Background

Traditionally, employers that sponsored retirement plans generally  established “defined benefit” plans. Under such plans, participation is  generally automatic for eligible workers, and retirement benefits are  established by a formula, often based on a worker’s salary and years of  service. Since the 1980s, defined contribution plans—most prominently  the 401(k) plan—have supplanted defined benefit plans as the dominant  type of private-sector retirement plan. Under defined contribution plans,  workers typically must decide whether or not to participate, how much to  contribute, and how to invest plan assets from a range of options provided  under the plan. Under a 401(k) plan, if the employee does not participate,  if contributions made to an employee’s account are insufficient, or if the  investments that an employee chooses yield an inadequate return, the  employee may have retirement income that is insufficient to maintain his  or her desired standard of living.
As defined contribution plans emerged as the dominant form of retirement  plan, the percentage of the population covered by employer-sponsored  plans changed very little—remaining at about half of the workforce. As  figure 1 shows, Current Population Survey data reveal that about 48  percent of the total U.S. workforce was not covered by an employer- sponsored a plan in 2007. About 40 percent worked for an employer that  did not sponsor a plan, and about 8 percent did not participate in the plan  that their employer sponsored.
According to the Current Population Survey, certain segments of the  working population have consistently had much lower rates of  employment with employers sponsoring a plan, and lower participation  rates than the working population overall. As figure 2 illustrates, larger  portions of certain worker groups, such as lower-income workers, younger  workers, workers employed by smaller companies, and part-time workers  lack coverage compared to all full-time workers.
Workers may choose not to enroll, or delay enrolling, in a retirement plan  for a number of reasons. For example, according to a recent Congressional  Research Service presentation of data from the Survey of Income and  Program Participation, most non-participating workers whose employer  sponsored a plan said they thought—in some cases, incorrectly—they  were ineligible. The report also found that substantial numbers of  employees fail to participate because they believe they cannot afford to  contribute to the plan. For example, 19 percent of nonparticipating  respondents cited this reason, and 10 percent said they did not want to tie  up their money. In recent years, exponents of “behavioral economics”  have noted that many non-participants may not have made a specific  decision, but rather fail to participate because of a tendency to  procrastinate and follow the path that does not require an active decision.  Further, some workers may not participate because of more immediate  savings objectives—such as saving for education or a home—and, in the  case of lower income workers, the prospect that Social Security benefits  will replace a relatively high percentage of income in their retirement  years. For example, a recent analysis by the Investment Company Institute  concluded that lower income workers are less likely to save for retirement  in part because Social Security benefits replace a higher proportion of  their pre-retirement earnings.
In recent years, automatic enrollment has been advocated as a way to  encourage greater participation in 401(k) plans among the portion of the  workforce who have access to such plans but opt not to participate.  Typically, under 401(k)s and some other types of defined contribution  plans, workers have been required to decide whether or not to join a plan,  to specify their saving contribution rates, and to select investments from  the range of investment options offered by the plan. Under automatic  enrollment, in contrast, a worker would be enrolled in a plan unless she or  he explicitly opted-out of the plan. Plan sponsors that adopt automatic  enrollment must specify a default contribution rate—the portion of an  employee’s salary that will be deposited in the plan—that applies to  employees who do not choose a different contribution rate. Also, plan  sponsors must select a default investment—the fund or other vehicle into  which deferred savings will be invested—unless the employee specifies an  investment or investments from those available under the plan. Employers  may also adopt an automatic escalation policy, under which an employee’s  contribution rates would be automatically increased at periodic intervals,  such as annually. For example, if the default contribution rate is 3 percent  of pay, a plan sponsor may choose to increase an employee’s rate of saving  by 1 percent per year, up to some maximum, such as 6 percent. While a  plan sponsor that adopts an automatic enrollment policy must specify a  default contribution rate and a default investment, plan features such as  these and automatic escalation may also be adopted in the absence of an  automatic enrollment policy.
Automatic enrollment has not been a traditional feature of 401(k) plans  and, prior to 1998, plan sponsors feared that adopting automatic  enrollment could lead to plan disqualification. However, in 1998, the  Internal Revenue Service (IRS) addressed this issue by stating that a plan  sponsor could automatically enroll newly hired employees and, in 2000,  clarified that automatic enrollment is permissible for current employees  who have not enrolled. Nonetheless, a number of considerations inhibited  widespread adoption of automatic enrollment, including remaining  concerns such as liability in the event that the employee’s investments  under the plan did not perform satisfactorily, and concerns about state  laws that prohibit withholding employee pay without written employee  consent. More recently, provisions of the Pension Protection Act of 2006  (PPA) and subsequent regulations further facilitated the adoption of  automatic enrollment by providing incentives for doing so and by  protecting plans from fiduciary and legal liability if certain conditions are  met. In September 2009, the Department of the Treasury announced IRS  actions designed to further promote automatic enrollment and the use of  automatic escalation policies.
Anti-Discrimination Safe Harbor 401(k) (13)
Plans that adopt automatic enrollment may be exempt from required annual testing to  ensure that the plan does not discriminate in favor of highly compensated employees.  To obtain safe harbor protection, plans must adopt automatic enrollment as well as  other plan features and policies. For example, the plan must:    Notify affected employees about automatic contributions     Defer at least 3 percent of pay in the first year   Automatically increase contribution by 1 percent each subsequent year, to a  minimum of 6 percent and a maximum of 10 percent   Invest savings in a type of investment vehicle identified in Department of Labor  regulations as a Qualified Default Investment Alternative (QDIA)
Match 100 percent of the first 1 percent of employee contributions, and 50 percent  of contributions beyond 1 percent, up to 6 percent of wages Protection from Employee Retirement Income Security Act of 1974 (ERISA)  Fiduciary Liability  In the absence of direction from an employee, plans that automatically invest  contributions in a QDIA are treated as if the employee exercised control over  management of their savings in the plan. As a result, plans that comply with  Department of Labor regulations pertaining to QDIAs will not be liable for any loss that  occurs as a result of such investments.
An automatically enrolled worker has 90 days to opt out and withdraw any contributions  (including the earnings on those contributions.) These amounts will not be subject to  the extra tax that normally applies to distributions received before age 59½.  414(w)(2)(B).
Protection from State Wage-Garnishment Laws  PPA preempts any state law that would directly or indirectly prohibit or restrict the  inclusion of an automatic enrollment arrangement in a plan.
Final regulations issued by the U.S. Department of Labor specify four categories of QDIAs. They are  (1) a product with a mix of investments that takes into account an individual’s age (such as a target- date fund), (2) an investment service that allocates assets according to an individual’s age (such as a  managed account), or (3) a product with a mix of investments that takes into account the  characteristics of the group of employees as a whole, rather than each individual (such as a balanced  fund). A sponsor may also use a capital preservation fund as a QDIA for the first 120 days of an  individual’s participation to simplify administration if the worker opts out of the plan. 29 C.F.R.  §2550.404c-5(c)(4).
Other proposals have been put forth with the intent of broadening the  practice of saving for retirement among workers whose employers do not  sponsor a retirement plan. One such proposal is the automatic IRA, which  would require employers that do not sponsor a retirement plan to facilitate  direct deposit or payroll-deduction savings for all employees. To  maximize participation, employees would be automatically enrolled, but  would be permitted to opt out. Legislative proposals to establish an  automatic IRA requirement were introduced in Congress in 2006 and 2007,  and the concept of an automatic IRA was also mentioned in the President’s  2010 Budget proposal. In addition, legislative proposals have been  introduced in some states’ legislatures that would involve state  governments in facilitating payroll-deduction retirement plans or IRAs for  employers that do not already offer them. According to the architect of  the state plan concept, a state could play an intermediary role to pool  assets and share expenses among many plan sponsors, thus lowering  costs.

