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1 

53–067 

" ! COMMITTEE PRINT 

111TH CONGRESS

1st Session 

S. PRT. 

2009

111–34 

TARGET DATE RETIREMENT FUNDS: 

LACK OF CLARITY AMONG STRUCTURES 

AND FEES RAISES CONCERNS 

Summary of Committee Research 

PREPARED BY THE

MAJORITY STAFF 

OF THE

SPECIAL COMMITTEE ON AGING 

UNITED STATES SENATE 

ONE HUNDRED AND ELEVENTH CONGRESS 

October 2009 


Congress.#13
(II) 

SPECIAL COMMITTEE ON AGING 

HERB KOHL, Wisconsin, Chairman 

RON WYDEN, Oregon 

BLANCHE L. LINCOLN, Arkansas 

EVAN BAYH, Indiana 

BILL NELSON, Florida 

BOB CASEY, Pennsylvania 

CLAIRE McCASKILL, Missouri 

SHELDON WHITEHOUSE, Rhode Island 

MARK UDALL, Colorado 

MICHAEL BENNET, Colorado 

KIRSTEN GILLIBRAND, New York 

ARLEN SPECTER, Pennsylvania 

AL FRANKEN, Minnesota 

BOB CORKER, Tennessee, Ranking Member 

RICHARD SHELBY, Alabama 

SUSAN COLLINS, Maine 

ORRIN HATCH, Utah 

GEORGE LeMieux, Florida 

SAM BROWNBACK, Kansas 

LINDSEY GRAHAM, South Carolina 

SAXBY CHAMBLISS, Georgia 

DEBRA WHITMAN, Staff Director 

JACK MITCHELL, Chief of Oversight and Investigations 

Prepared By: 

JASON HOLSCLAW, Majority Staff 

JEFF CRUZ, Majority Staff 

ASHLEY GLACEL, Majority Staff 

(II) 

(III) 

C O N T E N T S 

Page 

Foreword ................................................................................................................... 1 

Select Aging Committee Hearings .......................................................................... 2 

Aging Committee Majority Staff Information Paper ............................................ 5 

Executive Summary ................................................................................................. 5 

Introduction .............................................................................................................. 6 

Background .............................................................................................................. 7 

Pension Protection Act of 2006 Encourages Automatic Enrollment Policies ...... 8 

Adoption of Automatic Enrollment Has Grown Considerably With Plans Overwhelmingly Adopting Target date Funds as Default Investment .................... 9 

Although Popular Investment Tools, Design and Transparency of Target date 

Funds Raise Concerns ......................................................................................... 11 

Agencies Taking Steps to Evaluate Target date Fund Concerns ........................ 18 

Conclusion ................................................................................................................ 18 

Acknowledgments .................................................................................................... 20 

(1) 

FOREWORD 

The Special Committee on Aging (Aging Committee) has a long 

history of examining various aspects of both the defined benefit 

and defined contribution pension industry. Most recently, the 

Aging Committee held hearings reviewing the recession’s effect on 

older American’s retirement income, including whether individuals 

have adequate pension benefits and coverage as well as whether retirement-related federal government programs—such as the Pension Benefit Guaranty Corporation and the Social Security Administration—are performing effectively. 

Since the economic downturn, I have become increasingly concerned that plan sponsors and participants may not be receiving 

adequate information regarding the risk associated with certain 

401(k) products, such as target date retirement funds—investment 

vehicles designed to automatically adjust to more conservative investments as one approaches retirement. Today, more and more 

companies are automatically enrolling their workers into these 

types of plans due to Department of Labor’s ruling that these funds 

qualify for ‘‘safe harbor’’ relief from fiduciary liability. In fact, many 

have suggested that these funds will be the retirement savings vehicle for the vast majority of Americans in the future. 

While well-constructed target date funds have great potential for 

improving retirement income security, it is currently unclear 

whether investment firms are prudently designing these funds in 

the best interest of the plan sponsors and their participants. In 

fact, an Aging Committee investigation conducted in early 2009 

found significant differences in the asset allocations and equity 

holdings within these funds, raising questions about whether plan 

sponsors and participants understand the underlying assumptions 

and risk associated with these products. Therefore, I requested that 

the U.S. Department of Labor and the U.S. Securities and Exchange Commission examine these funds, and I commend the agencies for taking steps to do so. 

The Aging Committee’s hearing on October 28, 2009, together 

with this staff information paper represent an attempt to outline 

concerns related to target date funds. This staff report summarizes 

the Aging Committee’s actions to date and presents findings from 

various sources, including Committee hearings, government reports, and academic research. 

My hope is that this paper will assist Members of Congress, their 

staffs, and the general public in better understanding the potential 

benefits and challenges associated with these types of investment 

funds. 

HERB KOHL, Chairman 

(2) 

SELECT AGING COMMITTEE HEARINGS 

Senate Special Committee on Aging hearings 

On October 24, 2007, the Senate Special Committee on Aging 

held a hearing on ‘‘Hidden 401(k) Fees: How Disclosure Can Increase Retirement Security,’’ which examined the effect hidden 

401(k) fees can have on retirement savings and the need for simple 

and clear disclosure. The Committee heard testimony from: Barbara Bovbjerg, Director of Education, Workforce and Income Security Issues, GAO; Bradford Campbell, Assistant Secretary of Labor, 

the Employee Benefits Security Administration; Jeff Love, Director 

of Research, AARP; Mercer Bullard, assistant professor, University 

of Mississippi School of Law; Michael Kiley, President, Plan Administrators, Inc.; and Robert Chambers, Esq., Partner, Helms, 

Mulliss & Wicker LLC and Chairman of the American Benefits 

Council. 

