It’s a major fiscal problem: More than 50% of working-age Americans have no retirement plan coverage at work. For years, policy makers have been searching for ways to address the problem by enticing small businesses to offer their employees 401(k)-style retirement plans.
Now, legislators in a few states are taking a different tack, backing new initiatives that would shift the responsibility for setting up the retirement plan – and picking investment options – to the government.
On Sept. 30, California Governor Jerry Brown signed a measure that would require private-sector companies with five or more employees that do not currently offer a retirement plan to automatically deduct contributions from employees’ paychecks and funnel them into an IRA. Called the California Secure Choice Retirement Savings Trust, the program “is aimed at the 6.3 million Californians, mostly lower and middle-income workers, who have no access to a retirement plan at work,” says a press release issued by California state Senator Kevin De Leon (D-Los Angeles), one of the measure’s co-sponsors.
California companies that don’t currently offer a tax-deferred retirement-savings plan would channel employee contributions to these accounts through direct payroll deposits. Employers would automatically enroll employees, who would be free to opt out. At 3%, the savings rate for those auto-enrolled “would create a modest supplement” to Social Security, says Greg Hayes, communications director for De Leon.
The state would choose a professional money manager to invest the funds in a conservative investment whose return would be guaranteed at no risk to the state. (The investment manager would be required to purchase insurance to protect against investment losses). Administrative fees would be capped at 1% of assets, says Mr. Hayes.
The program has several hurdles to clear before it can operate. Most significantly, the Internal Revenue Service will need to allow contributions to be made on a pre-tax basis. Also needed: a ruling from the Department of Labor that the program would not be subject to the federal Employee Retirement Income Security Act, or ERISA. Because ERISA subjects employers to fiduciary responsibility with regard to retirement plans, the state would effectively be prohibited from implementing the program if it were covered by the act, according to the bill’s supporters.
“It’s going to be interesting to see what the DOL does,” says David John, a senior research fellow at the Heritage Foundation, who, along with Mark Iwry of the Treasury Department conceived of a similar proposal, the so-called “automatic IRA.” Because the California program seeks to guarantee returns, “they are in a gray area” with regard to ERISA, he adds.
Numerous other states, including Illinois, Rhode Island and Massachusetts, are considering or have passed similar measures. (Massachusetts currently oversees a retirement savings program for nonprofits with fewer than 20 employees.) For more on how to encourage more 401(k)-style savings, see “How to Fix 401(k)s.”