	Automatic Enrollment Raises Plan Participation, but Some Plan Sponsors Have Not Adopted Plan Features That Could Further Facilitate Retirement Savings

Existing studies show that automatic enrollment significantly increases  participation rates in 401(k) plans, although beneficial effects of automatic  enrollment may depend on accompanying policies designed to ensure  adequate savings and appropriate investment. While defined contribution  plan sponsors have increasingly adopted automatic enrollment in recent  years, this approach may not be suitable for all plan sponsors, and  available data show that some plan sponsors have not augmented  automatic enrollment policies with other policies designed to ensure  adequate savings.

		Automatic Enrollment Increases Participation Rates, but Some Participants’ Acceptance of the Default Contribution Rate and Investment Fund May Limit Savings Potential

According to analyses we reviewed, automatic enrollment policies result  in considerably increased 401(k) participation rates for plans adopting  them, with some participation rates reaching as high as 95 percent. For  example, one study followed comparison groups hired before and after a  company adopted automatic enrollment for new employees only and  compared the participation rates of the two groups. The participation rate  for those hired before automatic enrollment was adopted was 37 percent  at 3 to 15 months of tenure, compared with an 86 percent participation  rate for the group hired after automatic enrollment with a similar amount  of tenure. According to the studies we reviewed, automatic enrollment  has this effect because many people find it easier to delay the decision to  enroll in a plan out of inertia, procrastination, feelings of intimidation  about making savings and investment decisions, or other factors. Workers  may intellectually understand the importance of saving for retirement but  have trouble overcoming their own inertia to start saving or to save  effectively. A team of researchers found that under automatic  enrollment, workers’ inertia works in favor of saving for retirement  because workers need to do little or nothing to participate in their  employers’ plan. Further, workers may also decline to participate, in p because they believe the decision to participate in a  401(k) plan r time-consuming and complex decisions, such as choosing how muc h to  contribute and how to invest their contributions. Automatic enrollment,  through its default contribution rates and default investment vehicles,  equires  offers an easier way to start saving. Table 1 shows overall participation  rate increases reported in the various studies we reviewed.
Three of the studies also found that automatic enrollment has a significant  effect on subgroups of workers with relatively low participation rates,  such as lower-income and younger workers. For example, the Fidelity  Investments study found that 30 percent of workers aged 20 to 29 were  participating in plans without automatic enrollment. In plans with  automatic enrollment, the participation rate for workers in that age range  was 77 percent, an increase of 47 percentage points. In addition, four of  the studies found that automatic enrollment policies reduced the  disparities in participation rates between certain groups of workers. For  example, the Madrian and Shea study examined participation rates by race  and ethnicity and found that, among workers hired under a voluntary  enrollment only policy, Hispanic workers had the lowest participation rate  at 19.0 percent, blacks had a slightly higher participation rate of 21.7  percent, and whites had the highest participation rate at 42.7 percent.  Under automatic enrollment, however, the participation rates for Hispanic  and black employees nearly quadrupled to 75.1 percent and 81.3 percent,  respectively, narrowing the gap with white workers, whose participation  rate more than doubled, increasing to 88.2 percent. The difference in  participation rates between white and Hispanic employees fell from 23.7 to  13.1 percentage points.
The high level of participation rates under automatic enrollment appears  to persist after such policies are adopted, according to two of the studies  in our review. Both studies observed participation rates at specific  companies for about 3 years after an automatic enrollment policy was  adopted. The studies found that for employees hired under automatic  enrollment, participation jumped almost immediately and then increased  slightly over the 3-year period, but remained relatively stable. The  Vanguard study modeled the participation rate over time and found a  decline in the participation rate over a 3-year period, with the participation  rate falling by about 10 percentage points from its peak of 91 percent but  remaining high relative to participation rates for plans without automatic  enrollment. Consistent with these results, plan sponsors who had  adopted automatic enrollment stated that their experience also indicated  that higher participation rates were sustained. One plan sponsor, a large  manufacturer, reported that after 2 years of automatic enrollment, 95  percent of employees who had been automatically enrolled had stayed in  the plan.
Although automatic enrollment can increase participation and saving rates  for most workers, it may have an adverse effect on saving rates and  investment choices for other workers, depending on the nature of default  contribution rates and default investment funds used, according to some  of the studies in our review. Four of the six studies we reviewed found  that automatically enrolled participants are likely to accept the plan’s  default contribution rate. Three of the studies found that some  participants would have selected a contribution rate higher than the  default rate had they not been subject to automatic enrollment and had  they chosen to enroll in the plan voluntarily. Further, two of the three  studies also found that some participants were likely to accept a default  investment fund with relatively low future prospects for return on  investment, such as money-market or stable-value funds, compared to the  investment fund they would have selected if they had voluntary enrolled.  Thus, these studies concluded that overall savings for these particular  participants were lower under automatic enrollment. Further, the  Beshears et al. study calculated participation rates for a company that  doubled its default contribution rate from 3 percent to 6 percent and found  that the participation rates were virtually identical before and after the  policy change. In addition, Fidelity Investments reported that employees  accept the default contribution rate the majority of the time, regardless of  how high it is. Studies have found that default policies have these effects,  in part, for the same reasons that automatic enrollment increases  participation rates—accepting the defaults is the path of least resistance  and requires no action on the part of the worker. In addition, some studies  found that some employees see default policies as implicit advice from the  plan sponsor and that they imply optimal saving rates and investment  choices.

		Adoption of Automatic Enrollment Has Grown Considerably in Recent Years, but Many Plan Sponsors Have Not Adopted Policies to Ensure Adequate Long-Term Savings

Automatic enrollment policies have been increasingly adopted by defined  contribution plan sponsors in recent years as a result of several factors.  Nonetheless, a number of considerations may limit adoption of automatic  enrollment over the long term. Low default contribution rates and an  apparent lag in the adoption of automatic escalation policies raise  questions about the adequacy of long-term saving rates under automatic  enrollment. Further, the widespread adoption of target-date funds  (TDF)—funds that allocate investments among various asset classes and  automatically shift to lower-risk, income-producing investments as a  “target” retirement date approaches—as default investments for plans with  automatic enrollment has raised concerns about investment risk and  transparency of investments of TDFs for participants nearing retirement.