LEGISLATIVE ACTION: 

Increasing the Transparency of Pension Fees. Under ERISA, 

there are currently no requirements to clearly disclose the 

record keeping and investment fees charged for managing a 

401(k) account. Yet, a small difference in fees, when compounded annually, results in large difference in final retirement savings. In the 111th Congress, Rep. George Miller (D– 

CA, 7th Congressional District) introduced H.R. 1984, the 

401(k) Fair Disclosure for Retirement Security Act, and Senators Tom Harkin (D–IA) and Herb Kohl (D–WI) introduced S. 

401, the Defined Contribution Fee Disclosure Act, to amend 

ERISA to require the disclosure of fees to both plan sponsors 

and participants. If passed, this legislation could increase overall retirement security without cost to the American taxpayers. 

The House bill passed through the House Committee on Education and Labor in June 2009. 

On April 30, 2008, the Senate Special Committee on Aging held 

a hearing entitled, ‘‘Leading by Example: Making Government a 

Role Model for Hiring and Retaining Older Workers’’ evaluating 

the federal government’s efforts to hire and retain older workers. 

The Committee heard testimony from: Barbara Bovbjerg, Director, 

Education, Workforce and Income Security Issues, US Government 

Accountability Office, Robert Goldenkoff, Director, Strategic Issues, 

US Government Accountability Office, Nancy Kichak, Associate Director, Strategic Human Resources Policy, Office of Personnel Management, Thomas Dowd, Administrator, Office of Policy Development and Research, Employment and Training Administration, US 

Department of Labor, Max Stier, President and CEO, Partnership 

3 

for Public Service, Chai Feldblum, Co-Director, Workplace Flexibility 2010. 

LEGISLATIVE ACTION: 

Remove the pension penalty for seniors to continue working in 

a phased retirement: In the 111th Congress, Senator Herb Kohl 

(D–WI) joined Senator George Voinovich (R–OH), the ranking 

member of the Senate Homeland Security and Governmental 

Affairs Committee’s Subcommittee on the Oversight of Government Management, the Federal Workforce and the District of 

Columbia, in introducing S. 469 the Incentives for Older Workers Act, which includes a provision that removes the penalty 

under defined benefit pension plans that reduces the pension 

of full-time workers who take a lower salary while reducing 

their hours in a phased retirement. This penalty affects more 

than three million Americans in private pension plans that are 

calculated, in part, by their final year pay. 

On July 16, 2008, the Senate Special Committee on Aging held 

a hearing entitled ‘‘Saving Smartly for Retirement: Are Americans 

Being Encouraged to Break Open the Piggy Bank’’ to examine the 

reported increase in leakage and to explore ways to protect American’s retirement savings. The Committee heard testimony from: 

Christian Weller, Senior Fellow, Center for American Progress; 

Mark Iwry, Principal, Retirement Security Project; David John, 

Principal, Retirement Security Project; Gregory Long, Executive Director, Federal Retirement Thrift Investment Board; John Gannon, 

Senior Vice President, Financial Industry Regulatory Authority; 

Bruce Bent, Chairman, The Reserve. 

LEGISLATIVE ACTION: 

Reducing the ‘‘Leakage’’ of Pension Savings. In conjunction 

with the July 2008 hearing, the Aging Committee requested 

that the U.S. Government Accountability Office (GAO) study 

the extent to which Americans tap into their accrued retirement savings prior to retirement. In August 2009, GAO issued 

401(k) Plans: Policy Changes Could Reduce Long-term Effects 

of Leakage on Workers’ Retirement Savings, which suggested 

that Congress consider changing the requirement for the sixmonth contribution suspension following a hardship withdrawal, as well as recommended that the Secretary of Labor 

promote greater participate education on the importance of 

preserving retirement savings, and that the Secretary of the 

Treasury clarify and enhance loan exhaustion provisions to ensure that participants do not initiate unnecessary leakage 

through hardship withdrawals. In conjunction with the 2008 

hearing, Senators Charles Schumer (D–NY) and Herb Kohl (D– 

WI) introduced S. 3278 in the 110th Congress, to limit the 

number of 401(k) loans to three and prohibit the widespread 

use of 401(k) debit cards. 

On February 25, 2009, the Senate Special Committee on Aging 

held a hearing entitled ‘‘Boomer Bust? Securing Retirement in 

Volatile Economy,’’ which examined the economic downturn’s effect 

on retirement security, particularly for those on the brink of retireVerDate Nov 24 2008 13:40 Nov 10, 2009 Jkt 000000 PO 00000 Frm 00007 Fmt 6604 Sfmt 6604 H:\DOCS\53067.TXT SAG PsN: JOYCE
4 

ment. The Committee heard testimony from: Jeanine Cook, a Baby 

Boomer from Myrtle Beach, South Carolina; Dallas L. Salisbury, 

President & CEO, Employee Benefits Research Institute; Dean 

Baker, Co-Director, Center for Economic and Policy Research; 

Ignacio Salazar, President & CEO, SER—Jobs for Progress; Barbara B. Kennelly, President & CEO, National Committee to Preserve Social Security and Medicare; Deena Katz, CFP, Associate 

Professor, Texas Tech University, and Chairman, Evensky & Katz. 

