The Expected Impact of Automatic Escalation of 401(k) Contributions on Retirement Income

Abstract

The Pension Protection Act (PPA) of 2006 allows employers to automatically enroll workers in the company's 401(k) plan and to automatically increase a worker's 401(k) contribution to coincide with a raise or a work anniversary -- though the employee can decline both enrollment and the increase. To qualify for nondiscrimination protections, automatic (or default) contributions must be at least 3 percent in the first year and increase regularly. The provision was added in an attempt to boost 401(k) accounts, the primary vehicle for worker retirement savings. This paper uses data from the 2007 Retirement Confidence Survey (RCS), fielded several months after the enactment of PPA, which asked workers how high they would allow their default 401(k) contributions to go. The result is a first approximation for the expected impact of automatic escalation under the PPA safe harbors for a number of different assumptions about worker and employer reactions.

Keywords: 401(k) plans, Employment-based benefits, Pension plan contributions, Retirement income

JEL Classification: D91, J26, J33