Go Away, 401(k)?

For many workers, the 401(k) has become the default retirement plan (if they have any at all). Now, a new proposal is calling for the replacement of the 401(k) with a new national retirement system. Here are the details.

If two industry experts get their way, the 401(k) plan would go the way of the dodo bird. In its place would be a plan that requires all workers and their employers to contribute at least 3% of the employees’ salary each year toward an account that would be converted into an annuity when the time for retirement comes.

The full proposal, published here, is worth read, both for its historical perspective on how the 401(k) became an “accidental” phenomenon and why it should be tossed aside. The researchers—one a labor economist and noted retirement policy expert, the other the Chief Operating Officer of the prominent private equity firm Blackstone Group—make a compelling case that, “If nothing changes, by 2050, 25 million American retirees will be either in poverty or very close to it.”

The researchers don’t stop at decrying the current system—which serves as the default for many investors. Instead, they propose the daring new plan to develop a national retirement system called the Retirement Savings Plan (RSP). Under the RSP, both full- and part-time workers would have fully portable, individual savings account made up half of individual contributions and half of employer matches. Accumulated savings would become available at retirement and would combine with Social Security to create a lifelong income stream. Social Security even has a role in distributing the benefits at retirement, which, according to the researchers, would streamline the effort because it uses existing infrastructure.

The RSP idea comes on the heels of state legislated efforts in Illinois, Connecticut, and California, among others, and national calls for retirement plan reform. Perhaps best of all, the plan would be virtually cost-neutral for low-income workers, who would receive a federal tax credit for contributing to the plan. For employers, the mandatory 1.5% contribution would be offset, to a large degree, by the decreased administrative costs associated with securing and maintaining retirement plan providers for their employees.

Mandated employee contributions would be offset by a “revenue-neutral federal tax credit” of $600 for every worker, “making it virtually costless” for lower-income families to contribute, the proposal says. The credits would be funded by phasing out the ability of individuals to defer taxes on their 401(k) contributions. The contribution cost for most employers would be offset by their no longer having to administer or contribute to other retirement plans.

“All that is missing—at least for now—is political will to solve this crisis while we still can,” the authors note. “Will we act now, while there is still time to solve this problem? Or will we wait for the next wave of chilling statistics that are surely up ahead? If we act now, we have time to build up savings gradually and the cost will be modest. If we wait, there will be a crisis down the road and the cost will be huge.”