Love, Hate and the 401(k) (Gwen Moritz Editor’s Note)

“Why It’s Time to Retire the 401(k)” was the title of a major article in Time magazine last month, just as the Moritz household’s 401(k) balances were starting to regain a healthy glow. Double-digit growth all around may make some of us forget that we’ve effectively lost two years of retirement preparation – and that’s if we didn’t panic and jump out.

I have a love-hate relationship with the 401(k), which was born the year before I finished high school and effectively killed off the defined benefits pension for private-sector employees about the time I entered the work force.

My father, a government employee, and my father-in-law, a lifer at a huge corporation, could rely on pensions to supplement Social Security benefits and their own savings. But my husband and I are like most private-sector employees in America today. We can count only on our own discipline to provide for our old age.

I love the tax deferment and employer matches. Most participants can avoid taxes on up to $16,500 this year, which means it costs less to save more. I don’t really think of the tax savings as a return on investment since, honestly, does anyone turn around and invest the money that didn’t go to taxes? The employer match, however, truly is an instant return, often boosting the value of one’s savings by 50 percent or even more.

So what’s not to love? Well, there has always been an element of risk in the tax deferment part. Who really knows what the tax brackets or our own income will look like years into the future? And the employer match is dwindling as a shocking number of companies have reduced or eliminated their contributions. The recent Inc. Tanc survey of Arkansas Business readers found that to be the case for 21 percent of respondents.

Even in the best of times, the successful 401(k) plan depends on two things that Americans are not famous for: financial discipline and financial savvy. The Federal Deposit Insurance Corp. recently reported a strong upward trend in bank deposits (up 7.6 percent nationally in the year that ended June 30, and 2.95 percent in Arkansas), and that’s much more discipline than we’ve seen in recent years. But savvy? It’s safe to say those folks who stampeded out of the stock market last year for the safety of passbook savings accounts or CDs missed out on a whole lot of rebound dollars.

Last week I talked to Larry Middleton, executive vice president and managing director of Stephens Inc., which manages 401(k) plans. He is a strong advocate for the 401(k) as a retirement tool, but even he expressed frustration over recent trends, particularly the discontinuation of employer matches. He didn’t blink at the news that one in five of our survey respondents had experienced that particular form of corporate cost-cutting.

“I’m not surprised by that number,” Middleton said. “I don’t know our percentage of employers who have quit making employer contributions, but we do have them. What’s more concerning is when these firms have decided not to match or not to have an employer contribution, participants have chosen not to participate as well.”

Employers have stopped the match simply to preserve cash during a particularly long and painful recession. But employees have taken it as a sign that they should not be putting their money into this particular vehicle either – and at a time when only a winning lottery ticket has more upside potential.

“They are missing out on the tax benefit,” Middleton said. “And, candidly, it’s frustrating for some of us in the industry because when there was an opportunity to buy at lower prices, the less sophisticated investor has been sitting on the sidelines.”

There has been, he said, a “slight increase” in employee contributions since the stock market has improved. In other words, folks who sat it out when they had the chance to buy low have jumped at the chance to buy high.

Meanwhile, a lot of participants are already in the hole, he said, because the number of loans taken from 401(k) plans and hardship withdrawals are at record levels. “This is just another indication that people in the marketplace are financially strapped, and that’s another source of cash,” he said.

But Stephens Inc. has seen a couple of good trends as well. According to Middleton, 401(k) participants have been much more interested in getting professional advice on how to invest and are putting more money into managed products called “target-date” or “lifestyle” funds.

“We hear and spend a lot of time talking to participants these days. They are looking for answers,” he said.

And those are things to love, although I’m not sure scaring the current crop of 401(k) participants into making wiser investments will do anything to improve the system for the long haul.

(Gwen Moritz is editor of Arkansas Business. E-mail her at [email protected].)