On May 20, 2009, the Special Committee on Aging held a hearing entitled ‘‘No Guarantees: As Pension Plans Crumble, Can PBGC 

Deliver,’’ to consider whether the federal government’s Pension 

Benefit Guaranty Corporation (PBGC) has the capability to fulfill 

its mission to insure the pensions of nearly 44 million Americans, 

at a time when several of the country’s largest automobile companies are teetering on the edge of bankruptcy. The question of 

PBGC’s governance came amidst allegations of mismanagement by 

the agency’s former director, Charles E.F. Millard, who deviated 

from PBGC’s conservative investment strategy just before the market downturn. In addition, the PBGC Inspector General alleged 

that Millard improperly influenced the procurement process surrounding the restructure of the Corporation’s investments. The 

Committee heard testimony from: Dallas L. Salisbury, President 

and CEO, Employee Benefits Research Institute; Barbara Bovbjerg, 

Director, Education, Workforce and Income Security, U.S. Government Accountability Office; Rebecca Anne Batts, Inspector General, 

Pension Benefit Guaranty Corporation; Vincent Snowbarger, Acting 

Director, Pension Benefit Guaranty Corporation; and Charles E.F. 

Millard, Former Director, Pension Benefit Guaranty Corporation. 

LEGISLATIVE ACTION: 

Strengthening the Pension Benefit Guaranty Corporation’s Governance Structure. In May 2009, PBGC reported an accumulated deficit of about $33.5 billion. Moreover, the hearing revealed that the PBGC Board of Directors had not met since 

February 2008 despite the economic downturn, and that PBGC 

lacked certain procurement safeguards. On the basis of the 

Committee’s findings, Senators Herb Kohl (D–WI), Russ Feingold (D–WI), Claire McCaskill (D–MO), and Michael Bennet 

(D–CO) introduced S.1544, which expands and strengthens 

PBGC governance and oversight, in part, by expanding the 

PBGC’s board of directors, redefining the Inspector General’s 

reporting structure, and adding additional procurement safeguards. 

(5) 

AGING COMMITTEE MAJORITY STAFF INFORMATION PAPER 

Executive Summary 

Target date retirement funds—also referred to as lifecycle 

funds—are a type of mutual fund that automatically rebalances to 

a more conservative asset allocation as the participant approaches 

their retirement target date. These funds offer investors certain advantages generally not offered by other types of investment vehicles by purporting to offer participants a beneficial long-term asset 

allocation strategy, while lowering financial risk as participants approach retirement. Since the Department of Labor designated target date funds as an appropriate investment default option in response to the enactment of the Pension Protection Act of 2006, 

more than $140 billion in net monies have entered into target date 

funds, and 96 percent of plans that offer automatic enrollment policies are using target date funds. 

Although target date funds have proved popular with participants and have won the approval of many investment professionals, the losses suffered by target date funds during the economic downturn raised concerns about the design and transparency 

of these funds. For example, an Aging Committee investigation 

found that the allocation of assets among stocks, bonds, cashequivalents varied greatly among target date funds with the same 

target retirement date, with select firms’ 2010 target date funds’ 

equity holdings ranging anywhere from 24 to 68 percent. It was 

also unclear to what extent plan sponsors educate their participants on these funds, as well as how fiduciary standards would be 

enforced. 

In response to the Aging Committee’s concerns, officials from the 

Department of Labor’s Employee Benefit Security Administration 

(EBSA) and the Securities and Exchange Commission (SEC) held 

a joint hearing on June 18, 2009, to hear testimony on the investment of 401(k) and other retirement plans in target date type plans 

in an effort to determine the need for additional guidance. Witnesses at the hearing addressed how target date fund managers determine asset allocations and changes to asset allocation; how they 

select and monitor underlying investments; the extent to which the 

foregoing, and related risks, are disclosed to investors and the adequacy of that disclosure; and the approaches or factors to compare 

and evaluate target date funds. At the time of this writing, EBSA 

and SEC were continuing to coordinate and evaluate what steps 

should be taken to address target date funds, specifically for those 

funds used as default options and directed at a less financially-sophisticated participant. 

6 

1Patrick Purcell and John Topoleski, 401(k) Plans and Retirement Savings: Issues for Congress, R40707, Congressional Research Service, July 14, 2009. 2 Employers may sponsor defined benefit (DB) or defined contribution (DC) plans for their employees. DB plans promise to provide a benefit that is generally based on an employee’s years 

of service and salary. (See 29 U.S.C. § 1002(35).) DB plans use a formula to determine the ultimate pension benefit participants are entitled to receive. Moreover, an employer bears the investment risk, and must ensure that the pension plan has sufficient assets to pay the benefits 

promised to workers and their surviving dependents. Under a DC plan, such as a 401(k) plan, 

employees have individual accounts to which the employee, employer, or both make contributions, and benefits are based on contributions, along with investment returns (gains and losses) 

on the accounts. (See U.S.C. § 1002(34).) Not all DC plans are 401(k) plans, but 401(k) plans 

hold about 67 percent of DC plan assets. Other DC plans include 403(b) plans for non-profit 

employers, 457 plans for state and local governments, and miscellaneous other DC plans. Increasingly, 403(b) plans and 457 plans operate similarly to 401(k) plans. In this report the terms 

‘‘401(k)’’ plan and ‘‘defined contribution’’ plan are used interchangeably unless a distinction is 

noted in the text. 3 U.S. Department of Labor, Bureau of Labor Statistics, National Compensation Survey: Employee Benefits in Private Industry in the United States, March 2007, Summary 07–05, August 

2007. The sample represented 108 million workers. 4 On October 11, 2007, the Standard & Poor’s 500 Index of common stocks reached an intraday high of 1,576, an all time record for the index. On March 6, 2009, the S&P 500 fell to an 

intra-day low of 667, a decline of 57.7 percent from its all-time high. Over the next three 

months, stock prices climbed 41 percent. The S&P 500 closed at a value of 943 on June 1, 2009. 

This was 40 percent lower than the index’s highest level in October 2007. By July 7, the S&P 

500 had fallen to 881. 5 Board of Governors of the Federal Reserve System, Flow of Funds Accounts of the United 

States: Flows and Outstandings, Fourth Quarter 2008, March 12, 2009, p. 113. 