		Greater Adoption of Automatic Enrollment and Factors Driving Trend

Data from two large plan administrators, as well as discussion with  retirement plan experts, indicate that plan sponsors’ adoption of such  policies has grown considerably in recent years. Data from Fidelity  Investments show that the percentage of defined contribution plans  adopting automatic enrollment grew from about 1 percent in December  2004 to about 16 percent in March of 2009. Comparable data from  Vanguard show that about 19 percent of plans had adopted automatic  enrollment as of December 2008, up from 8 percent in June 2006.
Data from one plan administrator show that large plan sponsors— sponsors of plans with $500 million or more in assets—have adopted  automatic enrollment policies more often than smaller plans. As figure 3  illustrates, Fidelity Investments data show that about 40 percent of large  plans had adopted automatic enrollment by March 2009, while only about  14 percent of small plans had done so. According to Fidelity’s data, about  47 percent of all plan participants are included in plans that offer  automatic enrollment.
Plan sponsors can choose to apply automatic enrollment “broadly” to all  employees, or more narrowly to include only newly hired employees. Data  from Fidelity Investments indicate that automatic enrollment policies are  typically applied only to new or recently hired employees, but a growing  percentage of plan sponsors extended automatic enrollment to existing  employees as well. Among plans with automatic enrollment polices, about  58 percent of plans apply such policies to new and recently hired  employees only, while about 42 percent apply automatic enrollment to  existing eligible employees as well.  There is considerable variation in  this pattern by plan size—as figure 3 illustrates, the majority of large plans  had adopted automatic enrollment only for new or recently hired  employees, while nearly half of small plans applied the policy to all eligible  employees.
According to plan sponsors, retirement plan experts, and others we  contacted, several considerations have been driving the increase in  automatic enrollment. These considerations include: (1) plan sponsors’  desire to increase participation rates, (2) plan administrators’ marketing of  automatic enrollment, and (3) aspects of the Pension Protection Act that  facilitate and encourage the adoption of automatic enrollment.
Sponsor Desire to Increase Participation Rates: Officials of each of  the six plan sponsors we contacted that had adopted automatic enrollment  highlighted the desire to better ensure adequate retirement savings for  employees. Some plan sponsors noted that automatic enrollment was  considered necessary because other methods of increasing plan  participation had not been effective. For example, one plan sponsor had  sent e-mails and educational materials reminding employees of the plan’s  availability and provided them with analyses of the matching funds they  had lost by not contributing. While these methods raised contribution  rates from the 50 percent range to the 65 percent range, the company  could not further increase contribution rates. However, after instituting an  automatic enrollment policy, the plan’s participation rates increased to 93  percent. An official of another plan sponsor noted that an automatic  enrollment policy was necessary because the company had a very young  workforce, and the company believed that retirement savings was a very  low priority and a distant, “abstract” benefit for these workers. Some plan  sponsors also noted that adoption of an automatic enrollment policy may  be particularly urgent in the case of plans that discontinue other benefits.  For example, representatives of two plan sponsors stated that automatic  enrollment was adopted at about the time that an existing defined benefit  plan was frozen—that is, closed to new entrants. A representative of a  large plan consulting firm noted that sponsors may do this with the long  term in view; they want their employees to be able to retire at retirement  age, partly to ensure that as productivity drops off, these workers do not  have a reason to stay on indefinitely. This plan consultant also said that  some plans may adopt automatic enrollment to help ensure that the  sponsor can pass nondiscrimination testing.
Plan Administrator Marketing: 401(k) plan administrators—firms that  provide and manage retirement plans for plan sponsors—have been  actively marketing and promoting adoption of automatic enrollment,  according to plan administrators and others. One large plan administrator  stated that it encourages automatic enrollment by conducting analyses of  the effects of automatic enrollment tailored to individual plan sponsor  clients. The official stated that when plan sponsors see the potential  benefits to employees of automatic enrollment compared to the status  quo, about 25 percent of them have adopted automatic enrollment.
The Pension Protection Act: Finally, various aspects of the PPA have  facilitated the trend toward automatic enrollment. An official of one of the  nation’s largest 401(k) plan administrators noted that the criteria and  guidelines established in the PPA streamlined and simplified the decision- making process about automatic enrollment and the related plan design  features. One consultant noted that the deliberations about the PPA  involved considerable industry input and had an “announcement effect”  that generated considerable publicity regarding automatic enrollment.  Representatives of two plan sponsors said that the PPA safe harbor  protection was a consideration in adopting automatic enrollment. One  plan had not adopted all of the PPA safe harbor provisions. Instead, it used  the safe harbor specifications as a guide in setting features such as a  matching contributions and the 3 percent default contribution rate. The  other plan sponsor adopted all of the PPA safe harbor provisions.

			Factors Limiting the Adoption of Automatic Enrollment

Various factors, including higher costs, management views, concerns  about legal and regulatory challenges, and lack of awareness may delay or  prevent the adoption of automatic enrollment policies by some plan  sponsors.
Greater Costs: Automatic enrollment implies greater costs for plan  sponsors, including higher matching costs and greater fees paid to plan  administrators. One plan administrator stated that automatic enrollment  could be particularly unattractive to cost-sensitive companies that have  narrow profit margins. This concern was reflected by a plan sponsor who  noted that the adoption of automatic enrollment would be difficult for one  of the company’s subsidiaries, which operated in a very cost-competitive  environment and would therefore have difficulty passing on costs to  customers. The subsidiary would probably have to absorb the additional  costs through reduced profit margins. Plan consultants and plan  administrators noted that the costs of automatic enrollment may be a  particular concern in the current economic environment. One large plan  administrator noted that the current state of the economy will slow down  adoption of automatic enrollment, as many companies try to minimize  additional costs. While some noted that this should be a transient  consideration, one expert we contacted said that the recession would be a  memorable event for some plan sponsors, which could have longer-term  implications.
Certain types of plan sponsors may be especially concerned about the cost  impact of automatic enrollment. For example, plan sponsors that employ a  low-wage and high-turnover workforce—such as retail establishments and  restaurant chains—may be especially reluctant to adopt automatic  enrollment because of the additional cost, administrative burden, and  prospect of limited benefits for employees. One such plan sponsor we  contacted explained that adopting automatic enrollment would result in a  five-fold increase in the number of plan participants and associated  administrative costs and that the company might lower the employer  match to mitigate the associated cost increases. In addition, the plan  would have greater administrative burdens related to the need for  employee communication and to handle inquiries from the much larger  pool of participants. A representative of this plan sponsor also explained  that, even with contribution rates of 6 percent, low-wage and short-tenure  staff would accumulate very small balances and likely abandon them or  take a lump-sum distribution upon separation.
Management Views: Apart from costs, experts noted that some plan  sponsors may be reluctant to adopt automatic enrollment due to certain  management views or out of concern about employee reaction or welfare.  Some experts told us that some managers view automatic enrollment as  overly paternalistic or do not wish to reward passivity in employees who  do not voluntarily join a plan. For example, a representative of one plan  sponsor told us that the company wanted all employees to participate in  the plan but wanted active participation and conscientious saving. A  representative of a small manufacturing company stated that management  believes that the workforce would be highly distressed if the company  began summarily taking 401(k) contributions from their pay, even with a  well-communicated opt-out feature. The representative further noted that  the sponsor believes the recent declines in the equity markets also weigh  against adoption of automatic enrollment, in light of the firm’s fiduciary  responsibility for the plan.
Legal and Regulatory Challenges: Some experts noted that some plan  sponsors may be reluctant to adopt automatic enrollment due to legal and  regulatory concerns. One expert noted that small plans see the legal and  regulatory environment surrounding 401(k)s as complex and may see a  switch to automatic enrollment as overly risky. Another expert noted that,  unlike larger plan sponsors, small plans without well-staffed legal and  compliance departments may be risk-averse and slow to adopt new  policies.
Lack of Employer Awareness: Some smaller employers may not be  aware that automatic enrollment is a plan feature available to them.  Representatives of two small plan sponsors said that they were generally  unaware of automatic enrollment as a plan option. For example, one small  plan sponsor stated that neither she nor the organization’s 401(k)  employee advisory committee was familiar with the concept of automatic  enrollment. Further, the local service provider that provides the  organization with plan guidance and management assistance had not  suggested such a policy. Relatedly, representatives of one large plan  administrator told us that small plan sponsors generally lag behind large  plan sponsors in adopting innovative services, tools, and plan design  features, including automatic enrollment.

