The 401(k) has become king of the retirement industry, knocking down its competition in pensions and overshadowing the contribution limits of the IRA — but it could use some improvement.
In the last 40 years, the 401(k) plan has emerged as the most common way for employers to offer a retirement benefit to their employees. Now more than ever before, Americans are responsible for their own future financial security, as companies have moved away from corporate pension plans, which provided a benefit to retirees in a previous era.
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The 401(k) has filled some of the gap, allowing workers to contribute as much as $30,500 a year (for people 50 and older) in 2024 and giving employers the opportunity to make their own contributions to workers’ accounts or to match those made by employees. These plans come with tax benefits, since they can be contributed with pretax dollars, therefore allowing people to set aside more money in their investment accounts to grow with compound interest.
Nearly $7 trillion was invested in 401(k) plans in the U.S., across more than 700,000 plans and 70 million participants, as of September 2023, according to the Investment Company Institute. Rollovers from 401(k) plans to IRAs account for about half of the $12.6 trillion in IRA assets. In the private sector, 15% of workers had access to a pension, according to the Bureau of Labor Statistics, while 66% of those same types of workers had access to a defined-contribution plan such as a 401(k) or 403(b).
The federal government has begun to implement laws aimed at nudging workers and employers to prioritize retirement savings, and there are more proposals in the works. In recent years, the Secure Act and Secure 2.0 Act have targeted retirement security, including by expanding access to annuities in 401(k) plans and increasing the age at which retirees must begin taking withdrawals from their retirement accounts.
But retirement and investing experts say more work can be done for the retirement savers who rely on this workplace benefit — especially when it comes to the distribution of those hard-earned dollars that workers have set aside.
Financial-services experts and government officials are working on making the 401(k) a more powerful tool for Americans saving for retirement. Here are the five best ways they’ve come up with to improve the 401(k). Given the importance of the 401(k) to the financial futures of so many people, these five changes collectively represent one of the Best New Ideas in Money.
1. Give credits for long-term family caregivers
In many families, loved ones become caregivers for relatives who are older or who fall ill. Taking on the role of caregiver in some cases means people must cut back on the hours they work for pay or even stop working altogether. The job of caregiver is an important one, but it can come with significant emotional, physical and financial side effects. With fewer hours — or no hours — of paid work, family caregivers not only lose part or all of their paychecks, but they also earn fewer credits toward Social Security or stop earning credits entirely, potentially resulting in a lower benefit.
The Secure 2.0 Act, which was passed by federal lawmakers in 2022, targeted retirement savers’ need to balance paying down student debt with investing for their future. Under the law, companies can now treat student-loan repayments like 401(k) contributions and provide a match to the worker’s retirement account. The same concept should apply to family caregivers, who also lose out on retirement savings through workplace plans when they decrease their hours or step away from their jobs, said Jamie Hopkins, senior vice president of Private Wealth Management at Bryn Mawr Trust. “People providing long-term care are providing valuable work services,” he said. “It is impacting their ability to save for retirement.”
U.S. Rep. Chris Pappas, a New Hampshire Democrat, in December introduced a proposal called the Expanding Access to Retirement Savings for Caregivers Act that aims to take care of caregivers. The proposal, which Pappas co-sponsored with Republican Reps. Claudia Tenney of New York and Debbie Lesko of Arizona, would allow people to make catch-up contributions to retirement accounts such as 401(k) plans and IRAs if they took time away from work to serve as a caregiver.
The care that 38 million unpaid family caregivers provide was worth about $600 billion in 2021, according to AARP, which factored in an average of 18 hours of care per week at an average of $16.59 per hour. Women provide about 2.2 times more care than men, according to research distributed by the JAMA Network.
2. Automate annuities in target-date funds
Global investment firm BlackRock recently unveiled a target-date-fund program that automatically incorporates annuities into investors’ portfolios. Target-date funds are linked to when investors intend to retire, such as 2050 or 2065, and automatically adjust from more aggressive to more conservative investments as an individual ages. That means they typically start with portfolios that are highly exposed to stocks and slowly transition to a mixture of stocks and bonds.
The new product, called LifePath Paycheck, allots a portion of a target-date fund to vetted insurance products, beginning with 10% at age 55. By age 65, the fund will be 70% allocated in investments, and 30% can be annuitized, if the individual chooses. This setup will give retirees a “license to spend,” as they’ll get retirement income from the annuity investments that is similar to a worker receiving a paycheck, Jason Fichtner, chief economist at the Bipartisan Policy Center, said at a BlackRock media event announcing the product.
The decumulation phase of a 401(k) is not quite as simple as the accumulation phase, for which systems are in place to automatically enroll workers or increase their contributions, Kathleen Kelly, founding and managing partner of Compass Financial Partners, said at the same event. “Plan participants need to be an accountant, investment manager and actuary” when it comes to drawing funds from their accounts, she said. Having annuities within the asset allocation of a target-date fund will continue the “do it for me” approach many retirement investors rely on through their workplace plans, she said.