Introduction 

Since they were first introduced several decades ago, 401(k) 

plans have become the principal retirement savings vehicle for millions of U.S. workers. According to the Bureau of Labor Statistics, 

51 percent of workers in the private sector participated in an employer-sponsored retirement plan of some kind in 2007.1 Only 20 

percent of all private-sector workers were covered by traditional 

pensions—also called defined benefit or ‘‘DB’’ plans—whereas 43 

percent participated in 401(k) plans and other defined contribution 

plans (DC).2 Twelve percent of workers participated in both types 

of plans.3

Unlike employees with more traditional defined benefit pensions, 

most employees with defined contribution plans—such as 401(k) 

plans—choose to participate in their employer’s plans and generally decide the amount they want to contribute and how to invest 

it. Thus, they bear the responsibility for funding and managing 

their investments in a way that seeks to achieve sufficient benefits 

in retirement. The worker’s account balance at retirement will depend on how much the individual contributed to the plan over the 

years and on the performance of the assets in which the plan is invested. 

The majority of assets held in DC plans are invested in stocks 

and stock mutual funds, and as a result, the decline in the major 

stock market indices in 2008 greatly reduced the value of many 

families’ retirement savings.4 According to the Federal Reserve 

Board, assets held in DC plans fell from $3.73 trillion at year-end 

2007 to $2.66 trillion at year-end 2008, a decline of 28.7 percent.5

The decline would have been even greater if not for ongoing contributions to the plans by workers and employers. Furthermore, the 

rise in unemployment resulting from the downturn has had a detrimental impact on retirement savings, due to participants’ need to 

use their accrued retirement savings. The removal of retirement 

savings prior to retirement—a phenomenon referred to as leakVerDate Nov 24 2008 13:40 Nov 10, 2009 Jkt 000000 PO 00000 Frm 00010 Fmt 6604 Sfmt 6604 H:\DOCS\53067.TXT SAG PsN: JOYCE
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6The Internal Revenue Code, as amended, exempts certain early distributions from the penalty if the distributions are made to a beneficiary or estate on or after death; made on account 

of total and permanent disability; made as part of a series of substantially equal periodic payments over the life expectancy of the owner or life expectancies of the owner and the beneficiary; 

equal to or less than deductible medical expenses (7.5 percent of adjusted gross income); made 

due to an IRS levy of the plan; made to individuals called to active duty after September 11, 

2001, and before December 31, 2007; made to a participant after separated from service with 

an employer in or after the year that he or she reaches age 55; made to an alternate payee 

under a qualified domestic relations order; dividends from employee stock ownership plans; or 

made to an individual whose main home was located in a designated hurricane disaster area 

and who sustained an economic loss by reason of the hurricane. Additionally, some plan sponsors offer Roth 401(k) plans that allow plan participants to make elective after-tax contributions 

through payroll deduction. 403(b) plans are similar to 401(k) plans, in that they typically permit 

both sponsors and participants to make pre-tax contributions, but are designed for public education entities and tax-exempt organizations that operate under I.R.C. § 501(c)(3). Participants 

in these plans are generally limited to investing in annuity contracts issued by insurance companies and custodial accounts invested in mututal funds. 

age—can affect a participants ultimate preparedness for retirement, especially when the funds are removed and not replaced. 

The economic downturn has shed light on concerns affecting the 

retirement system in the United States. This report highlights 

issues specifically related to the composition and use of target date 

retirement funds. The following information presented in this report is based on an Aging Committee investigation, government reports, literature reviews, interviews with financial experts and government officials, and industry analyses. As part of this review, the 

Aging Committee also collected and reviewed information on 

EBSA’s enforcement practices to determine the extent to which 

EBSA focuses on target date funds’ composition and transparency. 

The Aging Committee also reviewed information highlighting the 

Securities and Exchange Commission compliance and enforcement 

efforts related to target date funds. 

Background 

Private-sector pension plans are generally classified either as defined benefit or as defined contribution plans. Defined benefit plans 

generally offer a fixed level of monthly retirement income based 

upon a participant’s salary, years of service, and age at retirement, 

regardless of how the plan’s investments perform. In contrast, defined contribution plans, such as 401(k) plans, benefit levels depend on the contributions made to the plan and the performance 

of the investments in individual accounts, which may fluctuate in 

value. Named after section 401(k) of the Internal Revenue Code, 

traditional 401(k) plans allow workers to save for retirement by diverting a portion of their pretax income into an investment account 

that can grow tax-free and be withdrawn without penalty after age 

591⁄2.6

Employers and employees may make pretax contributions, up to 

certain limits, to individual participant accounts. In 2009, participants may contribute up to $16,500 per year. The 401(k) account 

balance is a function of both the contributions made to the accounts 

over a career as well as the investment performance of the account. 

About one-half of all U.S. workers participate in some form of employer-sponsored retirement plan. Participation in 401(k) plans 

rose steadily from fewer than 8 million participants in the mid1980s to over 70 million participants in 2006—the most recent year 

for which data were available. The assets in 401(k) plans also increased significantly over the same time period, from less than 

8 

7For 2006 estimates, see Investment Company Institute, ‘‘The U.S. Retirement Market, 2007,’’ 

Research Fundamentals, vol. 17, no. 3 (2008). 8Department of Labor and the U.S. Securities and Exchange Commission. Memorandum of 

Understanding Concerning Cooperation between the U.S. Securities and Exchange Commission 

and the U.S. Department of Labor, July 29, 2008. 9 29 CFR Part 2550; RIN 1210–AB10; Default Investment Alternatives under Participant Directed Individual Account Plans, Federal Register / Vol. 73, No. 84 / Wednesday, April 30, 2008. 

