How Bush may accelerate 401(k) trends

The Bush administration wants to push Americans into greater self-reliance in looking after their own needs for their retirement years.

Social Security would be altered, with a portion of the program looking like a 401(k), involving individual accounts.

Corporations would find it easier to modify traditional pensions into retirement plans that are, again, more like 401(k)s. Younger workers could benefit from enhanced account portability. Older ones may pay a price in lower benefits.

Individuals would be given new options for tax-sheltered saving.

To supporters, the president's proposals extend long-needed opportunities to workers in an era when people are used to keeping an eye on mutual funds from their desktop computers.

"Generally, the trend is away from a pension provided by the government or companies to one controlled by the individual," says Andrew Biggs, an analyst at the Cato Institute in Washington.

But to critics, Mr. Bush's plans may fail to encourage greater savings, while accelerating a trend that has already been undercutting key goals of traditional pensions: certainty and security.

Indeed, the prospects for passage in Congress are uncertain, and some news reports suggest the White House is not putting high priority on selling the plans.

For years, corporations have been shifting from so-called "defined-benefit" pensions to 401(k) plans where investments are chosen by workers and not guaranteed to provide an income stream in retirement.

The Bush proposals come as Americans are living longer than ever, and changing employers often - a trend that has limited the usefulness of traditional pensions, where benefits rise dramatically after long years of service at a single firm.

While perhaps least imminent of Bush's proposals, Social Security reform is the most controversial. In last month's State of the Union address, Bush renewed his call for partial privatization of the program. Perhaps 2 percent of an individual's pay (or about $1 in every $6 that is now taxed for Social Security) could be invested in a personal account, with stocks among the investment choices.

A second, and newer, Bush proposal would create two new types of savings and retirement accounts for individuals. Both "retirement savings accounts" and "lifetime savings accounts" - the latter designed to help people save for needs other than retirement - would allow contributions of up to $7,500 per year. Contributions would not be tax-deductible, but the money could grow and be tapped tax-free.

Critics worry that these savings vehicles will encourage small employers to drop pension plans for their employees. Workers would be left to try to save money themselves for retirement - a task especially difficult for low-income employees. Meanwhile, they say a manager with a spouse and two children could put aside as much as $45,000 a year into the Bush tax-advantaged plans.

Under present rules, an employer wishing to set aside substantial money for retirement, also has to provide a pension system for employees.

"This will give incentives for small businesses not to have pension plans at all," says Karen Friedman of the Pension Rights Center in Washington.

In recent years companies have already been increasingly contributing a set amount each year to employee accounts, rather than guaranteeing a defined pension. The money available at retirement in such 401(k)-style plans depends on whether the workers make wise or fortunate investment choices - and whether they opt into the savings plans at all.

The advantage of 401(k)-type plans is that employees can take the assets with them when they change jobs. Nowadays, with layoffs and voluntary departures of workers from firms for better positions, that happens more often.

"Pensions are becoming more uncertain," says Alicia Munnell, head of the Center for Retirement Research at Boston College. "People are going to have to save more on their own."

In 2001, 57.1 percent of families had rights to some type of retirement plan other than Social Security, according to the latest Federal Reserve survey. That's virtually the same level as the previous survey three years earlier.

Mr. Biggs sees the trend toward self-management of retirement savings as generally good. "It is difficult for me to see a large downside," he says.

But Ms. Friedman suspects many more people will find their savings inadequate to provide a comfortable retirement. The average balance in 401(k) plans was $58,785 at the end of 2001, but 45 percent of participants had less than $10,000, according to a newly released report by the Employee Benefit Research Institute. Eleven percent - mostly older workers - had more than $100,000. The larger sums could provide some extra income on top of Social Security's modest pension. The 401(k) system, only about 20 years old, hasn't yet proved how much retirement incomes will be enhanced by saving over a lifetime of work.

Another potentially negative factor for middle-aged employees are newly proposed Treasury rules on how companies can convert traditional pension plans into more portable ones. These "cash balance" plans are a hybrid between traditional plans and 401(k)s and IRAs. Employers contribute a percentage of an individual's salary into a retirement account, plus interest. Benefits accrue more steadily over time than they might under traditional plans. In such plans, benefits spike as a worker approaches retirement, say, 55. The old system was designed to encourage workers to stay with a firm a long time.

For the younger worker, the cash balance plan has the advantage of portability. With a change of jobs, the money can be shifted into an IRA. But some of the conversions have cost older workers the equivalent of, say, $30,000 to $50,000, in pension money. Some steel, auto, and other old-line companies are finding their traditional pensions difficult to maintain.