Automation is a powerful tool for retirement savers, as exemplified by auto-enrollment, in which companies automatically place their workers into an employer-sponsored plan like the 401(k), with workers having to opt out of the plan rather than making t hem opt in. Auto-enrollment has been cited as helping retirement savers put away billions of dollars for their future security.
3. Expand guaranteed-income options within defined-contribution plans
Legislators expanded access to annuities in 401(k) plans through Secure 2.0, but workers would benefit from a larger universe of options, Hopkins said. There are many more guaranteed-income products available outside of 401(k) plans than within them, and having a centralized marketplace could make the process simpler to navigate and more affordable. It would work in a similar way as a trade request for an investment, but instead of putting money toward an order for a stock, that money would be contributed toward the premium for a deferred-income product.
Getting everyone on board with having annuities as part of retirement plans has been difficult. Plan sponsors have been hesitant, and even once such a system is adopted, companies would have to convince plan participants to use the option. Participants might worry about the solvency of insurers behind these products, while employers might stress about the regulations for the products they use. Critics of the Department of Labor’s latest fiduciary rule, announced in April, say more stringent regulation of commission-based products, including insurance and guaranteed-income products, will make these types of investments even harder to come by.
Before a marketplace could be viable, companies would have to get comfortable with offering more than one type of in-plan annuity product, said Wade Pfau, professor of retirement income at the American College of Financial Services. “That situation will last for quite a while before there is any strong movement of having a broader list,” he said.
4. Forbid preretirement withdrawals
Retirement savers would be better served if they were not able to access the funds in their 401(k) plans prior to retirement, said Teresa Ghilarducci, director of the Schwartz Center for Economic Policy Analysis at the New School. Social Security and pensions, which are known as defined-benefit plans, do not allow workers to draw down assets prior to retirement.
There is currently a “leakage” problem in 401(k) plans. Leakage occurs when retirement assets are taken out of accounts prior to retirement for nonretirement-related reasons. According to the Employee Benefit Research Institute, there are four types of withdrawals: cash-outs, when money is withdrawn after a job change without being rolled into another type of retirement account; hardship withdrawals, when assets are used to pay for an emergency; loan defaults, which happen when a worker who borrowed savings from a workplace plan does not return the assets in time; and delays in initial plan participation, even if a worker is eligible to participate.
Cash-outs are a big part of the problem, because workers face hurdles in rolling over their savings from one type of plan to another when they change jobs. They may need to submit extensive paperwork or navigate communication between the two investment firms. Some retirement savers may opt to simply take the money out without making a qualified transfer to another plan or IRA, which not only affects their investment prospects but also subjects them to taxes and penalties.
Such lump-sum distributions account for losses of defined-contribution assets totaling between $60 billion and $105 billion every year, according to a 2019 study from the Savings Preservation Working Group.
The account balance matters in these instances, too. For example, some companies have rules that say an account with a low balance — such as under $5,000 — must be cashed out.
A consortium of large 401(k) plan administrators — including TIAA, Fidelity Investments, Vanguard and Principal — announced in November that they had launched a program that would keep plan participants’ investments intact, even if they change jobs. Through the Portability Services Network, workers will be able to move money more efficiently between 401(k) plans or other similar workplace plans, including 403(b) and 457 accounts, when they change jobs while having account balances below $7,000. “The automation of this process will help reduce the leakage of assets from the U.S. retirement system stemming from premature cash-outs of accounts and preserve trillions of dollars in savings, which is particularly beneficial for communities of color, women, and low-income workers,” the consortium said in a statement at the time of its announcement.
5. Make plans available to more people
Perhaps one of the 401(k) plan’s biggest issues is that it’s not available to all workers. States are trying to solve that problem by creating their own programs, often known as auto-IRA plans.
With state-run auto-IRA plans, companies can — or in some states, must — offer employees a workplace retirement benefit. This is set up like a 401(k), with contributions made through payroll, but looks more like an IRA, with lower contribution limits. In 2024, IRA owners can contribute up to $7,000 a year, with an additional $1,000 catch-up contribution if they’re 50 or older. In comparison, 401(k) plan participants can contribute $23,000 in 2024, with an additional $7,500 if they’re 50 or older.
Even when workers do have access to a 401(k), not everyone takes advantage of it. The Bureau of Labor Statistics, for instance, found that while two out of three people had access to a defined-contribution plan, slightly fewer than half of those with access to such a plan participated in it.
Coverage is the “biggest problem,” said Alicia Munnell, director of the Center for Retirement Research at Boston College, but it is often linked to the individual company. Expanding coverage might involve some sort of federal mandate, she said, adding, “People with 401(k)s are the lucky ones.”
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