The final regulation provides for four types of QDIAs: 1) a product with a mix of investments 

that takes into account the individual’s age or retirement date (an example of such a product 

could be a lifecycle or targeted-retirement-date fund); 2) an investment service that allocates 

contributions among existing plan options to provide an asset mix that takes into account the 

individual’s age or retirement date (an example of such a service could be a professionally-managed account); 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 (an example of such a product 

could be a balanced fund); and 4) a capital preservation product for only the first 120 days of 

participation (an option for plan sponsors wishing to simplify administration if workers opt-out 

of participation before incurring an additional tax). A QDIA generally may not invest participant 

contributions in employer securities. 

$100 billion to over $3 trillion.7 Current law limits participant access to their retirement savings in their employer-sponsored retirement plans so that the favorable tax treatment for retirement savings is limited to savings that are, in fact, used to provide retirement income. Only under certain circumstances do federal regulations allow 401(k) plan sponsors to provide participants with access 

to their tax-deferred retirement savings before retirement. 

The Internal Revenue Service (IRS), within the Department of 

the Treasury, and EBSA are primarily responsible for enforcing 

laws that govern defined contribution plans. IRS interprets and enforces provisions of the Internal Revenue Code that apply to taxqualified pension plans. EBSA enforces the Employee Retirement 

Income Security Act of 1974’s (ERISA) reporting and disclosure 

provisions and fiduciary responsibility which, among other things, 

concern the type and extent of information provided to plan participants. In addition, the SEC is responsible under federal securities 

laws for regulating and examining entities registered with SEC, 

such as investment advisors, managers, and investment companies 

that often provide services to pension plans. While the SEC does 

not draw authority from ERISA, the SEC coordinates with EBSA 

for consultation and exchange of information as directed by a 

Memorandum of Understanding signed in July 2008.8

Pension Protection Act of 2006 Encourages Automatic Enrollment 

Policies 

To encourage retirement savings, Congress enacted the Pension 

Protection Act of 2006 (PPA), which, in part, removed impediments 

to employers adopting automatic enrollment policies, including exemptions from legal liability for market fluctuations. In encouraging employers to adopt automatic enrollment, PPA directed the 

Department of Labor to assist employers in selecting ‘‘default investments’’ that best serve the retirement needs of workers who do 

not direct their own investments. 

DOL’s final regulation provided safe harbor relief from fiduciary 

liability for investment outcomes if employers met certain criteria, 

one of which being that assets must be invested in a ‘‘qualified default investment alternative’’ (QDIA) as defined in the regulation.9

However, it does not identify specific investment products. Rather, 

the regulation describes mechanisms for investing participant contributions. DOL noted that the intent is to ensure that an investVerDate Nov 24 2008 13:40 Nov 10, 2009 Jkt 000000 PO 00000 Frm 00012 Fmt 6604 Sfmt 6604 H:\DOCS\53067.TXT SAG PsN: JOYCE
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10 Automatic enrollment is a practice where an employer enrolls eligible employees in a plan 

and begins participant deferrals without requiring the employees to submit a salary deferral request. 11GAO, RETIREMENT SAVINGS: Automatic Enrollment Shows Promise for Some Workers, 

but Proposals to Broaden Retirement Savings for Other Workers Could Face Challenges, GAO– 

10–31. (Washington, D.C.: October 2009). 

ment qualifying as a QDIA is appropriate as a single investment 

capable of meeting a worker’s long-term retirement savings needs. 

The regulation also states that a QDIA must be managed by either 

an investment manager, plan trustee, plan sponsor or a committee 

comprised primarily of employees of the plan sponsor that is a 

named fiduciary, or be an investment company registered under 

the Investment Company Act of 1940. 

One of the product mechanisms DOL elected as a QDIA was the 

target date fund—also referred to as lifecycle funds—a type of mutual fund that automatically rebalances its asset allocation following a predetermined pattern over time to a more conservative 

asset allocation as the participant’s target date for retirement approaches. As the participant nears retirement age, the investment 

allocation is shifted away from higher-risk investments, such as 

stocks, and moved toward lower-risk investments, such as bonds 

and cash equivalents. The asset allocation path that changes over 

time is known as the glide path, which is based on the number of 

years to and beyond the target date. A target date fund is a 

lifecycle fund designed to achieve a particular (generally conservative) mix of assets at a specific date in the future, which is usually 

the year when the participant expects to retire. These funds are 

named accordingly (e.g. 2010 Target date Fund). 

Automatic Enrollment Has Grown Considerably With Plans Overwhelmingly Adopting Target date Funds as Default Investment 

According to the U.S. Government Accountability Office (GAO), 

defined contribution plan sponsors are increasingly adopting automatic enrollment policy plans (in which workers ‘‘opt-out’’ of plan 

participation rather than ‘‘opt-in’’) to encourage their employees to 

save for retirement.10 Available data indicate that plans with automatic enrollment policies are overwhelmingly adopting target date 

funds as their default investment. For example, 87 percent of Vanguard group plans with automatic enrollment had target date 

funds as a default investment at the end of 2008, compared to 42 

percent in 2005.11 (See table 1.) 

