“Engage, engage, engage” is an apt mantra for the capital accumulation plan (CAP) industry. With disappointing levels of employee engagement in Canadian retirement savings plans, plan sponsors continue to search for ways that inspire employees to save enough for retirement. One potential solution is automatic enrollment with automatic escalation—features that some believe could boost participation rates, particularly among younger workers, and address the engagement issue, too.
Auto-enrollment isn’t new. The Canada Pension Plan, after all, is an auto-enrollment plan with no opt-out option, and the concept is common in DB plans as well. Auto features are already well advanced in the U.S., where federal legislation introduced in 2006 authorized employers to auto-enrol employees in 401(k) plans. The average participa- tion rates for Fidelity-run 401(k) plans, for example, have increased dramatically to 82% in plans with auto-enrollment versus 55% in plans without, according to a 2011 analysis by Fidelity Investments.
Auto-enrollment is also common in Australia, New Zealand and the U.K., where a new law (being phased in over five years beginning Oct. 1, 2012) requires employers to auto-enrol all employees into private workplace pension schemes. In Canada, conversation around auto-enrollment picked up after the introduction of the pooled registered pension plan (PRPP) and Quebec’s voluntary retirement savings plan (VRSP)—with some in the industry saying these plans won’t be effective unless auto features are made part of the design. That discussion has shone a light on whether auto-enrollment could increase participation levels in employer-sponsored CAPs.
“The experience in other jurisdictions like the U.S. demonstrates that plans with auto-enrollment have much higher participation rates and allow members to begin saving much earlier in their working careers than plans that do not have auto-enrollment features,” says Jeff Aarssen, vice-president, group retirement savings, sales and marketing, with Great-West Life. “Auto-enrollment also gets members contributing to their plans sooner to take advantage of their savings being invested over longer periods of time and to benefit from the greater impact of tax-free compounding of investment returns on their contributions.”
Join the plan
“Manulife Financial’s approach is to actively encourage employers to incorporate auto-enrollment of new hires into their plan design,” says Sue Reibel, senior vice-president and general manager, group retirement solutions, with Manulife. For plans without auto-enrollment, Manulife engages employees through enrollment education sessions. According to Jean-Daniel Côté, vice-president, retirement, with ACT actuaries, auto features could help address a key reason for plan member inertia: namely, that many people see retirement as something that’s so far in the future, they can postpone saving for it.
“We all ask the recurring question of why so many people don’t get into their CAP,” he says. “On the group benefits side, when you go to the dentist, fill a prescription or change glasses, you feel an immediate impact if you aren’t covered. But retirement seems so far away that it is easy to postpone saving.”
Along with Reibel and many others in the pension industry, Côté favours auto-enrollment. “I think there is more acceptance that employees should be coerced or at least herded to participate,” he says. “Wherever there has been a DB culture, [organizations] are used to having everyone participate––it really has to do with the level of paternalism.”
With current CAP participation rates typically around 55% to 60% in Canada, it’s important to think about the advantages of auto-enrollment, says Tom Reid, senior vice-president, group retirement services, with Sun Life Financial. “The industry has done a fantastic job of educating employees, but employers want higher participation rates so key talent is effectively retained. Auto-enrollment is really a great behavioural tool that will get an extra 30% of people to save for retirement.”
Reid says that some of his clients have implemented auto-enrollment for all new employees––and the results are impressive. “They can still opt out, but about 90% are staying in the plan. We’ve been sharing this with our client base, and several clients are now talking about implementing auto-enrollment.”
Oma Sharma, partner – Canada defined contribution consulting leader with Mercer, thinks that auto-enrollment helps offer employees a road map to retirement. “Auto features are a great way to counteract the negative effects of this inertia,” she says. “The more we can harness auto features to provide members with a careful and well-thought-out path to retirement, the better.”
A needed nudge
Of course, just because employees are automatically enrolled in a CAP doesn’t mean their contribution levels will be enough to save for an adequate retirement income. In the U.S., for example, concern has risen over the number of plan members who remain at default contribution rates set by employers––typically 3% or less. One solution is auto-escalation.
