Do you understand the dangers in 401(k) plan auto-enrollment? Since permitted by the Pension Protection Act of 2006, most employers now auto-enroll new participants into their 401(k) plans. This process has produced some great results. The overall participation rate in 401(k)s has increased from about 50% to about 85%. About 90% of auto-enrolled participants stay in the plan and continue saving for retirement. However, there are two dangers to be aware of.
1. The most common auto-enrollment level is 3% of pay. This amount is too low to provide a great retirement outcome, but it can create a false sense of security. You must save more.
2. Some plans also include auto-increases, moving you up to 6% of pay over a few years. According to the Bureau of Labor Statistics, the median job tenure in the U.S. is 4.3 years for men and 4.0 years for women. We may hold up to 12 jobs in our working lifetimes. Auto-increases help, and a 6% savings rate is better than 3%. Do you drop back to a 3% rate with every job change?
Your employer designs their 401(k) plan to encourage you to save enough, but you are responsible for the outcome. Auto enrollment and auto-investing in a target date fund are useful tools, but you cannot delegate your responsibility to save enough to retire on time and comfortably.