10 


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11 

12 Both money market and stable value funds were often used as default investment before 

PPA because employers were concerned about legal liability investments they had chosen declined in value as a result of market fluctuations. As a as result, they invested workers’ contribution in such low risk, low-return default investments. 13 Craig Copeland, Use of Target date Funds in 401(k) Plans, 2007, Issue Brief 327, Employee 

Benefit Research Institute, (Washington, D.C.: March 2009). EBRI’s analysis was based on information maintained by the Employee Research Institute/Investment Company Institute database. 14 Jack VanDerhei, EBRI; Sarah Holden, ICI; and Luis Alonso, EBRI; 401(k) Plans Asset Allocation, Account Balances, and Loan Activity in 2008, Issue Brief No. 335, Employee Benefit Research Institute, (Washington, D.C.: October 2009). 15 EBRI, Issue Brief 327. 16Morningstar, Inc. Target date Series Research Paper: 2009 Industry Survey. September 9, 

2009. 

Conversely, the use of balanced funds, money market funds, and 

stable value funds default investments have declined significantly.12 GAO stated that this trend toward target date funds as 

a default investment vehicle is corroborated by data from Fidelity 

investments, which showed that, as of March 2009, 96 percent of 

plans with an automatic enrollment policy used target date funds, 

up from 57 percent at the end of 2005. 

In addition, the Employee Benefit Research Institute (EBRI) reported in March 2009 that workers who were considered to be automatically enrolled in a 401(k) plan were more likely to invest all 

their assets in a target date fund. The study indicated that except 

for participants in the largest plans (more than 10,000 participants), more than 90 percent of those automatically enrolled into 

target date funds had all of their allocation in target date funds.13

Most recently, EBRI reported that for year-end 2008, nearly seven 

percent of 401(k) assets in plans they reviewed were invested in 

lifecycle funds.14 Moreover, EBRI reported that almost 44 percent 

of participants under age 30 had assets in a target date fund.15

The research firm Morningstar, Inc. also noted in September 

2009 that the popularity of target date funds remained relatively 

unaffected by the recent economic downturn. They suggest that 

cash flows were on track to set a record, accumulating at an 

annualized rate of $60 billion over the first seven months of the 

year. In total, more than $140 billion in net monies have entered 

into the target date funds since the start of 2007, according to the 

firm.16

Although Popular Investment Tools, Design and Transparency of 

Target date Funds Raise Concerns 

Although target date funds have proved popular with participants and have won the approval of many investment professionals, the losses suffered by target date funds during the economic downturn raised concerns about the design and transparency 

of these funds. In early 2009, the Aging Committee conducted an 

investigation of these funds, which revealed that the date in the 

name of the target date fund was not consistent with the design 

of the fund, making these funds difficult for investors to evaluate 

and compare. In fact, the Aging Committee found that allocation of 

assets among stocks, bonds, cash-equivalents varies greatly among 

target date funds with the same target retirement date, with firms’ 

2010 target date funds’ equity holdings ranging anywhere from 24 

to 68 percent. (The Aging Committee’s review of select, large 2010 

target date funds found that many funds had equities exposure at 

or well over 50 percent.) Since that time, a study by the investment 

12 

17Morningstar, Inc. Target date Series Research Paper: 2009 Industry Survey. September 9, 

2009. 18 CRS, R40707. 19 According to Dow Jones over the life of each target index the relative risk of the index will 

range from a more aggressive portfolio that incurs approximately 90 percent of the risk of the 

composite stock market index (Stock CMAC) in the beginning to a conservative portfolio that 

incurs approximately 20 percent of the risk of the stock CMAC 10 years after the index reaches 

its ‘‘target date’’. The Dow Jones ‘‘Today’’ Index aims to hold risk constant at 20 percent of the 

risk of the stock CMAC and is a benchmark for a conservative, balanced portfolio an investor 

might hold 10 years after reaching retirement. 20Patrick Purcell and John Topoleski, 401(k) Plans and Retirement Savings: Issues for Congress, R40707, Congressional Research Service, July 14, 2009. 21Market risk is the risk of adverse market movements. Longevity risk is the risk of outliving 

one’s savings. Inflation risk is the risk that inflation can eat away at the purchasing power of 

accumulated savings possibly very rapidly. 

research firm, Morningstar, Inc., corroborated the Aging Committee’s findings, noting that among target date 2010 funds, stock allocations ranged from 26 percent of assets to 72 percent of assets.17

As a comparison, in January, 2009, the Thrift Savings Plan’s 

‘‘L2010 Fund’’ for federal employees who plan to retire in 2010 held 

70 percent of its assets in bonds and 30 percent in stocks.18 Similarly, the Dow Jones Target Date Indexes propose that a fund’s 

asset class allocation should have an equities exposure of approximately 28 percent at the target date.19 In December 2008, the average 2010 fund had more than 45 percent of its assets invested 

in stocks.20

Fund performance also varied greatly during the bear market of 

2008. The S&P Target date 2010 Index Fund, a benchmark of fund 

performance, fell 17 percent in 2008. The fund holds 60 percent of 

its assets in bonds and other fixed-income securities and 40 percent 

in equities. The Deutsche Bank DWS Target 2010 Fund fell just 4 

percent in 2008, whereas Oppenheimer’s Transition 2010 fund fell 

41 percent. For the federal Thrift Savings Plans, shares of the 

‘‘L2010 Fund’’ fell 10.5 percent in 2008. 

Because of the losses resulting from the financial downturn, industry experts have raised concerns about investors’ understating 

of the construction of the glide path and its effect on the funds 

asset allocation. There are varying opinions on whether a target 

date fund is designed to terminate at the time of retirement or is 

intended to account for a participant’s post-retirement needs. Documentation provided to the Aging Committee by select firms indicated that many of these funds were designed to take into account 

and mitigate (1) market risk, (2) longevity risk, and (3) inflation 

risk.21 Many of the firms’ materials suggested that these funds 

were not intended for a participant to cash out their retirement 

savings at the projected retirement date. Instead, the funds were 

designed to provide income for the years during retirement as well. 