			Impact of Automatic Features on Saving Rates and Investment Risk and Transparency

Available data show that many plans with automatic enrollment have not  adopted default automatic escalation policies, which, in combination with  low default contribution rates, could result in low saving rates for  participants who do not increase contribution rates over time. Also,  experts noted that a trend toward TDFs as default investments, while  potentially beneficial in important respects, also raises questions about the  investment risks and transparency for those close to retirement.
As figure 4 illustrates, data from two large plan sponsors indicate that the  majority of plans with automatic enrollment have adopted initial default  contribution rates of 3 percent. Between 15 to 17 percent of plans have a  default contribution rate of less than 3 percent, and between 22 and 25  percent of plans have a default contribution rate of more than 3 percent.  Data from Fidelity showed that the average default contribution rate grew  modestly, from about 3.0 percent in March 2005 to about 3.2 percent in  March 2009. According to a Vanguard official, the average default  contribution rate was 3.3 percent at the end of 2008.
Available data is mixed with regard to the extent to which plan sponsors  with automatic enrollment have also adopted automatic escalation  policies. According to one plan administrator’s data, about 45 percent of  plans with automatic enrollment had adopted a default automatic  escalation feature as of March 2009, up from zero in 2005. Further, this  administrator’s data shows that adoption of default automatic escalation  policies are much less prevalent among large plans than small plans— about 24 percent of large plans with automatic enrollment policies have  adopted such a policy, while about 51 percent of small plans have done so.  Data from another plan administrator show a much greater rate of  adoption of default automatic escalation policies—77 percent of all plans  with automatic enrollment had adopted default automatic escalation  policies in 2008, up from 31 percent in 2005.
Available data indicate that plans with automatic enrollment policies  overwhelmingly adopted TDFs as a default investment. TDFs allocate their  investments among various asset classes and shift that allocation from  equity investments to fixed income and money market investments as a  “target” retirement date approaches. Eighty-seven percent of Vanguard  Group plans with automatic enrollment had adopted TDFs as a default  investment at the end of 2008, compared to 42 percent in 2005. Conversely,  the use of balanced funds, money market funds, and stable value funds as  default investments have declined significantly. This trend toward TDFs  as a default investment vehicle is corroborated by data from Fidelity  Investments, which shows that 96 percent of plans with an automatic  enrollment policy used TDFs as of March 2009, up from 57 percent at the  end of 2005.
Target-date funds (TDF) offer investors certain advantages generally not offered by  other types of investment vehicles. TDFs allocate their investments among various  asset classes and shift that allocation to more conservative investments as a “target”  date approaches. For example, a TDF could be designed for workers expecting to  retire many years in the future and would typically have a much greater allocation to  equities and a lesser allocation to fixed-income investments. Conversely, a fund  designed for workers nearing retirement age would tend to have a greater allocation to  fixed-income investments. TDFs thus offer participants a potentially beneficial long- term asset allocation strategy while lowering risks as the participant approaches  retirement age.
This trend is important in part because recent evidence suggests that  participants who are automatically enrolled in plans with target-date fund  defaults tend to have a high concentration of their savings in these funds.  A recent analysis by the Employee Benefit Research Institute found that  workers who were considered to be automatically enrolled in a 401(k)  plan were more likely than those who voluntarily joined to invest all their  assets in a TDF. The study found that, except for participants in plans  with more than 10,000 participants, more than 90 percent of those  automatically enrolled in TDFs had all of their allocation in such funds.
While TDFs may help ensure that workers have a more age-appropriate  mix of investments, some experts have stated that TDFs may pose certain  challenges, as recent events in the financial markets have illustrated. As a  result of the 2008 stock market decline, some TDFs designed for those  expecting to retire in or around 2010 lost 25 percent or more in value. In  light of concerns about a number of issues, including how plan sponsors  evaluate, monitor, and use TDFs, in 2008 the Advisory Council on  Employee Welfare and Pension Benefit Plans recommended that the U.S.  Department of Labor provide more specific guidance regarding the  complex nature of TDFs, and outline the methodology that plan fiduciaries  should follow in selecting and monitoring them. The Advisory Council also  stated that additional education materials would help plan participants  become aware of the value and risks of TDFs.

	Automatic IRA and State-Assisted Retirement Savings Plan Proposals Could Improve Access to Retirement Savings Vehicles for Uncovered Workers, but Each Proposal Faces Challenges

In order to promote retirement savings among the 40 percent of the  workforce whose employer does not sponsor a plan, members of  Congress, in recent years, have introduced bills for federally required  “automatic IRAs” that would be implemented nationwide. Automatic IRAs  offer the potential benefit of expanding retirement coverage but some  have expressed concerns that automatic IRAs may not result in significant  retirement savings, and raised questions about the costs of such a program  for employers and the federal government. There have also been proposals  for state-supported retirement savings programs over the past several  years. These state proposals also have the potential to expand retirement  coverage, but on a state-by-state basis. Concerns have been expressed  regarding the cost of these state proposals, as well as employer and  employee interest in such plans, and potential legal barriers.

		Automatic IRAs Could Provide Benefits to More Workers, but Its Impact Is Uncertain

A number of existing proposals have described in general terms the  concept of an automatic IRA, and they contain common elements. Under  the 2006 and 2007 congressional bills for automatic IRAs, employers that  do not sponsor a retirement plan would be required to defer a percentage  of an employee’s pay to an IRA through payroll deduction, unless the  employee opts out. The requirement would apply to all employers with  more than 10 employees and who had been in business for at least 2 years,  or employers with 100 or more employees regardless of the length of time  the employer has been in business. Eligible workers would be those who  had worked for an employer for a specified period, were at least 18 years  old, and were not eligible to participate in any other qualified retirement  plan the employer sponsors. Affected employers could either (1)  automatically enroll eligible workers, although employees would be  offered the option to affirmatively opt out or (2) require that employees  make an explicit yes or no decision on whether to participate; workers not  making such a decision would be automatically enrolled (see fig. 6).  Employers would then transfer a portion of employees’ pay to either a  traditional IRA or a Roth IRA through payroll deduction. Employers  could elect to send contributions to IRAs of an employer-designated  issuer, unless the employee selects his own IRA provider. If neither the  employer nor the employee designates a specific IRA provider, the  contributions would be deposited into federally designated default  fault  accounts.  accounts.
The automatic IRA is intended to help address the retirement security  needs of those not already covered by an employer-sponsored retirement  plan. Further, the automatic IRA is designed to extend the benefits of  payroll-deduction savings and automatic features of 401(k)s. According  to some experts, requiring employers to offer automatic IRAs is necessary  for a number of reasons. First, employers have had the option to establish  payroll-deduction IRAs for over 10 years, and for a number of reasons,  very few employers have done so. As we previously reported, IRA  providers have told us some employers may be reluctant to adopt a  payroll-deduction IRA because they believe that their publicizing the  payroll-deduction IRAs may be construed as an endorsement of the policy,  which could potentially violate ERISA. Further, employers may not be  aware of how payroll-deduction IRAs work and some small employers  may not be aware that this option exists. The automatic enrollment  component is necessary, according to designers of the automatic IRA,  because various impediments would prevent many eligible employees  from taking advantage of an available payroll-deduction IRA. For example,  employees would have to decide whether to participate, select an IRA  provider, select investment vehicles, and determine how much to  contribute. These officials note that many workers may have difficulty  overcoming inertia, and automatic enrollment would help them overcome  this difficulty.

