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Encouraging Greater Plan Participation

If your work force includes employees who aren’t taking full advantage of your 401(k) retirement plan, you may want to look for ways to increase plan participation. Below, we answer some commonly asked questions.

Why is it better to have more employees fully participating in a 401(k) plan? Increasing employee participation can help plans pass nondiscrimination testing. If a plan does not have a 401(k) safe harbor provision, low participation rates among non-highly compensated employees (NHCEs) could cause the plan to fail the actual deferral percentage (ADP) and actual contribution percentage (ACP) tests. Sponsors of plans that fail may have to either make contributions to NHCEs or make corrective distributions from the 401(k) plan to highly compensated employees (HCEs). Neither option is desirable.

Are there any other benefits to increasing employee participation? Yes. Employees who don’t take full advantage of a 401(k) plan are at risk of not having enough savings to retire comfortably. Increasing employee participation can help employers make sure their employees are better prepared financially
for retirement.

How can employers increase 401(k) plan participation? To increase employee participation, employers can implement plan design changes and provide financial education to employees.

What plan design changes can an employer make to help increase employee participation? Implementing programs such as automatic enrollment, automatic contribution escalation, and matching, as well as instituting a shortened enrollment waiting period, can help increase employee participation in a 401(k) plan.

How does automatic enrollment work? With automatic enrollment, employees are enrolled in the plan at a preset contribution rate. Employees can elect not to contribute or to contribute a different percentage of their pay. Since many employees choose not to opt out of automatic enrollment, automatic enrollment tends to increase participation rates.

Can you explain automatic contribution escalation? Generally, the default deferral rate for 401(k) plans is too low for many employees to accumulate enough money to meet their retirement income needs. With automatic contribution escalation, an employee’s deferral rate is gradually increased over time and according to a specified schedule. An employee may opt out of the increases.

How do matching contributions increase participation? When an employer matches all or a percentage of an employee’s contribution amount, employees are more motivated to contribute because the employer’s contribution is viewed as potentially “free money” for the employee. Though such a program would create a direct expense for the employer, it can be an effective way to increase participation.

What is a shortened enrollment waiting period? Some plans require a new employee to wait a period of time before starting to make deferrals to the 401(k) plan. Shortening or even eliminating this waiting period would make it possible for more employees to become eligible to participate. If employer contributions are not accelerated, employers incur no additional contribution costs with this approach. However, if a company has a high rate of employee turnover, this strategy may result in a high number of 401(k) accounts with small balances, which could increase plan administration costs.

How will providing financial education to employees increase participation? A knowledgeable employee is more likely to understand the value of participating in his or her 401(k) plan. So the education materials should clearly communicate both the importance of saving for retirement and the benefits of participating in a 401(k) plan. Several different types of education materials can be used. Employers also may want to consider providing one-on-one meetings with financial advisors.

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