Will the Pension Protection Act of 2006 (PPA) accomplish its purpose? Part 2 of 2

This is the second and final post addressing whether PPA will accomplish its purpose. Click here for part one.

Purpose #2: Expand Opportunities to Save

PPA definitely expanded opportunities. However, the real question is whether this expansion will solve the problems with our retirement system. In particular, will PPA increase coverage, savings, and investment return rates significantly enough that 401(k) plans will provide workers with enough retirement income? I don’t believe it will.

Auto-enrollment was a major part of PPA and some claimed this provision as the cure-all for our nation’s retirement problems. Many studies, both before and after PPA, show that auto-enrollment significantly increases participation:

• A recent Hewitt study reports that the average participation rate for 401(k) plans overall in 2008 was 74.2%, compared to 82.3% for automatic enrollment plans.
• In addition providers like Fidelity and Vanguard are reporting large increases in the number of employers converting to auto-enrollment as well as low “opt-out” percentages among workers in these arrangements.

This is promising news and may eventually validate some of the claims that the PPA auto-enrollment provisions will close the retirement savings gap.

However, not all the news about auto-enrollment is positive. Some are claiming that auto-enrollment decreases the amount that participants save. The same Hewitt study referenced above reports that the average deferral rate decreased from 7.9% in 2006 to 7.4% in 2008. This decrease may be due to the fact that the default percentages in auto-enrollment plans are relatively low (e.g. 3% for a typical plan). Thus auto-enrollment may actually cause employees to save less than they should based on what is needed for an adequate retirement.

In addition most of the increase in auto-enrollment is among larger employers (100+ employees). We have a huge percentage of employees at small businesses that don’t have a retirement plan. PPA did nothing to address this issue.

Also, the so-called fiduciary advisor provision of PPA has been a big flop. I don’t know anyone in the industry who actually provides investment advice under this provision. I have even heard talk that this provision may be repealed by congress in upcoming legislation.

The problem is not that we don’t need investment help. A DALBAR study shows that the average equity investor earned an annual return of 1.87% over the last 20 years, compared to 8.35% for the S&P 500. The problem with the PPA provisions was the limited incentives for employers and providers and the lengthy and complicated compliance rules.

So my conclusion: PPA is a step in the right direction. It increases protections and expands opportunities to build retirement nest eggs. But these protections and opportunities are no where near the comprehensive solution needed to solve to this country’s retirement problems.