How Would Forced Retirement Saving Plans Work?

The gap in retirement savings between the average worker’s nest egg and the amount that will be needed in retirement has been the source of considerable debate and concern in the financial arena for decades. One of the ideas to fix this that is now being implemented by many employers is the automatic enrollment of employees in a qualified retirement plan.

But some argue that even this is not enough, and that retirement savings should become mandatory for all employees nationwide. But what impact would this measure ultimately have? There are no definite answers, but most everyone agrees that something needs to be done to help jumpstart the savings rate of young professionals today who are facing mountains of college debt, low entry level paychecks and a retirement that may not even have Social Security benefits. On top of that, there are nearly 70 million workers in America who do not have access to any type of employer-sponsored retirement plan.

Here are some proposed ways to fix the mounting retirement planning problem. (For related reading, see: Retirement Savings: How Much Is Enough?)

The idea of an additional mandatory retirement savings plan has been bandied about by politicians and economists for years. One of the latest proposals comes from Teresa Ghilarducci, an economics professor at the New School for Social Research and director of the Schwartz Center for Economic Policy Analysis, and Hamilton “Tony” James, the president of Blackstone Group, which is one of the largest private equity companies in the market.

Their idea would supplant the current use of 401(k) plans with a government-run savings system known as the Retirement Savings Plan. This plan would feature portable accounts for all individuals who work either part or full-time. All workers would be required to make a minimum contribution of 1.5% of their pay into these accounts, and employers would be required to make matching contributions of the same amount. The money in these accounts would be used to purchase an annuity at retirement that would pay a guaranteed income stream to the worker on top of Social Security.

The contributions would be placed into a pooled fund that is invested and administered by the money manager of their choice. Employees would receive a revenue-neutral nonrefundable tax credit of up to $600 for their mandatory contributions, which would effectively cover the cost of these contributions for lower-class families. The money to pay for this credit would be generated by a phaseout of the tax-deferred status of 401(k) plan contributions by other taxpayers. The cost of the plan for employers would be covered by their release from having to make matching contributions or administrate any other type of retirement plan. The annuity payments at retirement would be made by the Social Security Administration and would be based upon a minimum account value equal to all contributions made with 2% growth in case the actual pooled portfolio underperforms this level. (For related reading, see: Protect Retirement Money from Market Volatility.)

Critics of this plan have charged that it essentially takes more retirement savings incentives out of the hands of private enterprise and puts them into another governmental system that will be wasteful and inefficient. The plan would effectively layer another federally sponsored plan on top of Social Security at the expense of our current system of voluntary savings plans. But Ghilarducci and James argue that that’s exactly what is needed. Ghilarducci has been a severe critic of 401(k) plans for years, and James is hopeful that their proposal will at least start a dialog.

Senator Jeff Merkley (D-Ore.) introduced a separate proposal to Congress in 2016 titled The American Savings Act. This would provide workers who don’t have access to a retirement plan through their employers with a portable account that would siphon off at least 3% of their earnings. Contributions could be made on either a pretax or Roth basis. Employees could contribute up to $18,000 into the plan if they choose, and the investment choices would probably mirror those found in the Thrift Savings Plan, the retirement plan for government workers. If this system is implemented according to the present proposal, it would eliminate the need for employers to pay and sponsor their own retirement plans. (For related reading, see: Retirement Planning: Introduction.)

President Obama has also stepped into this arena with the MyRA, which allows employers to offer low-income workers the chance to save for retirement using government-guaranteed accounts that can be transferred from one employer to another. These accounts have yet to be used widely, and time will tell how popular they become.

Although everyone pretty much agrees that the retirement savings arena in America needs a complete overhaul, there is much debate on how it should be fixed. Democrats tend to favor more governmental solutions to this problem while Republicans feel that this is a job for the private sector. How it plays out is anyone's guess right now. (For related reading, see: myRA: How It Will Work, Pros and Cons.)