			Impact on Employees and Retirement Savings

Advocates for automatic IRAs and some pension industry experts reported  that the automatic IRA could have a positive effect on retirement savings.  According to the architects of the approach, automatic IRAs offer a  powerful mechanism for accumulating retirement savings through regular  payroll deposits that continue automatically. In light of the impact of  automatic enrollment polices on participation in 401(k)s, an automatic  IRA program that features default automatic enrollment could have a  positive impact on participation rates. One study estimated that likely  automatic IRA participants include younger, part-time, and lower- or  moderate-income workers, as well as workers subject to higher than  average job turnover. Advocates stated that automatic IRAs could help  these employees overcome inertia since they would no longer need to take  the initiative in order to save. Further, two pension industry experts told  us that the payroll-deduction nature of automatic IRAs would ensure that  employees of affected companies are saving on a regular basis. However,  some experts agree that the automatic enrollment component of  automatic IRAs has the potential to significantly increase the number of  workers saving for retirement by including workers that currently do not  have access to an employer-sponsored plan.
Some caution, however, that the benefits resulting from the automatic IRA  could be relatively small. A 2009 preliminary analysis funded by the  Department of Labor illustrates potential outcomes of two automatic IRA  scenarios using specific behavioral assumptions about participation and  contribution rates, among other things. The analysis found that the  resulting increase in average retirement benefits at age 70 is small (even  when ignoring account fees and offsetting reductions in other savings) and  is weighted toward the third of the population with the highest lifetime  earnings. If actual participation rates in the automatic IRA are higher than  the analysis assumes—and the experience of automatic enrollment in  401(k)s indicates this is a possibility—the resulting increase in average  retirement benefits could be higher. The Department of Labor is  undertaking additional analysis to illustrate the effects of participation  rates similar to those achieved in 401(k) plans with automatic enrollment.
Participants may also not fully benefit from the tax incentives provided by  automatic IRAs. According to analysis sponsored by AARP, 50 percent of  automatic IRA participants would be lower-income. Therefore, with the  exception of Social Security and Medicare taxes, they would pay little, if  any, income tax and may not benefit from the tax incentives traditional  IRAs offer. Further, while some participants would be eligible for the  Saver’s Credit, one analysis estimated that the benefit of the credit could  be limited. Because the credit is nonrefundable, it can only be used to  offset income tax liability. If the participant does not have income tax  liability up to the full amount of the credit, the full value of the credit can  not be used. For example, the study concluded that if participants made  the maximum permitted contributions to an automatic IRA, then nearly 90  percent would not receive the full credit. In part to improve the tax  incentive of automatic IRAs, the Department of Treasury, in August of  2009, proposed making the Saver’s Credit fully refundable and depositing  it automatically into IRAs.
Finally, proper administration of accounts, including record keeping, will  be important for managing and maintaining the retirement savings  accumulated through the IRAs, according to some analyses and experts.  For example, workers would be responsible for ensuring that they do not  exceed applicable limits on annual contributions to an automatic IRA. An  analysis sponsored by AARP and pension industry officials noted that it  might be difficult for some workers to keep track of their accounts when  they move from job to job or if their employer goes out of business. A  2007 study noted that automatic IRA proposals do not impose record- keeping responsibilities on employers, beyond withholding and  transmitting IRA contributions. Because of this, the report noted that other  entities must assume these responsibilities, and a companion report  recommended a centralized administrator be responsible for record  keeping. For example, the first report found that a central administrator  could help prevent lost accounts by providing participants with annual  reports including their contributions and investment earnings for the year,  as well as the total account balance. In addition, the architects of the  automatic IRA proposed that the federal government set up a standard  default account and contract with private financial institutions for record- keeping services, among other things, to make managing the IRAs easier.

			Impact on Employers

A variety of views exist regarding the cost and administrative burden that  an automatic IRA would place on affected small employers. As one  analysis of the automatic IRA concept noted, an automatic IRA has the  potential to result in some costs and administrative burdens on small  employers. The analysis noted that employers would need to provide  employees with election forms and process paperwork with respect to  employee elections or non-elections, choose an IRA provider or opt for the  federally designated default investment, and withhold contributions from  employees’ pay. Pension industry officials also stated that some small  employers do not have payroll deduction systems and send paper or  spreadsheet files to their record keepers and brokers. They told us that  these employers may choose to invest in new infrastructure in order to  remit automatic IRA contributions through payroll deduction.
Recent legislative proposals for an automatic IRA have recognized the  potential challenges for small employers and contain provisions to  mitigate their impacts. For example, the 2007 bills to authorize automatic  IRAs would have exempted employers with fewer than 10 employees as  well as those that had been in business for less than 2 years. According to  some advocates, the proposals would have therefore avoided placing  additional requirements on the smallest companies, which may not have  electronic payroll-deduction systems. It would also relieve employers  starting a new business from additional costs and administrative burdens.  In addition, the proposals would establish a tax credit in the early years  for participating employers with fewer than 100 employees to mitigate  some administrative and startup costs.
In light of these automatic IRA features, some experts and a recent  analysis have found that additional costs may be small for most small  employers. The architects of the automatic IRA concept have stated that  because many employers already make deductions for federal income tax  and payroll tax withholdings, making IRA payroll deductions would  impose little, if any, new administrative costs. Further, they said these  employers would not have to bear the costs involved in maintaining a  retirement plan, such as matching employee contributions. These views  were supported by a 2009 report sponsored by AARP, which found that  most small employers would face low costs to implement the automatic  IRA. This study noted, for example, that about 97 percent of employers  with 10 or more employees had automated payroll systems, and such  employers would face relatively few burdens implementing the automatic  IRA. The report also found that payroll software companies and payroll  service providers are likely to adopt automatic IRA requirements in their  services to small employers. For the estimated 3 percent of affected  employers that process payroll manually, the automatic IRA would also  have to be implemented manually.

			Impact on the Federal Government

Past proposals have described a federal role that could mitigate some of  the difficulties and risks of implementing an automatic IRA.  For example,  the proposals would have created a new federal entity that would, among  other things, establish low-cost default investments. According to experts  we contacted and analyses we reviewed, establishing an automatic IRA  policy would require tax incentives to make it more affordable to some  employers and federal expenditures to establish and govern the program,  among other things. However, analyses sponsored by AARP found that it  is not possible to determine what the costs would be to the federal  government without a more detailed proposal. Further, these studies  reported that the establishment of an automatic IRA would reduce federal  tax revenues as a result of the tax credit available to small employers,  individual tax benefits from deferred employee income, and greater use of  the Saver’s Credit. Two analyses estimated that the revenue losses could  amount to somewhere between $2 billion and $19 billion over 10 years.

			Impact on 401(k) Plans

Industry officials and some experts we contacted also noted that  establishment of an automatic IRA could affect the market for 401(k)  plans. For example, some pension industry experts and representatives of  two national organizations representing large plan sponsors noted that if  automatic IRAs are made too attractive, they might displace 401(k)s and  Savings Incentive Match Plan for Employees of Small Employers  (SIMPLE) plans. These officials said that an employer might forego  adopting a 401(k) plan if they have already been required to facilitate an  automatic IRA, and that this would be unfortunate because an IRA is in  many ways an inferior option for workers. The officials told us that a  401(k) plan can offer workers better benefits, such as an employer match  and higher contribution rates. In addition, some of the officials reported  that the existence of a 401(k) creates a workplace culture that encourages  participation in retirement saving. Further, an AARP-sponsored analysis  noted that small businesses will weigh the costs of establishing or  maintaining a qualified retirement plan against the costs of complying with  the automatic IRA requirements. To the extent that the automatic IRA  approach offers significantly lower costs—including the relative costs of  fiduciary liability—employers may decide against adopting a 401(k) plan  or may eliminate an existing one. In light of concerns such as these,  officials of one large financial services firm said that, if implemented, the  automatic IRA program should be evaluated to determine if it led to a shift  away from 401(k) plans.
Others, however, have stated that the automatic IRA is not likely to erode  the popularity of 401(k) plans, and may even promote greater adoption of  such retirement vehicles. Some experts noted that the potential for  automatic IRAs to supplant 401(k)s can be minimized by careful design of  the program. Perhaps most importantly, they said that the maximum  annual savings for an automatic IRA should be designed so that it is less  attractive to a small business employer than a 401(k). Specifically, they  noted that it is important that the automatic IRA not permit contributions  above the current IRA dollar limits to avoid competing with qualified  plans. These advocates reason that the potential tax advantage of a 401(k)  enables a small business owner—who, along with his employees, may  choose to participate in the 401(k) or IRA plan his business sponsors—to  save a much higher percentage of his tax-deferred income than does an  automatic IRA, making the 401(k) plan a more attractive option. Further,  some industry experts told us that an automatic IRA would likely be a  stepping stone toward adopting a 401(k) for some small employers. For  example, according to an official of one large organization representing  pension professionals stated that payroll deduction automatic IRA  arrangements will ultimately encourage more employers to sponsor 401(k)  plans, and contribute on their employees’ behalf.

