and consultants use an employer match to help workers save between 12% to 15% of their salaries.

“The employer match is going to vary, depending on the industry, as a retention tool or talent acquisition tool,” she says. “We want workers to think about total savings rate, and employers have a very, very important role to play in that.”

Michael Kreps, a principal in Groom Law Group, based in Washington, D.C., also sees the benefit for some employers, concerned about rising expenses, in increasing the default rate but decreasing the match.

“It doesn’t have to change your costs at all, because nobody has to do a match,” Kreps says. “Congress has gotten more and more comfortable with auto-enrollment and with other types of auto features. You don’t have to match—it doesn’t really have to impact cost much at all.”

What Will SECURE Provisions’ Uptake Be?

Automatic enrollment is another matter, however, and new plans will be mandated to auto-enroll all employees, starting in the new year. While there was always some concern about auto-enrollment from an employer perspective, since it could potentially increase costs, Kreps says he anticipates those will be offset by tax credits for small employers.

In addition, absent federal rules, many states, such as California, already require employers to auto-enroll employees, which has provided a road map for others. As a way to boost overall financial health, Kreps says he is also watching the adoption of a potentially promising option authorized by the SECURE 2.0 Act of 2022 for employers to match employees’ student loan repayments.

“Of all the SECURE and SECURE 2.0 provisions, this is one of the ones that employers are most interested in,” Kreps says. “They understand, correctly, that people are under a lot of financial pressure, and they want to do something to alleviate at least some of that.”