However, it is unclear whether participants were aware of this 

plan design. 

While there are valid arguments to support different approaches 

to constructing a glide path, individuals’ behavior at retirement 

may minimize certain financial risks. According to recent research, 

it is common for an individual to take a lump-sum distribution of 

their assets at the time of retirement. For example, a study by the 

Vanguard Center for Retirement Research estimated in that 2008 

about half of retired households between the ages of 55 to 75 

tapped into their long-term accounts, typically as a large, one-time 

13 

22Gary R. Mottola and Stephen P. Utkus, Vanguard Center for Retirement Research, Spending the Nest Egg: Retirement Income decisions among older investors, Volume 35, October 2008. 

The results in this report are based on a national online panel survey of older Americans, age 

55–75, with $50,000 or more of accumulated financial assets. A total of 1,478 respondents participated in the survey, which was conducted in May 2008. 23 Investment Company Institute. 2009 Investment Company Fact Book: A Review of Trends 

and Activity in the Investment Company Industry, 49th Edition, 2009. 24 Expense ratios are fees and expenses incurred by mutual fund investors, such as the management fee (the amount the fund’s investment adviser charges for managing the fund), the 

fund’s other operating expenses (such as fund accounting or mailing expenses). 25 A basis point is a unit that is equal to 1/100th of 1 percent, and is used to denote the 

change in a financial instrument. For example, 1 percent change = 100 basis points, and 0.01 

percent = 1 basis point. The basis point is commonly used for calculating changes in interest 

rates, equity indexes and the yield of a fixed-income security. 26Morningstar, Inc. Target date Series Research Paper: 2009 Industry Survey. September 9, 

2009. 

withdrawal generally to address living expenses. Only two out of 

ten households spent down their accounts on some type of systematic or regular income payment program.22 Moreover, a survey conducted by Investment Company Institute found that 54 percent of 

respondents took some or all of their balance as a lump-sum distribution, and of those respondents, 86 percent rolled over some or 

all of the balance to an Individual Retirement Account or otherwise 

reinvested the assets. The remaining 14 percent spent all the proceeds of the distribution.23 Because many participants take such 

withdrawals, the need for a more aggressive asset allocation to 

manage for risks like longevity may be minimized, because participants’ often do not maintain their assets in their target date fund 

throughout their retirement. Therefore, participants—especially 

those who are less sophisticated and defaulted into these funds— 

may lock in large losses such as those experienced in 2008. 

In addition to potential design weaknesses and participant misunderstandings, the fees associated with target date funds—as well 

as all 401(k) plans—can have a significant impact on the amount 

of income saved for retirement. For example, a 1-percentage point 

difference in fees can signicantly reduce the amount of money 

saved for retirement. Assume an employee of 45 years of age with 

20 years until retirement changes employers and leaves $20,000 in 

a 401(k) account until retirement. If the average annual net return 

is 6.5 percent—a 7 percent investment return minus a 0.5 percent 

charge for fees—the $20,000 will grow to about $70,500 at retirement. However, if fees are instead 1.5 percent annually, the average net return is reduced to 5.5 percent, and the $20,000 will grow 

to only about $58,400. The additional 1 percent annual charge for 

fees would reduce the account balance at retirement by about 17 

percent. 

According to a September 2009 report by Morningstar, Inc., the 

average expense ratios vary widely,24 ranging from 0.19 percent to 

1.82 percent, a difference of 163 basis points.25 (See table 2.) The 

research firm noted that more than half the target date fund industry has annual expense ratios exceeding 1 percent.26 However, 

Morningstar indicated that target date fund expense ratios will 

more than likely decline in the coming years, in part, due to the 

wide price gap between funds. 

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27 BrightScope, Inc. is an independent provider of 401(k) ratings and financial intelligence to 

plan sponsors, advisors, and participants in all 50 states. BrightScope’s data is based on investment menus for 6,978 small plans, 4,201 mid-sized plans and 1,667 large plans. 

BrightScope, Inc. also found that target date funds have higher 

expense ratios than the rest of the core portfolio in 401(k) plans. 

Their data assessment suggest that target date funds have internal 

fees that are between 10 to 25 percent more expensive than other 

funds on the core menu, which they suggest may be partially explained by management overlay fees—management fees layered on 

top of the underlying funds’ expense ratio.27 (See fig. 1.) 

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28 401(k) Fair Disclosure and Pension Security Act of 2009, Mr. George Miller of California, 

from the Committee on Education and Labor, U.S. House of Representatives, Report together 

with Minority Views [To accompany H.R. 2989] Report 111–244, Part 1. July 31, 2009. 29 In an effort to increase fee transparency, Sens. Tom Harkin (D–IA) and Herb Kohl (D–WI) 

in the 11th Congress, introduced S. 401, the Defined Contribution Fee Disclosure Act, to amend 

ERISA to require the disclosure of fees to both plan sponsors and participants. In addition, Rep. 

George Miller (D–CA, 7th Congressional District) introduced H.R. 1984, the 401(k) Fair Disclosure for Retirement Security Act. 

In addition to varying expense ratios within target date funds, 

pension plan service providers or the various outside companies 

may also charge fees which are deducted from an individual’s savings. These fees for services are either ‘‘bundled’’ or ‘‘unbundled.’’ 

Bundled providers are typically large financial services companies 

whose primary business is selling investments. They bundle their 

proprietary investment products with affiliate-provided plan services into a package that is sold to plan sponsors. In contrast, 

unbundled or independent providers are primarily in the business 

of offering administrative services with a ‘‘universe’’ of unaffiliated, 

non-proprietary investment options. Bundled providers disclose the 

cost of the investments to the plan sponsor, but do not disaggregate 

the costs of the administrative services, whereas unbundled providers disclose both since the costs are paid to different providers. 

