Stop! No Legislative Changes for Five Years

Let’s see what we can do

In 1982, when the organization where I worked converted its thrift savings profit sharing plan to a 401(k), the combined employer/employee contribution was $40,000 ($85,534 in 2006 dollars). Up to 25 percent of pay, there was no special limit for employee contributions, discrimination was prevented by the simpler more generous 1/3-2/3’s test, and there was no covered compensation limit. There was also 10-year averaging, profit sharing make-up contributions, no top-heavy rules, and no FICA on employee contributions. 

In 1983 Congress passed the first of what would be a series of laws reducing contributions into employer-sponsored defined contribution plans. The restrictions imposed on employer DC plans over the next 13 years were draconian. For example, the overall contribution limit was reduced to $30,000 and not changed for more than 10 years. Total plan contributions were cut to 15 percent of total payroll, reduced for employee elective deferrals. This effectively halved the earlier 25 percent of pay contribution percentage limit. Covered compensation limits were introduced and then reduced. Employee elective deferrals were reduced to $7,000 (at least this limit was indexed, though at a rate lower than the rate of inflation). The top-heavy rules, the bane of small plan formation, were implemented. 

Even though the employer-sponsored defined contribution system, and especially the use of 401(k), has grown dramatically since then, I believe that these changes reduced and slowed defined contribution plan formation, especially at small companies, and undermined top management support for plans at medium and large companies. I remember in 1988 a conversation with the CEO of a large company that had contributed to their plan for all employees the same generous percentage of pay based on company profits. He asked why the government had chosen to force him to set up a special plan for management, thereby undermining the company’s corporate goal of demonstrating workplace partnership through a plan where all employees were treated equally. It is no surprise that today the number one benefits issue is dealing with 409A regulation. 

I believe that these changes at least halved the amount saved in defined contribution plans over the next 20 years. At a time when the country was transitioning from the defined benefit to defined contribution model, the defined contribution system was hamstrung by these changes. The result is obvious. Defined contribution plans work for those who participate in them for an extended period. Baby boomers who were fortunate enough to participate in a defined contribution plan for at least 20 years have a significant amount set aside for retirement. Those who were not that fortunate are scrambling to catch up. 

With the passage of the Pension Protection Act of 2006, the changes we championed in 2001 have been made permanent and the barriers to automatic enrollment have been removed. The damage of earlier legislative change has been moderated. The defined contribution system is poised for dramatic increases in participation and the resulting retirement savings. Yet we are bombarded with recommendations for legislative change to the system, almost universally authored by those whose disdain for the defined contribution system is historic. 

I call on those who want America’s workers to have significant retirement resources beyond Social Security to resist legislative changes to the defined contribution system for at least five years. At that time we will know the reach permitted by the current regulatory framework and can address any gaps appropriately. The system has momentum. Significant change now could easily undermine that momentum, and there is a real possibility of negative unintended consequences that would halt it altogether.