When is the last time you and your governance group took a fresh look at your employee benefit plan? If it was more than a year ago—or worse, if you can’t really remember—then now is a good time to re-evaluate your plan design in light of changes in your employee base and broad shifts in workforce dynamics.
Two trends to keep an especially close eye on are the growing number of younger employees entering the workforce and the shortening average employee tenures. These trends are forcing some plan sponsors to change key components of plan design so their plans better serve participants’ needs.
Work Tenures are Shortening
The days of employees working for one or two employers for their entire career are a thing of the past. According to the Bureau of Labor Statistics (BLS), the average employee tenure has fallen to just 4.2 years.
However, 401(k) vesting schedules to receive employer matches generally haven’t been adjusted to reflect these shorter average tenures. As a result, many short-tenured employees are missing out on receiving the full value of their employers’ 401(k) matches.
In fact, shorter tenures correlate to a potential decline in retirement readiness, according to a report recently released by the Employee Benefits Research Institute (EBRI). This is because shorter tenures may reduce the percentage of employees who are eligible for or contributing to a retirement plan.
Also, short-tenured employees who don’t receive the full employer match become disenchanted with retirement saving. This can discourage them from participating in or maxing out contributions to a retirement plan when they join a new employer.
Re-examine Vesting Schedules
One solution to this problem is to change your plan’s vesting schedule so that short-tenured employees receive more of their promised employer match when they leave your company.
For example, many employers use a six-year graded vesting schedule in which employees gradually work their way up to 100 percent vesting over a six-year period. Using this schedule, an employee who leaves after three years would only be vested at 40 percent. If the total amount of the employer match at departure is $1,000, the employee could only take $400.
With a three-year cliff vesting schedule, employees are zero percent vested until they have worked for an employer for three years, at which time they become 100 percent vested. Using this vesting schedule, the same employee would be able to take the entire $1,000 match when leaving the company.
Some companies are eliminating vesting schedules altogether and making employees 100 percent vested in employer matches immediately. According to a survey recently conducted by the Plan Sponsor Council of America, more than one-third of plan sponsors offer immediate vesting of employers’ 401(k) matching contributions.
Consider the Safe Harbor Option
Another option is to adopt a safe harbor 401(k) plan. With this plan design, you are required to contribute a minimum amount to participants’ accounts, and participants are fully vested in these matching contributions immediately.
Of course, there’s a cost to relaxing vesting schedules. When employees forfeit unvested funds, employers can use this money to help reduce plan costs or even increase matching contributions to employees who remain. Also, many businesses view vesting schedules as an employee retention tool, because some employees will remain with their employer long enough to be fully vested.
But some retirement experts question whether vesting schedules actually lower employee turnover. They point out that many employees (especially younger millennials) are going to jump ship to another job if it offers higher pay, more advancement opportunities, or a better work environment—even if this means forfeiting some of their employer match.
Re-examine Waiting Periods
Another aspect of plan design to re-examine is the length of the waiting period for new employees to become eligible to participate in your retirement plan. Traditionally, many sponsors required employees to wait for up to six months or one year until they were eligible.
Some employers are eliminating waiting periods in an effort to attract the best and brightest employees in a tight labor market. A key factor here is the stability of your workforce.
If you employ a large number of low-level, minimum-wage workers who don’t tend to stick around for very long—such as is common at many restaurants and retail stores—you might be better off retaining a waiting period for eligibility. Otherwise, you could end up with a lot of small-balance retirement accounts left behind by former employees.
Look at Auto-Enrollment and Auto-Escalation
Auto-enrollment and auto-escalation are two more aspects of plan design that you should re-examine. Participation levels in plans that automatically enroll new employees and then force them to opt out of they don’t want to participate are significantly higher than plans that don’t feature auto-enrollment.
You can take auto-enrollment a step further by adding auto-escalation to your plan design. With this feature, the percentage of pay that participants contribute to their retirement account is automatically increased each year—usually by one percentage point up to a maximum deferral rate of 10 percent. Research has indicated that employees are less likely to increase their deferral amounts if they’re auto-enrolled in a plan, so adding both auto-enrollment and auto-escalation to your plan design could be smart.
According to the Defined Contribution Institutional Investment Association (DCIIA), almost one-third of employees participating in plans with auto-escalation contribute more than 10 percent of pay to their retirement plan. However, just one-fifth of employees participating in plans without auto-escalation contribute this much.
Make Your Plan More Attractive
Plan to meet soon with your governance group and third-party administrator to re-evaluate your employee benefit plan to determine whether you should make changes to the plan design. Doing so could make your plan (and your business) more attractive to potential job candidates and more beneficial to existing employees.