According to a House Committee on Education and Labor report, 

many participants do not have a clear understanding of fees and 

expenses charged by service providers.28 In fact, some of the fees 

are not even known to the plan sponsor because they are directly 

paid by service providers.29

While target date funds that are mutual funds include several 

layers of investor safeguards—such as regulatory and disclosure requirements under the federal securities laws—mutual fund companies that offer target date funds are not subject to the fiduciary requirements of ERISA. Rather, a plan’s fiduciary—usually the employer who sponsors the plan—selects and monitors target date 

funds for use in the plan’s investment lineup. However, plans sponsors generally do not have a choice in selecting the underlying 

funds, and instead must choose from a portfolio of propriety funds 

typically constructed by the firm. In fact, nearly 92 percent of companies offering target date funds used a packaged product, according to a survey from the Profit Sharing/401(k) Council of America. 

As a result, some investment firms may include low performing 

funds in their portfolio in an effort to garner more assets. 

Under ERISA, mutual fund companies are generally not subject 

to fiduciary rules since mutual funds are regulated by the Investment Company Act of 1940. However, in March 2009, Avatar Associates, an investment manager, suggested in a letter to the Department of Labor that mutual funds that offer a target date fund 

should be subject to ERISA. In its request for an advisory opinion, 

Avatar argued that ERISA never expressly addressed whether mutual fund companies that use proprietary funds to create target 

date funds and other fund-to-funds accounts should be exempt from 

ERISA’s fiduciary obligation. Moreover, Avatar suggested that 

there is an embedded conflict of interest when mutual funds include their own proprietary funds in their target date funds, noting 

18 

30Self-dealing is a form of conflict of interest that involves the conduct of a trustee, an attorney, or other fiduciary that takes advantage of his or her position in a transaction and acting 

for his or her own interests rather than for the interests of the beneficiaries of the trust or the 

interests of his or her clients. 31 U.S. Senate Special Committee on Aging. See http://aging.senate.gov/letters/ 

targetdatedol.pdf and http://aging.senate.gov/letters/targetdatesec.pdf. 

concerns of self-dealing.30 At the time of this writing, DOL was reviewing the merits of Avatar’s request. 

Agencies Taking Steps to Evaluate Target date Fund Concerns 

On the basis of the Aging Committee’s findings, Chairman Kohl 

requested that Secretary of Labor Hilda Solis and Chairwoman 

Mary Schapiro of the Securities and Exchange Commission direct 

their agencies to take action to review the design, composition, and 

disclosures associated with target date funds.31 In response to the 

Aging Committee’s concerns, EBSA and SEC held a joint hearing 

on June 18, 2009, to hear testimony on the investment of 401(k) 

and other retirement plans in target date type plans to determine 

the need for additional guidance. Witnesses at the hearing addressed how target date fund managers determine asset allocations 

and changes to asset allocation; how they select and monitor underlying investments; the extent to which the related risks are disclosed to investors and the adequacy of that disclosure; and the approaches or factors to compare and evaluate target date funds. 

Prior to the June 2009 hearing, the ERISA Advisory Council 

studied the issues related to target date funds and concluded that 

the Department of Labor should provide more specific guidance as 

to the complex nature of target date funds and the methodology 

necessary for plan fiduciaries who are responsible for selecting and 

monitoring these funds as a prudent investment alternative in a 

defined contribution plan. The Council also recommended that DOL 

should develop participant education materials and illustrations to 

enhance awareness of the value and the risks associated with these 

funds. 

At the time of this writing, EBSA and SEC were continuing to 

coordinate and evaluate what steps should be taken to address the 

differences and risks associated with target date funds, specifically 

for those funds used as default options and directed at a less financially sophisticated participant. 

Conclusion 

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 that 

might not otherwise have participated, and will be defaulted into 

target date retirement funds. Despite the potential for increasing 

savings, several of the concerns with target date funds mentioned 

in this report—including plan design and transparency—have led 

plan sponsors and participants to misunderstand these products, 

and in some cases suffer large losses. Moreover, it is vital that action be taken to ensure that the fees associated with certain target 

date funds are disclosed, as well as steps to clarify the fiduciary reVerDate Nov 24 2008 13:40 Nov 10, 2009 Jkt 000000 PO 00000 Frm 00022 Fmt 6604 Sfmt 6604 H:\DOCS\53067.TXT SAG PsN: JOYCE
19 

sponsibility of not only plan sponsors, but also those companies 

that construct these funds. 

As the Aging Committee explores ways to strengthen target date 

funds, additional questions should be explored to determine the 

merits of qualified default investment alternatives. Therefore, in 

August 2009, Chairman Kohl requested that the GAO review the 

appropriateness of the funds classified as QDIAs, including target 

date funds and suggest measures to increase transparency. 

The Aging Committee anticipates GAO will release a report addressing these questions in the fall of 2010. 

(20) 

ACKNOWLEDGMENTS 

The Aging Committee would like to thank the following individuals for their research and technical assistance: 

Ryan Alfred, BrightScope, Inc. 

Mike Alfred, BrightScope, Inc. 

Michael Hartnett, Senior Analyst, U.S. Government Accountability Office 

David Lehrer, Assistant Director, U.S. Government Accountability Office 

Jonathan McMurray, Senior Analyst, U.S. Government Accountability Office 

Patrick Purcell, Specialist in Income Security, Congressional Research Service 

John Rekenthaler, Vice President of Research, Morningstar, Inc. 

Dallas Salisbury, Chief Executive Officer, Employee Benefit Retirement Institute 

John J. Topoleski, Analyst in Income Security, Congressional Research Service 

Æ