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VOL. 22, NO. 3 AUTUMN 2009 B ENEFITS L AW JOURNAL Risk and Responsibility T he Great Recession has given voice to a growing chorus of pension activists in Washington chanting that the 401(k) is broken and America has failed to deliver

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he Great Recession has given voice to a growing chorus of pension activists in Washington chanting that “the 401(k) is broken” and America has failed to deliver on its supposed promise of “a secure retirement.” The solution they propose is an unbalanced three-legged stool that would assign the lion’s share of risk and responsibility to Uncle Sam and employers and leave workers themselves largely off the hook. To be sure, ensuring a secure retirement for all is an entirely appropriate goal for the nation. Like many observers, I’ve long noted that increasingly poor financial habits, the decline of defined benefit plans, and mounting troubles with Social Security have left individuals entirely unprepared for the key risks of retirement planning—namely, inadequate savings, longevity, and inflation. But what’s happened to the role of personal accountability? The would-be pension “reform- ers” have it so wrong, it’s scary.

Risk. The four-letter word of retirement planning, risk, is not a

recent phenomenon—it’s existed since the first caveman hung up his club and tried to live off his cache of stored nuts and berries. The Worst-Investment-Market-Since-The-Great-Depression—a meltdown that so far has cost 401(k) and other defined contribution plan par- ticipants some $2.8 trillion—is a painful reminder that no investment is bullet-proof. Secure money market funds can break the buck; “guaranteed” stable value funds can lose money if a plan terminates when market value is less than book value; real estate investment funds can suspend withdrawals; and security lending can unexpect- antly backfire. And, periodically, novice and sophisticated investors alike are bamboozled by Ponzi schemes. What’s changed in recent years is the increased possibility that a retiree will outlive his or her retirement savings. It’s not just that people are living longer, but that retirement age has not increased with

BENEFITS LAW

JOURNAL

VOL. 22, NO. 3

AUTUMN 2009

Risk and Responsibility

SLIDE 2 From the Editor BENEFITS LAW JOURNAL 2

VOL. 22, NO. 3, AUTUMN 2009

longevity (or has even gotten younger). Most folks no longer work as long as they can. But inflation has been around since people switched from barter to currency. And no one has discovered a magic bullet to protect against longevity (which, after all, is a good). These risks can

nly be hedged or shared through financial products such as annui-

ties that essentially allow individuals to pool their money, with the folks who die early covering those on the other side of the mortality

curve. Stuff happens, and risk always will be with us.
Responsibility. The first line of defense against the financial risks
f retirement has always been to save more money than you think

you’ll ever need and invest it prudently. Yet, over the last couple of decades, our national savings rate has plummeted, occasionally going into negative territory. This trend has resisted ubiquitous media atten- tion, employer-sponsored 401(k) plans with matching contributions, investment education, relentless advertising by mutual fund families, insurance companies and Wall Street, and the like. Some headway was made in the 2006 Pension Protection Act, which gave employers sig- nificant new legal protections and incentives to add auto-enrollment and auto-increase features to their 401(k) plans. Behavioral economists had argued—and experience to date has shown—that when employees have to take deliberate action not to contribute to their company’s 401(k) plan, inertia propels most to default to saving. However, it seems to have taken the Great Recession to change

things. The national savings rate is finally heading up and many

economists and social scientists believe this is likely to be a long-term change in people’s outlook and behavior. Unfortunately, now that folks are starting to get the concept of saving, the answer being pro- posed is to kill the 401(k). The Obama administration and Congress now question whether the Treasury is getting its money’s worth for the $53 billion plus a year in lost revenue for 401(k) and defined contribution plan deductions. It is telling that these critics presume that it is the US government’s money that workers are being generously allowed to keep, rather than the taxpayer’s own earnings that the Treasury is losing out on. In fact, such deductions don’t cost the Treasury a penny. The mis- understanding arises because tax revenue is scored by estimating the additional money the Treasury would pocket over ten years if 401(k) contributions were taxable. But with 401(k) plans and other tax- deferral programs, the correct measurement is actually the present value cost of the delayed tax revenue. The present value is a fraction

f the $53 billion cost of 401(k)s. (For an excellent analysis of this

issue, see “Revenue Estimates and Tax Policy” by Judy Xanthopoulos and Mary Schmitt.) However, given Congress’s propensity to spend between 105 and 110 percent of tax revenue, the 401(k) tax deferral actually saves the Fed money. Not to mention that those deferred

SLIDE 3 From the Editor BENEFITS LAW JOURNAL 3

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taxes get paid when employees retire and begin withdrawals—just when it will be needed to cover the added strain these new retirees will place on Social Security and Medicare entitlements. That’s only the start. In white papers and Congressional hearings, the folks at such organizations as the Pension Rights Center, the Retirement U.S.A. team, and Alicia Munnell at Boston College’s Center for Retirement Research advocate replacing 401(k) plans with an employer-provided, government-backed system that would assume all investment risk. Some advocates, most notably Teresa Ghilarducci

f the New School for Social Research in New York, actually call for

a government-guaranteed investment yielding some 4 percent above inflation. Sadly, there is no Tooth Fairy. The simple reason why this approach is lunacy is that when savings rates and investment returns are inadequate, the difference must be made up by someone. The United States is not a separate entity from its citizens—ultimately, taxpayers themselves will foot the bill for any government-sponsored retirement program that seeks to guarantee everything to everyone. Why should workers as a group have to pay for the spendthrifts who do not live within their means? If employers are required to provide such a guarantee, the funds will end up coming from employees themselves, generally through lower wages or job losses. In the worst case, if the shortfall can’t be funded, the employer may be forced out

f business. It should be an obvious point that the cost of any benefit

mandate or funding obligation will cause a dollar-for-dollar reduction in current wages. Of course there are serious problems existing within the current retirement system. Tax and ERISA rules are overly complicated and

burdensome. Fully half of workers are not covered by any employer

plan, thereby losing the retirement infrastructure and tax benefits that come only with an employer plan. Changes are needed to discour- age pre-retirement leakage of retirement assets and to help make a nest egg last a lifetime. There may be better ways to invest retirement dollars and educate employees. Perhaps it may be worth debating whether the government should require that all workers contribute to some sort of funded retirement program. And, without a doubt, there are some folks who will need extra support, whether because

f poverty, illness, incapacity, or whatever.

Risk and Responsibility. There will always be risk and uncertainty. The US government can no more guarantee a secure, inflation- proof, low-cost, steady lifetime pension than it can outlaw gravity. Everything has a cost. While employers can help employees prepare for retirement, they cannot compel financially prudent behavior, and any employer retirement benefit will end up being paid for through lower current wages.

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Ultimately it is, and should be, up to the individual to achieve his

r her financial well-being through some combination of hard work,

delayed retirement, increased savings, and lower material expecta-

tions. What our government can do is to better police the financial

markets, make it easier for employers to adopt and maintain retirement plans, as well as to nudge their employees to save, invest, and prepare for their own financial future. David E. Morse Editor-in-Chief K&L Gates LLP New York, NY Reprinted from Benefits Law Journal Autumn 2009, Volume 22, Number 3, pages 1-3, with permission from Aspen Publishers, Inc., Wolters Kluwer Law & Business, New York, NY, 1-800-638-8437, www.aspenpublishers.com From the Editor