The biases and nudges that should shape employee savings plans

A well-designed plan has to provide the right support against people's worst financial tendencies

The biases and nudges that should shape employee savings plans

Christine van Staden, regional vice president for group customers, Toronto Consulting, at Great-West Life, discusses some insights gleaned from the firm’s recent 2017 Capital Accumulation Plan Benchmark Report, which looked at what Canadian plan sponsors are doing to support their employees’ saving and retirement needs.

What major roadblocks do administrators face to making group retirement savings plans mandatory for employees?
When we speak to mandatory participation, we know sponsors shy away from this because of the perceived increase in matching contributions that they associate with the potential for higher enrolment numbers. One offset that they should consider is simply adjusting the matching formula to a lower amount, depending on what they’re comfortable with and as resources allow.

In addition, employers in Canada shy away to a certain extent because of all the publicity around the safe harbour legislation that exists in the US. They actually consider that a barrier when the truth is those safe harbours are not really going to be a stop-gap either, and even in the US, there are plenty of cases outside of those safe harbours. The bottom line is that they can always find a level at which they’ll be comfortable making plans mandatory, and employees will always have the choice to opt out.

The experience of employers abroad suggests that automatic enrolment carries significant benefits. Several years after employers in the UK were obliged to automatically enrol eligible employees into a workplace pension scheme in 2012, the Institute of Fiscal Studies found that workplace pension plan membership nearly doubled, even among those not eligible to be automatically enrolled. The analysis also suggested that more savers started boosting their existing contribution as a result of automatic enrolment.

What behavioural tendencies keep employees from joining voluntary group plans, and how can they be nudged toward opting in?
The two factors that explain why employees don’t join a plan are inertia and myopia. Refusing to join a program where employers match every contribution you make is just leaving dollars on the table, but people would honestly rather not go through the effort of enrolling. To overcome that inertia, making it as easy as possible to join a plan is key; reducing the perceived trouble of an active choice versus default non-participation can help mitigate this concerning trend.

Non-participation also tends to feed into people’s myopia. Even if members realize that they’re leaving money on the table by not saving for long-term needs, there’s a significant tendency to spend on short-term desires. Instead of putting money into RRSPs, many would choose to spend on a vacation or a new car. Those behaviours are understandable, and education is key to nudge members away from them. Explaining compound growth, and driving home the point that earnings in an RRSP are tax-free as long as money is kept in it, will help motivate people and encourage them to see the benefits of consistent savings.

Once in the plan, members can also overcome myopia with the help of auto-escalations. Gradual increases in contributions over time, perhaps tied to salary increases they may receive, would be less painful from employees’ perspectives. And by placing restrictions on withdrawals, sponsors can limit the tendency for savings and retirement plan contributions to be used instead for short-term spending.

Placing restrictions on group RRSP withdrawals can help members reach their long-term goals, but they may be concerned about having less access to their money. What can be done to ease these concerns?
If members place higher value on immediate rewards and are not paying attention to long-term savings, there has to be more effort around education as well as new programs to help different segments of the marketplace. And honestly, if the ability to access their cash without incurring penalties is a real dominating concern, offering a voluntary group TFSA would also be a good option; they’re shorter-term and can be used toward a wider variety of financial goals like funding children’s education, buying a home, and so on.
 
Many group plan sponsors are offering cash and equivalent funds as investment options to accommodate an aging workforce. What can be done to balance aging employees' specific needs with most people’s need to invest for long-term returns?
One of the first things sponsors should do is ensure that their default funds take members’ age and risk tolerance into consideration. From our perspective, default funds should absolutely include target-date funds that self-adjust depending on the individual’s risk profile and their retirement time horizon.

As for members leading up to the decumulation phase, they face specific issues that include reducing investment risk as they near retirement, converting savings into retirement income, and facing tax implications that they aren’t even aware of. We feel that transition is the most important decision point of anyone’s life, particularly as they shift from being part of a group to figuring out how much they should pay themselves individually. That’s on top of determining how they can continue to grow their assets as they take payouts.

Retirement should be an exciting time for employees, but the financial uncertainty around the transition makes it a stressful time for many Canadians. From our perspective, that shift is something that they should never try to undertake on their own. There are too many complexities involved, which means they need a professional guide to truly understand how they should be making their financial decisions.

 
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