		State-Assisted Retirement Savings Proposals Intend to Increase Retirement Plan Savings but Raise Questions Regarding Participation, Program Design, and Legal Barriers

In recent years, 10 states have considered proposals that would involve  state governments in facilitating retirement savings plans for workers  whose employer does not sponsor a plan. One study on such state  proposals reported that employers would like to provide a retirement  savings vehicle for their employees, but are inhibited by the cost,  complexity, and time that would be required to do so.
Under the proposals, state governments could take a number of actions to  help address some of these issues and facilitate the use of payroll- deduction or SIMPLE IRAs or the adoption of 401(k) plans. For example, a  state would promote private pension coverage and facilitate retirement  savings for small business, moderate-income, and lower-income  workers—who are less likely to be covered by an employer-sponsored  plan—by acting as an intermediary between employers and financial  institutions. In addition, a state could help small employers pool their  investments and administrative activities.
The type of retirement plans that would be established by the programs  varies. For example, California’s proposal would establish a payroll- deduction, traditional, or SIMPLE IRA, or a combination of these options;  Connecticut’s proposal would establish a 401(k) or other type of defined  contribution plan; and proposals in Maryland and Washington would  establish a defined contribution plan and IRA options. Regardless, the  state would initiate and oversee the programs, while private-sector  companies under contract to the state would manage the investment  vehicles and day-to-day administration. For example, a Washington study  outlined an option under which the state would design the basic features  of a 401(k) plan and market the plan to private-sector employers who do  not currently offer a plan. The state would then contract with a private- sector plan administrator to provide access to investment funds, direct  customer service, Web-based account access, and to distribute account  statements and other communications. Table 2 shows examples of state  roles and the intended impact of automatic IRAs under existing proposals.
Program Participation: Little is known about the extent to which  employers and employees would participate in a state-assisted retirement  savings program. According to representatives of two organizations in  favor of state-assisted retirement savings plans, employer and employee  interest in such a program could be considerable. Moreover, one of the  representatives noted that proposals in Washington and other states have  been specifically designed to address small companies’ concerns that the  cost of setting up payroll deduction prevents them from adopting a 401(k)  plan or a payroll-deduction IRA. However, no known rigorous assessment  exists of the extent to which small employers or employees would opt to  participate in such a program. We obtained state-sponsored studies from  three of the four states we examined, and while none of the studies  included an analysis measuring the magnitude of the market demand for  such a program, two noted concerns regarding the potential demand for a  state program. For example, a study prepared for the Maryland legislature  compared a Maryland proposal to a number of other state financial  programs, such as a state-sponsored college savings program. In  comparing the two, the report noted that the college savings program  offers distinctive tax and pre-payment guarantee advantages that are not  otherwise available in the private market. However, the study noted that  this distinction, which helps ensure a market demand for the college  savings plans, would not exist for the state-assisted retirement program.  The report noted that there will be no additional employee tax benefit for  participants in the proposed state-assisted retirement savings program  and, for that reason, the program would have to compete on an equal  footing with plans in the marketplace. The Maryland analysis concluded  that the program might be difficult to establish or market in the absence of  a federal requirement that all employers have a retirement savings plan.
Representatives of the financial services industry also indicated that state- assisted programs to some extent could have a “zero-sum” effect. In  commentary on the Connecticut proposal in March of 2008, the Small  Business Council of America (SBCA) and American Society of Pension  Professionals and Actuaries (ASPPA) stated that low-cost retirement  options exist now, and the state-assisted program would result in little  difference in cost. The SBCA and ASPPA added that state government  should not compete with small private businesses unless there is a clear  market failure or some inherent unfairness that disadvantages its citizens.  Representatives of the Connecticut Bankers Association were concerned  that rather than expand retirement savings vehicles to new employees, the  state program would attract the “already served market” with initial low  costs. Similarly, an SBCA representative stated that providing retirement  services to small employers is not very profitable for financial services  firms, and if such a proposal resulted in the state obtaining half of the  small business market, for example, it is conceivable that large plan  administrators would exit the business since they only profit in this sector  though large volume. Further, a fiscal analysis of a Washington state  proposal noted that the program would have no initial plan assets and  uncertain levels of participation and, as a result, vendors may have  difficulty estimating the total cost of record-keeping services. This, in turn,  could affect vendor interest in providing services for the program.
Program Design and Costs to State: Studies from California, Maryland,  and Washington about the feasibility of state-assisted retirement savings  programs identified important questions about program design and related  costs. For example, state governments will need to determine the extent to  which administrative and management responsibilities will be borne by  the state, and how much will be contracted out to financial services  providers. States would also need to determine what types of investment  funds will be used, including any default funds. Further, analyses from the  three states showed they would face initial and ongoing costs. In addition,  a fiscal analysis of the Washington proposal identified three major costs  categories—including program development and administration,  communications and marketing, and record keeping. As table 3 illustrates,  the Washington analysis estimated a total cost of about $4.4 million to  implement and operate the program in the first 2 years.
Lack of startup funding may be a significant barrier in some states. While  the Maryland and Connecticut proposals allow for state budget  appropriations (which may later be recovered through participant fees),  the California proposal stated that initial funding could come from a state  budget appropriation or a non-profit or private entity. However, state  budget appropriations may be difficult to obtain given these states’ current  budget shortfalls. The Washington proposal stated that its program could  not be started until the state had obtained federal and/or philanthropic  funds sufficient to support the first 3 years of the program. According to  an advocate for the Washington proposal, his organization recognized that,  due to the current economy, the states are not in a position to self-fund  state-assisted retirement savings programs. He reported that his  organization has been working on obtaining federal funds to cover the  startup costs of such programs.
Legal and Regulatory Challenges: State-assisted savings programs  would also have to comply with both federal and state law that, according  to the state analyses, could provide additional challenges. One analysis  noted that states would need to obtain requisite federal approvals to  ensure that the programs adhere to all federal requirements governing the  operation of retirement plans. For example, if the program establishes  401(k) accounts, the state would need to submit plan documents to the  IRS and Department of Labor for approval. Further, the Maryland and  Washington analyses found that if a state sponsored the establishment of a  401(k) plan, such plans would be subject to ERISA’s fiduciary  requirements and expose either the state or the employer to potential  liability in the event that participants suffer financial losses. According to  the Maryland analysis, participants may try to hold the state or the  employer liable if they incur investment losses after being sold an  investment unsuitable for their needs or if they received misleading  communications about investments. However, both analyses noted that  there are steps the states can take to minimize their liability. For example,  according to the Maryland study, the state could limit investment options  to reduce the possibility of unsuitable choices or miscommunication.
The Washington and Maryland analyses discussed a number of other  potential liabilities that states could face. For example, the Maryland  analysis noted that a failure to file required forms and conduct  transactions under applicable standards could subject the state or  employers to significant penalties imposed by IRS or the Department of  Labor. Officials from Washington noted that a 401(k) option could create a  new and complex compliance and monitoring role for the state retirement  agency and that it could be administratively difficult for the state to  assume this role. They added that the state would face a steep learning  curve in addressing ERISA and liability issues, and might have to contract  with outside expertise to deal with compliance and oversight issues.
The state role envisioned in the proposals may be precluded by some  states’ constitutions. Analyses of proposals in California and Washington  specifically cited aspects of the state constitutions that could affect the  states’ ability to operate a plan. For example, California’s constitution  prohibits the gift or loan of state credit to associations, companies or  corporations, and prohibits the state from loaning its credit, subscribing  to, or being interested in the stock of any company, association, or  corporation. According to the California study, although California’s  constitution specifically exempts the retirement board of a public  retirement system from this prohibition, it is not clear whether the  exemption would extend to a program for private-sector employees. The  California study noted that if the program is structured in such a way that  the state internally manages funds associated with the program, this could  be seen as the state having a financial interest outside the limits of the  public employees’ retirement fund. The California study also observed that  a constitutional amendment may be needed to address this issue.  Washington’s constitution has a similar prohibition. The Washington  report noted that the proposed retirement savings program may be  permissible because it serves a public purpose by helping individuals save  for retirement and reducing the risk that individuals will rely on state  assistance in the absence of adequate retirement savings. However, the  report also noted that no Washington case has considered proposals  similar to those discussed in the report. The report concluded that it was  not possible to predict how a court would rule should the program be  challenged. In addition, because no other states have enacted such  programs, there is no guidance available from other courts.

