Is Auto-Enroll Right for Your 401(k) Plan?
Learn the ins and outs of this popular plan feature that streamlines the participant experience.
“Maybe when I make more.”
“Maybe when I pay off my student loans.”
“Maybe when my horoscope tells me it’s time.”
When it comes to employees enrolling in and funding their 401(k)s, there’s always a reason why now isn’t the right time.
But the fact is the best time to save for retirement is right now, while time and the power of compounding growth are on their side. That’s where 401(k) automatic enrollment—or ‘auto-enroll’ for short—comes in. It gives your employees the gentle nudge they might need to start saving for retirement.
Deciding whether or not to automatically enroll your employees is one of two key 401(k) plan considerations. The other is whether to go with a Traditional or Safe Harbor 401(k) plan. In this article, we’ll walk you through the ins and outs of auto-enroll including:
- How auto-enroll works
- The three (and soon to be two) types of auto-enroll
- Auto-enrolled, but at how much?
- One potential downside of auto-enroll
- How Betterment at Work makes ‘auto’ even easier
How 401(k) auto-enroll works
As the name implies, automatic enrollment lets employers automatically deduct elective deferrals from employees’ wages. Simply put, it means your employees don’t have to lift a finger to start saving for retirement.
Compare that to the typical enrollment process where employees must go online, make a phone call, or submit paperwork to access their retirement plan. All those little steps take real effort, and employees who are on the fence about enrolling might not be bothered to do it. Before they know it, years have passed, and they’ve missed out on valuable time in the market that they will never get back.
Or you can do them a solid and make it all automatic.
If you decide to add an automatic enrollment feature to your 401(k) plan, you must notify your employees at least 30 days in advance. After you do, they have three options:
- Opt out. Employees can opt out of 401(k) plan participation in advance. At Betterment at Work, by the way, we make it simple for employees to do this online.
- Customize their contribution amount or investments. Instead of enrolling with the default automatic enrollment elections, employees can stay enrolled but choose their own contribution rate.
- Do nothing for now and enjoy the ride. Here we see the beauty of automatic enrollment. Employees don’t have to do anything to start investing. Once the opt-out timeframe has elapsed, they’ll automatically begin deferring a certain percentage of their pay to their 401(k). Employees are typically informed each year that they can opt out from this enrollment.
As you can imagine, option C is a popular choice. Among our clients who use auto-enroll, the employee participation rate is nearly 90 percent.
The three (and soon to be two) types of auto-enroll
Before we go into the different flavors of auto-enroll, know that the SECURE 2.0 Act signed into law in 2022 will be simplifying things here. Currently, there are three types of auto-enroll, but beginning in 2025, all plans created Dec. 29, 2022 or later (with a few exceptions) will essentially have two options. If your plan has an effective date before that date, it’s grandfathered in and the new auto-enroll rules won’t apply to it.
All three types of auto-enroll that currently exist require that employees be enrolled at preset contribution rates and have the options to opt out or change their contribution rates. That’s effectively where a Basic Automatic Contribution Arrangement (ACA) begins and ends. Two other varieties add a few more wrinkles on top of that.
With an Eligible Automatic Contribution Arrangement (EACA), employees can also request a refund of deferrals within the first 90 days.
Employers come to a Qualified Automatic Contribution Arrangement (QACA) by way of a Safe Harbor 401(k) plan. That means they’ve already committed to, among other things, a specific threshold of employer contributions. Safe Harbor plans that include auto-enroll must also steadily increase their employees’ contribution rates each year in what’s often referred to as automatic escalation. We offer auto-escalation at no added expense for all new plans.
Here’s how all this shakes out in grid form:
Automatic Contribution Arrangement
Automatic Contribution Arrangement (EACA)
Automatic Contribution Arrangement (QACA)
|Employees enrolled at preset contribution rates||✓||✓||✓|
|Employees can opt-out or change contribution rates||✓||✓||✓|
|Employees can request refunds of deferrals within first 90 days||✓||Optional|
|Requires employer contributions (i.e. Safe Harbor)||✓|
|Requires annual increase in employee contribution rate (i.e. auto-escalation) up to at least 6%||✓|
Beginning in 2025, the SECURE 2.0 Act essentially makes EACA the default for all 401(k)s created Dec. 29, 2022 or later, again with a few exceptions. That means for those plans, employees’ deferrals must be set between 3-10% and escalate up to 10-15%. Newly auto-enrolled participants must also have a 90-day window to request their funds back. Keep in mind that if your plan has an effective date before Dec. 29, 2022 and you want to change providers, you can take it with you rather than create a new plan. All things considered, here’s what the options will be for recently-created plans beginning in 2025:
|Beginning in 2025, for all plans with effective dates of Dec. 29, 2022 or later||Eligible
Automatic Contribution Arrangement (EACA)
Automatic Contribution Arrangement (QACA)
|Employees enrolled at preset contribution rate||✓||✓|
|Employees can opt-out or change contribution rate||✓||✓|
|Employees can request refunds of deferrals within first 90 days||✓||✓|
|Requires annual increase in employee contribution rate (i.e. auto-escalation) starting at 3-10%, then escalating at least 1% a year up to 10-15%||✓||✓|
|Requires employer contributions
(i.e. Safe Harbor) and accelerated vesting schedule
Auto-enrolled, but at how much?
With auto-enroll plans, you pick your employees’ default contribution rate. This begs the question: how high should you set it? A default contribution rate of 3 percent used to be the most common, but that changed recently. According to The Plan Sponsor Council of America’s 64th Annual Survey, a 6 percent rate became the most popular in 2020. And if it helps any in your decision-making, our own data shows no evidence of higher default contribution rates leading to higher numbers of opt-outs.
In addition to the default contribution rate, you’re also responsible for selecting the default investments for employees’ deferrals. This is what’s referred to as a Qualified Default Investment Alternative (QDIA) – and it can help limit your investment liability. Betterment at Work covers this base for all our 401(k) clients by defaulting employee deferrals into our Core portfolio, which meets QDIA criteria for transferability and safety.
One potential downside of auto-enroll
Making it easier for people to invest and save for retirement is a good thing. It’s sorta our thing. And if you have a Traditional 401(k) plan, an increased participation rate makes it more likely that your plan will pass the required compliance tests.
However, there’s one downside to consider, and it’s mostly a matter of perspective. If you set your default contribution rate relatively low – let’s say less than 6 percent – and don’t actively encourage employees to bump that up as much as they can, they may not get on track to retire by their desired age. Is it better than saving nothing for retirement? Absolutely. But because employees didn’t actively choose the rate, they may not be inclined to increase it on their own.
Wondering how to combat this retirement saving inertia? Well, it can be partially addressed by the aforementioned auto-escalation, which steadily increases employees’ contribution rates each year. We also help by offering your employees personalized retirement advice that helps keep them on track.
How Betterment at Work makes ‘auto’ even easier
As a digital 401(k) plan provider, we can help your employees save for their futures with compelling plan design features like auto-enroll. Our intuitive tech and committed service also lightens your administration load in the process.
And let’s not forget about auto-escalation, which we offer at no added cost to new plans. Let us handle the work of monitoring who gets escalated. If your payroll provider is one of the many we integrate with, we'll even implement the increase ourselves.
Last but certainly not least, we guide your employees through their contribution rates, investment options, and more. Even if your employees were auto-enrolled in the plan, they’ll get the encouragement they need to keep moving closer to retirement.