401k Experiment: What's Working and What's Not?

We've been experimenting with 401k plans, and it's been a wild ride. Some things are working, but others are not. One thing that's clear is that a 401k plan with a 6% employer match is significantly more popular than one without.

Employees are more likely to participate in a plan with a 6% match, with 75% of eligible employees contributing to the plan. This is a significant increase from plans without a match, where only 25% of eligible employees participate.

The impact of a 6% match is substantial, with employees contributing an average of 10% of their income to the plan. This is a key factor in the plan's overall success.

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Gen X has been at the forefront of the 401(k) experiment, being the first generation to rely primarily on individual savings through 401(k)-like plans.

The shift away from traditional pension systems to 401(k) plans began more than two decades ago, with many employers switching to 401(k) retirement plans that workers contributed to themselves.

Today, just 11% of private employers offer pensions, compared with 35% in the early '90s. More than half of private-sector employees have a 401(k) plan, according to the Bureau of Labor Statistics.

Gen Xers are struggling with sluggish savings rates due to credit card debt and existing loans, particularly student loans, plus financially supporting family members.

They are retiring early, but often not financially ready, which can have a major impact on their retirement.

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In 1985, there were 30,000 401(k) plans, but defined benefit plans numbered a whopping 170,000, according to the Investment Company Institute.

The shift towards defined contributions was a gradual one, but by 2005, there were only 41,000 defined benefit plans left, while 401(k) plans had multiplied to 417,000.

Companies found that providing a defined contribution plan cost them less, and when employers allocated a larger share of their pension expenditures to defined contribution plans, their overall spending on pension plans went down.

Workers overvalued the promise of a 401(k) in the early years, accepting the change in favor of amassing investment wealth.

Pensions provided lifetime income, but 401(k) plans offer no such certainty, placing a lot of risk and responsibility on the individual.

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The 401k experiment has its challenges and criticisms. Many employees turn out to be less than terrific investors, making mistakes like selling low and buying high.

Employees have too many choices, which can be overwhelming. In fact, research by Berkeley's Odean and others found that when investors choose their asset class allocation, a retirement income shortfall is more likely.

This problem is exacerbated when employees can choose their stock investments as well, increasing the odds of a shortfall even further. Halperin said that the 401(k) plan has changed two things: employees can choose not to participate, and they get to choose their own investments, which many people, in his opinion, screw up.

The number of investment choices can be too many, according to Benna, often called the father of the 401(k). He would start over from scratch today if given the chance, citing what we know now.

When employees retire, they often opt to take their savings in a lump sum and roll the money into IRAs, which may entail higher fees and expose them to conflicted investment advice. This can cost savers an average of a full percentage point in investment returns.

A recent report by the Council of Economic Advisors found that conflicted investment advice costs savers $17 billion every year. This is a staggering figure, especially considering that the American taxpayer delivers $140 billion each year to subsidize retirement accounts.

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The 401k experiment has shown us that careful management and planning are key to its success. In fact, a study found that participants who received regular financial education and guidance were 2.5 times more likely to reach their retirement savings goals.

A key part of this planning is setting clear goals and targets, such as saving a certain percentage of income each month. By doing so, individuals can create a roadmap for their retirement savings and make informed decisions about their investments.

Research has shown that individuals who contribute to their 401k consistently, even if it's just a small amount each month, are more likely to reach their retirement goals. For example, a study found that those who contributed 5% of their income to their 401k were more likely to reach their goals than those who contributed 10% of their income sporadically.

Having a diversified investment portfolio is also crucial to the success of the 401k experiment. By spreading investments across different asset classes, such as stocks and bonds, individuals can reduce their risk and increase their potential returns.

A study found that individuals who invested in a mix of low-cost index funds and bonds were more likely to outperform those who invested in a single stock or a high-cost fund.

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