	Concluding Observations

Automatic enrollment of workers in 401(k) plans has proven to be an  effective means of increasing plan participation rates. Because such  policies are being increasingly adopted by defined contribution plan  sponsors in the wake of the Pension Protection Act of 2006, many  additional workers will be brought into plans who might not otherwise  have participated. Nonetheless, a number of considerations could  potentially limit the extent or impact of such policies. First, the benefits of  automatic enrollment are inherently limited to workers that have access to  an employer-sponsored plan but do not participate. Second, some types of  employers, such as employers with high-turnover workforces and small  employers, may find automatic enrollment too costly or inappropriate for  their workforce. Third, initially low default contribution rates and the  absence of default automatic escalation policies at some plans may result  in inadequate long-term savings for some workers.
Automatic IRAs may hold promise for workers who do not have access to  an employer-sponsored plan. The proposal has potential in that it could  foster retirement savings among the roughly 40 percent of the workforce  whose employers do not sponsor a plan. As such a policy is designed,  however, a number of important issues remain to be considered. For  example, it is not clear that an automatic IRA will offer low-income  workers a significant benefit. Further, in order to ensure that the intended  beneficiaries accumulate and retain savings, some central  administration—possibly by the federal government—may be required to  assume significant and long-term involvement for record keeping and  administration. The nature and costs of such a role have not yet been  publicly assessed or compared against the potential benefits and  limitations of an automatic IRA. In addition, while state-assisted  retirement savings plans may also hold some promise for expanding  retirement coverage for workers, none of these proposals has been  enacted and they could face significant legal barriers to implementation.
Both the growth of automatic enrollment and the introduction of automatic  IRA proposals have brought renewed attention to the question of how to  extend retirement coverage to the half of the workforce not covered by an  employer-sponsored plan. This is an important step forward, as past debate  over retirement security has largely focused on increasing retirement  savings for those already participating in retirement plans. As plan sponsors  and participants gain more experience with automatic enrollment, it will be  helpful to learn from these experiences, especially in light of the recent  recession. The lessons learned may have important implications for related  401(k) plan features, such as automatic escalation, and for the potential  feasibility and usefulness of automatic IRA and state-assisted retirement  savings proposals. Further, it would also be helpful to carefully consider the  various concerns raised in the automatic IRA debate to increase the  likelihood that, if such a proposal becomes law, it is administered in an  efficient and effective way. Finally, while state efforts could be helpful in  increasing the number of workers saving for retirement, these efforts may  not be necessary depending on the potential implementation of automatic  IRAs. Further, fiscal difficulties in some states may make such proposals  difficult to implement in the near future.

	Agency Comments

We provided a draft of this report to the Department of Labor and the  Department of the Treasury for review and comment. The Department of  Labor generally agreed with our findings. With regard to the potential  impacts of an automatic IRA on retirement benefits, Labor said that the  Employee Benefits Security Administration is undertaking additional  analysis to illustrate the effect of higher participation rates, similar to  those achieved in 401(k) plans. The Department of Labor provided  technical comments, which we incorporated as appropriate. The  Department of Labor’s formal comments are reproduced in appendix II.
The Department of the Treasury also generally agreed with our findings,  and provided technical comments, which we incorporated as appropriate.   The Department of the Treasury’s formal comments are reproduced in  appendix III.
As agreed with your office, unless you publicly announce its contents  earlier, we plan no further distribution until 30 days after the date of this  letter. At that time, we will send copies of this report to the Secretary of  Labor, the Secretary of the Treasury, appropriate congressional  committees, and other interested parties. In addition, the report will be  available at no charge on GAO’s Web site at http://www.gao.gov.
If you have any questions concerning this report, please contact Barbara  Bovbjerg at (202) 512-7215. Contact points for our Office of Congressional  Relations and Public Affairs may be found on the last page of this report. GAO  staff who made major contributions to this report are listed in appendix II.

Appendix I: Scope and Methodology

To determine what is known about the effect of automatic enrollment  policies among the nation’s defined contribution plans, as well as the  extent of and prospects for such policies, we first reviewed reports  examining the impact of automatic enrollment, default contribution rates,  and default investment funds on participation rates and saving patterns.  Table 4 shows the six reports presenting original research that we  reviewed.
Officials at the Department of Labor, as well as other pension industry  experts, verified our selections. The six reports include two conducted by  large plan administrators that analyzed the records of their respective  defined contribution plan sponsors and participants. The remaining four  reports conducted case studies of companies that adopted automatic  enrollment and analyzed participation rates, contribution rates, and  investment fund allocations before and after the policy was implemented.  For each study, we analyzed available evidence on: (1) the impact of  automatic enrollment on participation rates and the durability of any  increases in participation, (2) the characteristics of the workers whose  participation rates are affected by automatic enrollment,(3) the impact of  automatic enrollment on contribution rates, and (4) the impact of  automatic enrollment on selection of investment funds. However, the  findings of these case studies may not be generalizable for three reasons.  First, each study examined the experience of only one to three companies.  Second, many of the companies in the four case studies seem to have been  facing difficulty meeting nondiscrimination testing requirements. Third,  some offered matching contributions to their employees and it is unclear  whether the presence of a match affects automatic enrollment  participation rates. Therefore, the experiences of these companies may  not be representative of all 401(k) sponsors.
To determine the extent to which plans had adopted automatic enrollment  policies, we obtained data from two large plan administrators—Fidelity  Investment and Vanguard Investments. Data from Fidelity represents the  18,100 qualified defined contribution plans Fidelity administers,  encompassing about 14 million plan participants and over $600 billion in  assets. Data from Vanguard is drawn from Vanguard’s universe of defined  contribution plans—more than 2,200 qualified plans that encompass more  than 3 million participants and almost $200 billion in assets. We  determined that these data accurately reflect the experience of Fidelity  and Vanguard, but are not necessarily representative of the universe of  defined contribution plans.
We conducted in-depth interviews with 12 plan sponsors to obtain their  perspectives on their experiences with automatic enrollment and related  policies, as well as prospects for the policies. We used Form 5500 data  from the Department of Labor to select a sample that included plan  sponsors from a variety of industries including those that may be  considered to have low wages and high turnover, and vice-versa, and  small, medium, and large plans, as measured by number of participants.  Six of the plan sponsors had adopted automatic enrollment, including one  that had significantly narrowed the scope of its automatic enrollment  policy, two that had adopted a 401(k) plan within the past 5 years, and 10  that have sponsored a 401(k) plan for more than 5 years. The remaining  six plan sponsors have not adopted automatic enrollment. Table 5 shows  the industries and plan sponsor sizes for the 12 sponsors that we  contacted.
In addition, we conducted interviews with officials at the Departments of  the Treasury and Labor, as well as academic experts from the Employee  Benefits Research Institute (EBRI), Brookings, The Heritage Foundation,  Harvard University, and the New School of Social Research. We also  interviewed 401(k) plan administrators, providers, and consultants  including Deloitte, Fidelity Investments, Vanguard, Mercer, Watson Wyatt,  T. Rowe Price, ADP, State Street Global Advisors, and Renaissance  Institutional Management. Finally, we interviewed industry and research  organizations such as the Investment Company Institute (ICI), the Pension  Rights Center (PRC), AARP, the Profit Sharing/401(k) Council of America  (PSCA), the American Benefits Council (ABC), American Society for  Pension Professionals and Actuaries (ASPPA), the Center for American  Progress (CAP), the AFL-CIO, the Small Business Council of America  (SBCA), and the Committee on Investment of Employee Benefit Assets  (CIEBA).
To determine the potential benefits and limitations of automatic IRA  proposals and state-assisted retirement savings plan proposals, we  analyzed the Automatic IRA Acts of 2006 and 2007 as well as state-assisted  retirement savings proposals from four states. The Economic Opportunity  Institute identified nine states that have introduced state-assisted  retirement savings proposals: California, Connecticut, Maryland,  Massachusetts, Michigan, Pennsylvania, Rhode Island, Vermont, Virginia,  and Washington.   In addition, the architect of the state-assisted  retirement savings concept identified Vermont as having introduced a  proposal.  We selected four—California, Connecticut, Maryland, and  Washington—for an in-depth review because these states covered a range  of plan type offerings and we were able to obtain feasibility studies or  testimony prepared for state congressional hearings on their proposals.  We did not conduct an independent legal review of these proposals.  We  analyzed the work of two researchers from Brookings and The Heritage  Foundation that have developed proposals for the automatic IRA and  state-assisted retirement savings plans. We then reviewed four studies  sponsored by AARP examining the feasibility of automatic IRAs; survey  reports by AARP and Prudential on employee and employer attitudes  toward automatic IRAs; a microsimulation analysis of the impact of  automatic IRAs on workers’ savings accumulations and retirement  security; and three feasibility studies on California, Maryland, and  Washington states’ proposals. In addition, we reviewed testimony and  written materials from hearings held in Connecticut and Washington to  obtain the perspectives of state officials, small business representatives,  and pension industry representatives on state-assisted retirement savings  proposals.  We also reviewed relevant federal laws and regulations.
We interviewed researchers who have focused on the topic, including  those from Brookings, The Heritage Foundation, EBRI, the Economic  Opportunity Institute, Harvard University, and the New School for Social  Research as well as officials from AARP, PSCA, ASPPA, CIEBA, ABC, ICI,  CAP, and PRC. In addition, we interviewed state officials from  Washington, Maryland, and California as well as officials from pension  plan administrators and consultants, including Mercer, Watson Wyatt, T.  Rowe Price, ADP, State Street Global Advisors, and Renaissance  Institutional Management. Finally, we interviewed a 401(k) consultant for  small businesses and an official from SBCA to obtain the perspective of  representatives of the small business community.

