Today’s topic has to do with one of my favorite automatic features: automatic escalation.
I’d like to some information with you to help illustrate why automatic escalation is one of the most important features you can add to your employees’ retirement plans.
On average, an employee must save 10% of their paycheck in order to hit their retirement bullseye and retire on time. Most employees simply don’t think they can afford to do this. However, what they need to understand is that there are multiple ways to save 10%.
I’d like to talk a little bit about a method I refer to as 10-1 Now.
Let’s consider three hypothetical employees called Susan, George, and Morgan. In this scenario, imagine they are each 30 years old, make $40,000 a year, have a 10% savings goal, and earn an average of 6% per year on their investments. Also, in this example, there will be no company contributions.
Let’s begin with Susan. Susan believes she can save 10% immediately. From 30 to 65 she saves 10% and by the end of it her balance will sit at $445,000.
George, on the other hand, simply doesn’t think saving 10% is an attainable goal right now. He does, however, believe he can start at 5%. He also agrees that he can increase that amount by 1% each year over the course of five years until he reaches that 10% savings goal. At age 65, George will end up with $405,000.
Similar to George, Morgan also feels she’ll be able to save 5%. But unlike George, no one has suggested to Morgan that she increase that amount by 1% each year. So at age 65, Morgan is left with just above half of what the other two employees in our example have made. At retirement, Morgan will be left with approximately $225,000.
Many employees in the real world know and understand they should increase their contributions. But life doesn’t always work out so easily. It’s hard to form the habit of saving more.
But the more you save, the more you have in retirement. So, how can you help your employees save 10%?
This is where automatic escalation comes in. Every January 1st, you send out a notice to tell your employees you’re going to increase their deferral rates by 1%. As always, employees can opt out if they choose.
A lot of employers are skeptical of this method. However, recent studies have shown something called “the power of the default.” Over 80% of all employees that have their deferral rates increased 1% per year let it continue to happen.
By incrementally helping your employees save more now, you’ll be helping them get to that 10% mark.
If you have any other questions or would like more information, feel free to give me a call or send me an email. I look forward to hearing from you soon.