As a strategy for adding to shareholder value, defined contribution retirement plans and employee financial education are integrated components of a human capital strategy. A DC plan in the absence of employee financial education will fail; a well-designed financial education program will underperform in the absence of a DC plan that allows employees to reach their financial goals. Similar to any other investment, DC plans and financial education programs must generate positive net present values.
A DC plan and a financial education program each have four components that HR needs to analyze. Enrollment, investment choices, employer match and distributions are critical variables for any DC plan. Financial education programs must address questions concerning topic coverage, delivery methods, frequency and target populations.
Let's look at each of these eight constituent parts.
Companies can choose between two types of enrollment models: opt-in or automatic. Given the inertia of employees, the automatic option is successful in increasing participation rates.
Improper diversification and overinvestment in company stock often characterizes employee portfolios. Recommended strategies to deal with these problems include using tiered funds, offering lifecycle funds as an investment option under the plan, and educating employees not to overinvest in company stock.
A company match increases participation rates and savings levels. HR must calculate the optimal match rate and threshold at which matching stops. Most significantly, matching appears to help low-saving groups that are most at risk of not having sufficient retirement funds. One interesting strategy is to reduce a company's match rate and extend its threshold. This does not cost a company more money, and some evidence suggests that it boosts savings rates.
Rules governing the distribution of funds, both before and after retirement, impact plan participation, contribution rates and post-retirement income. Allowing employees to take loans against retirement accounts boosts participation rates and contributions, but it negatively affects post-retirement income. Employees who leave their employer before retirement and take a lump-sum payment often do not reinvest their money. If one of the goals of a DC plan is to make sure individuals do not outlive their savings, then a life annuity can be a rational choice for employees upon retirement.
Company financial education programs often focus on retirement plan details and investment options. The problem with this strategy is that it neglects the preparation work necessary to allow an employee to take full advantage of the plan. Companies would benefit from helping employees clean up their financial baggage first. This includes paying off excessive credit card debt, having proper insurance and updating their home mortgage. Employees will have the resources to take full advantage of a DC plan once their financial house is in order.
Delivery methods include newsletters, personalized print information (e.g., benefit statements), individual learning materials, telephone services, seminars, individual counseling with financial planners and Web tools. The most common of these is the benefit statement. Evidence suggests that retirement seminars are the most effective of these methods.
The research is clear here. Employee financial education programs should be available on a regular basis, easily accessible and possess a consistent message.
Companies are resource-constrained and financial education, like all investments, probably exhibits diminishing returns. Empirical evidence indicates that the working populations with a very low propensity to save are low-income individuals, less-educated workers, non-Hispanic blacks and Hispanics/Latinos. Companies should prioritize these populations in delivering financial education.
Many HR departments have focused their attention on informing employees about their company's DC plan. Financial educators have argued for years that employees are in desperate need of financial education. HR executives must re-conceptualize their DC plan and financial education programs as integrated parts of a human capital strategy designed to increase shareholder value. An important part of this strategy is the need for metrics that measure payoffs to various iterations of the eight discussed components. Ultimately, if American workers are to become financially whole through company-sponsored financial education programs, companies will need to be convinced of their contribution to shareholder value.
Nadler, an economist and a professor at Ashland University, is also president of Vincuro, a financial stress reduction firm.