Sharma says that none of her Canadian clients have chosen that route yet. But she views auto-escalation as a good way to encourage increased savings for members who are not maximizing their savings opportunities. Contributions could be increased by 1% per annum until members reach a desired level, or the default contribution rate could be set to a desired (higher) level, requiring members to take action if they want to contribute less. “Both approaches exploit member inertia, as many members will simply accept the higher contribution rates,” she says.
Auto-escalation can be built into the plan, as in Quebec where the default VRSP contribution rate was to start at 2% and escalate to 4% by 2017, says Reid. “Plan sponsors can either get members to agree to automatic increases or build [the increases] into the plan dynamic. Some members might pay attention but forget to increase their contributions, so this takes the guessing out of it.”
Aarssen agrees that it is important in a CAP environment to make meaningful contributions to the member’s plan, and auto-escalation of contributions would allow for member savings to increase as that member draws closer to retirement. “Anything the industry can do to help make those decisions easier––whether it’s auto-enrollment, making meaningful contributions supported by auto-escalation or getting plan members into reasonable investment choices like target date funds––would only help all stakeholders involved to help members achieve retirement income adequacy.”
No magic solution
Although auto-enrollment is shown to increase participation in retirement savings plans, not everyone believes that stronger member engagement will necessarily follow.
“Engagement is about employees being aware of the value of the plan and the contributions made by their employer,” says Eric Filion, vice-president, development, marketing and investment strategies, group retirement, with Desjardins Financial Security. “Auto-enrollment comes with risk that the level of engagement could actually fall if we rely too much on automation. So, although I am in favour of auto-enrollment, people still need to be engaged and be active in taking care of their financial planning and economic future.”
Even with auto-enrollment, the option for members to opt out could be an issue. In the U.K., the National Association of Pension Funds estimates that more than one-third of people forced to join workplace retirement savings plans will opt out because of affordability issues. But the same inertia that keeps people from joining a plan could keep them from quitting one, too. In fact, statistics from California-based 401(k) advisors show that 90% of plan members who are automatically enrolled choose to remain active in their plans.
Getting people into a retirement savings plan and keeping them there is key to long-term engagement, says Jennifer Gregory, vice-president, business development, group savings and retirement, with Standard Life. “In Canada, the savings rates are at a 30-year low. We need to create a culture of savers—it is good to start early and keep saving, and auto-enrollment gives people a push to start on that path. The longer someone is in the plan, the more engaged they become, especially as their balance grows.”
Idan Shlesinger, however, says it doesn’t make sense to expect auto features to lead to greater engagement—nor does he necessarily believe that companies should try to force disinterested employees to pay more attention to their retirement. The managing partner, DC pensions and savings plans, with Morneau Shepell, says that although some employers in the private sector may offer CAPs as a
way to help employees prepare for retirement, the main reasons are more about competition, employee loyalty, recruitment and retention.
“Retirement savings plans are about the relationship between an employee and an employer, and [the plan] must add value to the shareholder,” he explains. “Usually an employer match is part of the plan, so there needs to be return on investment for the shareholder agreement. To give money to employees who are not even paying attention may not be in the best interests of the shareholder.”
Rather than enrolling and increasing contributions “by stealth,” Shlesinger would prefer to see companies integrate pension enrollment into the sign-up process for other benefits at the time of hire. “Right now, [the retirement plan] is often disjointed and stands alone from other employee benefits,” he says. “We could do more to integrate the process and make it more user-friendly. To build engagement, I think it is better to provide a model to make it easy to project retirement incomes in an easy and intuitive way. Let people see the impact of their contributions and allow them to auto-escalate their own contributions by going to the website where they may choose 3% to start and then increase by 1% in coming years.”
Auto-route challenges
Côté agrees that forcing employees into a retirement plan they don’t want to participate in, and then offering company matching to those members, may not be in the best interests of all organizations. “Say a company has 60% participation in the CAP but would like to see it higher,” he says. “How high is high enough? While HR may feel that auto-enrollment or making the pension mandatory is the right thing to do, [the company finance department] may be turned off by the added cost.”
