When corporate America started embracing 401(k) retirement savings plans some five decades ago, the product was deeply flawed, for a variety of reasons.
Among them: Employees had to choose to join and decide how much money to put into the plan (within legal limits). The need to create an investment portfolio overwhelmed many employees, and high fees eroded the returns workers earned off their savings.
At the 2013 Employee Benefit Research Institute’s annual policy forum in Washington, D.C., Larry Zimpleman, then chairman of the Principal Financial Group, called for the industry to improve 401(k)s.
“We know what plan design works,” he said. “We know what plan design doesn’t.”
Message heard. And thanks to a combination of bipartisan legislation, employer demands and finance industry actions, 401(k)s improved.
A major theme on the road to improvement is the embrace of automatic solutions that tap into the insights of modern finance theory and behavioral finance, a potent combination. That’s one takeaway from Vanguard’s “How America Saves 2025,” the 24th in a series of reports that analyze the savings behavior of nearly 5 million Vanguard participants.
For example, more employers automatically enroll employees in their retirement plans. Employees can always opt out, but relatively few do. In the Vanguard database, plans with automatic enrollment had a 94% participation rate compared to 64% for those relying on voluntary enrollment. Retirement savings rates are up, and among the factors behind the gains are plans that automatically increase how much workers save.
The rise of target-date funds has relieved workers of the task of creating and managing portfolios. The only decision is guesstimating the year of retirement. Target-date funds are well diversified with a portfolio that periodically rebalances and becomes more conservative with age. In the Vanguard data, 84% of all participants use target-date funds, and 71% of target-date investors had their entire account invested in a single target-date fund.