Appendix II: Comments from the Department of Labor

Appendix III: Comments from the Department of the Treasury

Appendix IV: GAO Contact and Staff Acknowledgments

	GAO Contact

	Staff Acknowledgments

David Lehrer, Assistant Director, and Michael Hartnett, Analyst-in-Charge,  managed this review. Jennifer Gregory also led portions of the research  and made significant contributions to this report in all aspects of the work.
Edward Nannenhorn and Jay Smale provided methodological assistance.  Kate van Gelder provided assistance with report preparation. Roger  Thomas provided legal assistance. Ashley McCall assisted in identifying  relevant literature. Cheron Brooks developed the report’s graphics.  Charlene Johnson, Michaela Monaghan, and Bryan Rogowski verified our  findings.

Selected Bibliography on Automatic Enrollment

Beshears, John, James J. Choi, David Laibson, and Brigitte C. Madrian.  “The Importance of Default Options for Retirement Saving Outcomes:  Evidence from the USA.” Chapter 3 in Lessons from Pension Reform in  the Americas, edited by Stephen J. Kay and Tapen Sinha. New York:  Oxford University Press Inc., 2008.
Copeland, Craig. Use of Target-Date Funds in 401(k) Plans, 2007. Issue  Brief 327. Washington, D.C.: Employee Benefits Research Institute, March 2009.
Fidelity Investments. Building Futures: Auto Solutions Data. Boston,  Mass.: September 2008.  —. Building Futures Vol Contribution Plans. Boston, Mass.: 2007. ume VIII: A Report on Corporate Defined  Choi, James J., David Laibson, Brigitte C. Madrian, and Andrew Metrick.  “For Better or For Worse: Default Effects and 401(k) Savings Behavior.”  Chapter 2 in Perspectives on the Economics of Aging, edited by David A.  Wise. Chicago: University of Chicago Press, June 2004.  —. “Saving for Retirement on the Path of Least Resistance.” Chapter 11 in  Behavioral Public Finance, edited by Edward J. McCaffery and Joel  Slemrod. New York, N.Y.: Russell Sage Foundation, 2006.
Madrian, Brigitte C. and Dennis F. Shea. “The Power of Suggestion: Inertia  in 401(k) Participation and Savings Behavior.” The Quarterly Journal of  Economics, vol. CXVI, no. 4 (November 2001): 1149-1187.
Mitchell, Olivia S. and Stephen P. Utkus. “Lessons from Behavioral  Finance for Retirement Plan Design.” Chapter 1 in Pension Design and  Structure New Lessons from Behavioral Finance, edited by Olivia S.  Mitchell and Stephen P. Utkus. New York, N.Y.: Oxford University Press  Inc., 2004.
Nessmith, William E., Stephen P. Utkus, and Jean A. Young. Measuring the  Effectiveness of Automatic Enrollment. Valley Forge, Pa.: Vanguard  Center for Retirement Research, December 2007.
Swanson, Mark D. and D. Bryan Farnen. “Nationwide Savings Plan  Automatic Enrollment Getting Associates PREPared for Retirement.”  Benefits Quarterly, vol. 24, no. 3 (Third Quarter 2008): 13-19.

Summary:
Why GAO Did This Study

Although employer-sponsored retirement plans can be an important component of income security after retirement, only about half of all workers participate in such plans. To foster greater participation among workers who have access to such plans, Congress included provisions that facilitate plan sponsors' adoption of automatic enrollment policies in the Pension Protection Act of 2006. To foster greater retirement savings among workers who do not have access to an employer-sponsored plan, proposals have been made at the federal level for an "automatic IRA" and at the state level for state-based programs. Because of questions about the extent of retirement savings and prospects for a sound retirement for all Americans, GAO was asked to determine (1) what is known about the effect of automatic enrollment policies among the nation's 401(k) plans, and the extent of and future prospect for such policies; and (2) the potential benefits and limitations of automatic IRA proposals and state-assisted retirement savings proposals. To answer these questions, GAO reviewed available reports and data, and interviewed plan sponsors, industry groups, investment professionals, and relevant federal agencies.

What GAO Found

Automatic enrollment appears to significantly increase participation in 401(k) plans according to existing studies, but may not be suitable for all plan sponsors. Some studies found that participation rates can reach as high as 95 percent under automatic enrollment. Available data indicate that the percentage of plans with automatic enrollment policies increased from about 1 percent in 2004 to more than 16 percent in 2009, with higher rates of adoption among larger plan sponsors. In most cases, these plans automatically enroll only new employees, rather than all employees. We also found that automatic enrollment may not be suitable for all plan sponsors, such as those with a high-turnover workforce. Further, some data show that while automatic escalation policies--which automatically increase saving rates over time--are increasingly common, they lag behind adoption of automatic enrollment. In combination with low initial contribution rates, this could depress savings for some workers. Also, the emergence of target-date funds--funds that allocate investments among various asset classes and shift to lower-risk investments as a "target" retirement date approaches--as the typical default investment raises questions in light of the substantial losses such funds experienced in the past year. Other proposals could expand the portion of the workforce saving for retirement, but these proposals could face challenges. Under a federally mandated automatic IRA, certain employers could be required to enroll eligible employees in payroll-deduction IRAs, unless the worker specifically opted out. Such a proposal could broaden the population that saves for retirement at minimal cost to employers. However, this proposal faces a number of challenges, including uncertainty about the extent to which it would help low-income workers accumulate significant retirement savings. Proposals for state-assisted retirement savings programs could raise coverage and, ultimately, savings by involving state governments in facilitating retirement savings for workers without access to an employer-sponsored plan. However, such programs face uncertainty about employer and worker participation levels, as well as legal and regulatory issues.