Reid says that most of his clients with auto-enrollment pay higher pension costs. However, the added expense may be offset by less turnover from employees who view the plan as an important employment benefit and, therefore, lower replacement and retraining costs for the company, he says. At the same time, higher costs related to auto-enrollment have the potential for sponsors to set defaults that are too low to generate adequate retirement savings for members. While Gregory supports auto-enrollment to drive up plan participation, she is concerned that contributions could fall if employers set defaults that are too low.
That’s become an issue in the U.S. where auto-enrollment brought more people into 401(k) plans but overall savings rates declined, according to research from the Employee Benefit Research Institute. The researchers noted that two-thirds of companies set default rates at 3%, far below the 5% to 10% members would have chosen on their own. Based on surveys done by Aon Hewitt in 2011, the National Association of Government Defined Contribution Administrators, Inc. recommends that default contribution rates range from 4% to 6% and that automatic contribution escalation rises to 10% or up to 15%.
Despite the introduction of the PRPP, current Canadian employment standards legislation presents another challenge to automation in CAPs. While non-contributory plans in which employees don’t make contributions are not a problem, there are legal issues for auto-enrollment in contributory plans that deduct from people’s paycheques, says Randy Bauslaugh, a lawyer with McCarthy Térault LLP. “Auto-enrollment can be established as a mandatory term for new non-union employees, but there would likely have to be a change to the existing collective agreement to auto-enrol new or existing union employees in a contributory pension plan. For existing non-union employees, there would have to be adequate notice or consent. Most employment law statutes require written employee consent to payroll deductions,” he says. Bauslaugh adds that auto-enrollment also raises concerns regarding beneficiary designations.
“Clients that ask about auto-enrollment and auto-escalation mostly ask us how they can put those features into their existing plan under current legislation,” says Aarssen, adding that, currently, there is no legal framework to permit auto-enrollment in DC plans and group RRSPs. “Provincial legislators would need to pass the appropriate legislation by province to allow for auto-enrollment in their jurisdictions.” But he says that although the current legal framework does not exist to support formal auto-enrollment and auto-escalation in Canada, plan sponsors can design registered pension plans that make it mandatory for new members to join and introduce contribution schedules that increase over time—thereby creating the same impact as auto-enrollment and auto-escalation.
Communicating outcomes
The CAP industry is coming to accept that no matter how much education is thrown at plan members, few will become sufficiently knowledgeable about investing. But there is a growing idea that members may become more engaged in their plans if they better understand the link between contributions and retirement outcome. “Outcome is based on the money put into the plan,” explains Gregory. “Members don’t have to know about different funds, but by looking at outcomes and understanding the income that translates to in retirement they can have control over their future.”
The focus on outcomes is a natural evolution of the DC market, says Reid. “We’ll never stop teaching people how to be an investor, but we recognize that not everyone will become one. With auto-enrollment and auto-escalation, a person can get to a pretty good place by age 50 and then take control since there is still a long window to generate retirement savings.”
Emphasizing outcomes is important because it provides focus, he says. “How much do you need in retirement? You won’t have 70% replacement income if you save only 2% of your [working] income. Based on your savings rate and how you are invested, you will have this many dollars, and if you don’t have enough to achieve your goal, here is an action plan: increase savings, retire later and invest more aggressively. It’s like having a built-in personal trainer––a system in place to gradually ensure you are meeting your goals. Although risk tolerance and asset allocation are still very important, you can’t shoot the lights out with returns these days.”
Any features that can be built into the plan design of a CAP arrangement that allow members to join early (such as auto-enrollment) and to make more meaningful contributions (such as auto-escalation) will deliver a more adequate outcome for members, says Aarssen. “The fundamentals of what makes a plan member’s retirement outcome more successful have not changed, and that is to create a formal, financial plan with the help of an advisor or planning tools, start saving earlier and, where possible, start saving more.”
Sonya Felix is a freelance writer based in St. Catharines, Ont. sfelix@cogeco.ca