Top 3 Reasons Employees Won't Invest in a 401k

Tom DiSilva

May 19, 2016

Top 3 Reasons Employees Won't Invest in a 401k

Top 3 Reasons Employees Won't Invest in a 401k

 

Every 401k investor hopes to make a return, but that doesn’t mean everyone has the same reasons for participating in a plan. Whereas employees on the higher end of the pay scale may be looking for ways to enhance their wealth, those on the lower end are often making sacrifices now for the sake of an independent future.

Plan managers who want to increase participation rates should provide education illustrating how those on tighter budgets can pave their roads to retirement one paycheck at a time. Without it, those on the lower end of the pay scale sometimes find it easier to put off retirement savings for years at a time.

Here are three common misconceptions some employees have about 401ks that owners can overcome through investment education:

1. ‘I Just Don’t Have the Money’

For many, when, where and how to invest their money is a problem. But for some, just being able to invest is a more immediate concern. Standards of living are no lower for lower earners who, while living from paycheck to paycheck, can lose sight of large future returns behind the everyday pressures of managing a budget for food, shelter and maintenance of a minimal lifestyle.

Talking about money is often discouraged in workplaces, but maintaining the fiction that every employee has the same ability to invest can cause misunderstandings among lower earners. Companies willing to address how employees can work investment into their budgets can dispel the notion that the 401k is just there to help those with extra money lying around.

2. ‘The Future is Far Away’

Making an investment means giving up something you have in the present in the hopes of getting more in the future. The less you earn, the easier it is to put off that pain until tomorrow. Yet every day that goes by is less important to the long-term investor than the one that came before.

That’s because lower-wage earners must make a good return on their investments over the course of decades in order to retire comfortably. Today’s small investment will make more money than tomorrow’s big one, and so the best time to invest is always now.

Example 1: Small Investments Starting at a Young Age

 

Salary

$35,000

Employer Matching:

50% up to 6% of salary

Employer Contribution

$2,100/yr. ($175/mo.)

Time Elapsed

40 years

Estimated Return Rate

6%

Total Invested

$84,000

Total Employee Contribution

$42,000

End Balance

$522,766.32

 

 

Example 2: Larger Investments Starting at Middle Age

 

Salary

$35,000

Employer Matching:

50% up to 6% of salary

Employer Contribution

4,200/yr. ($350/mo.)

Time Elapsed

20 years

Estimated Return Rate

6%

Total Invested

$84,000

Total Employee Contribution

$21,000

End Balance

$522,766.32

 

3. ‘Because Investment Is “Gambling”’

If a penny saved is a penny earned, can the same be said for a penny not invested? Amid so much market turmoil and the continuing indiscretions of big banks, it is unsurprising that so many potential investors would think of the financial markets as a roulette wheel.

Nearly all investments carry risk and employer sponsored retirement plans are no exception. But the flexibility, consistent return rates and tax advantage of 401ks make them a relatively safe bet for employees at any level of earnings and investment experience. Helping workers understand how to manage their investment and avoid losses establishes greater trust between investors and plan sponsors.

Employees want personalized enrollment and investment guidance. Businesses can help by adopting a retirement plan education policy that explains goal setting and investment strategy, encourages group or closed-door discussions of difficult or embarrassing questions, and shows employees where they are on the path to retirement and what it will take to go the rest of the way.

Misaligned Incentives Create Need for Communication and Understanding

Businesses love the 401k. Nearly half of U.S. private sector workplaces offered one or more defined contribution plans in 2015, according to the Bureau of Labor Statistics. But how much owners, managers and highly compensated employees (HCEs) can invest into them is affected in large part by participation rates and contribution levels throughout the company.

More is generally better: Greater participation means more money in the plan, which in turn means access to better investments. Higher average rank-and-file contributions mean HCEs can invest more of their own incomes.

Although HCEs are well incentivized to do so, upping plan participation presents a challenge. Employees making lower salaries are less likely to sign up. Although almost 80 percent of those making $50,000 or more per year participated in their company’s retirement plan in 2012, less than half of those making under $25,000 did the same, according to statistics from the Employee Benefit Research Institute, a nonprofit (EBRI, 2013, p. 6).

Yet, the ratio of those contributing at employer matching levels remained roughly the same across all income groups (EBRI, 2001, p. 12). If low-earning participants tend to invest the same portion of their incomes as high earners, why do so many fewer participate? It’s not that they can’t afford to invest; with less money available with which to build a retirement, they can hardly afford not to.

A more likely culprit is miscommunication: Whereas management and large earners -- those often tasked with running a plan and encouraging participation -- are seeking the best ways to use invest their wealth, lower-paid employees are contemplating how to stretch their dollars to afford investment without sacrificing their living standards.

Managers who understand the concerns of lower-paid employees will have an easier time explaining why investment is necessary and how a 401k plan can be an effective retirement vehicle for persons of any income level.

Treating the 401k as the Investment for Everyone

The tying together of 401k contribution maximums across income levels gives highly compensated employees a reason to encourage lower earners to invest, but providing the right kind of encouragement is just as important. Plan sponsors seeking more participation might have better luck if they pitched investment from the perspective of lower earners for whom any amount of income deferment may make life harder in the short term.

Although the tax advantages of 401k plans appeal to investors of all types, investment strategy and return prospects vary widely by income level. Investment education that focuses on how modest earners can build a reliable path toward retirement is more likely to appeal to lower-paid employees than talk of large matching contributions and deferral maximization, which they may view as untenable, lavish and patronizing.

Most employees don’t dream of sports cars, vacation homes or jet-setting around the globe in their later years; they instead hope that by squirreling away their savings now, they can see themselves comfortably through the times when they can no longer work. Getting them to see a workable path to that end encourages greater participation, going further in the long run towards helping everyone in an organization reach their retirement goals.

About the Author

Thomas DiSilva is the president of Navigate, a professional employer organization (PEO). With nearly 30 years' experience helping run small- and mid-size businesses, he is an expert on HR, payroll, benefits and risk management.