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Study: Retirement Plans Perform Poorly
By Christine Hall

While 401(k) style retirement plans are one of the best and most common ways Americans save for retirement, a new study finds that many workers are not doing as well as they could.

"If changes are not made, many workers will experience a major fall in their standard of living during their retirement years," said John C. Goodman president of the National Center for Policy Analysis (NCPA), the Dallas-based think tank sponsoring the study.

The main problem, the study finds, is that because many workers don't understand investing, they choose to invest their 401(k) retirement contributions in money market funds the safest but least profitable choice in an investment portfolio over the long run. Also, the account's administrative and management fees paid by workers are too high, according to the study.

"Even those people who offer to invest your money are doing a terrible job of investing their own," said Brooks Hamilton, the study's co-author. Of five major financial service firms, none came close to matching the performance of either the stock market or a typical index of 60 percent stocks and 40 percent bonds. The study looked at the years 1994 to 1998.

To remedy the problem, Hamilton, a benefits consultant and co-author Scott Burns, a financial columnist, recommend several changes to the laws regulating 401(k)s:

Give workers the choice to invest in index funds or in portfolios managed by investment professionals.

Force employers to automatically enroll all employees in company retirement plans.

Force employers to pay and disclose all plan fees and expenses, giving employees the opportunity to opt-out.

Make vesting 100 percent and immediate.

Force employees to make minimum contributions.

Prohibit employees from getting loans or hardship distributions from their retirement account.

However, those ideas are not embraced by all pension analysts.

"There are some things that are a good idea in the long run, but may end up discouraging people from participating," said David John, senior policy analyst for the Heritage Foundation.

John believes some employers, particularly small businesses, would respond to a costly fee-paying mandate by canceling their retirement savings plans.

Low income or young workers would also have less of an incentive to start saving if they were forced to save a minimum amount or were prohibited from cashing out, John predicts.

"While it is important for employees to save an adequate amount saving something is better than saving nothing," said John.

"If you are 23 [years old], and you're told, 'you must contribute four to six percent of your income and no matter what, you can't touch it, but we might give you a hardship loan under certain circumstances,' that's not a good incentive to start [saving]," John explained. "We should make it easier to get started, not harder."

William Gale, a Brookings Institution Scholar, was equally skeptical of the NCPA proposals.

"It might be that what we're seeing here is the bizarre politics of Social Security reading between the lines," said Gale. "Immediate vesting and required contributions sound like privatized Social Security" plans. "The proposal has a lot in common with proposals that have been made before to expand coverage," Gale explained.

"Pension policy is racked with trade offs," Gale lamented. "The whole notion of required contributions is that people are not doing the right thing, not saving enough on their own," he said. "We oscillate between [emphasizing] the need to save for retirement and [getting] government out of the way [to] let people make their own decisions.

"It's not really clear that the best public policy is that you can't touch the money until you're 65," said Gale. "What about a 45-year-old who loses his job and is about to default on a mortgage payment?" Gale asked. "It's hard for me to say that they can't do [that]. There are real trade offs at that point."

While Both John and Gale believe more people should talk to a qualified professional regarding their options in setting up a retirement plan, they suggest the government should do more to educate people about the importance of financial planning. They also believe they loosening the restrictions on how and when these funds may be used is the best way to encourage people to invest more into their retirement plan.


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2002 New Jersey Small Business Journal