401(k) Automatic Escalation
/How to Increase 401(k) Contributions
It is extremely difficult for the human resources staff to convince employees to shift some of their net pay into a retirement plan, especially in situations where employees are accustomed to spending all of what they earn. Even more pressure must be applied to convince them to increase the amounts being withheld as employee compensation increases over time.
What is 401(k) Automatic Escalation?
A possible solution that takes the pressure off the human resources staff is to install a 401(k) automatic escalation system. This system contains the following features:
The plan automatically enrolls all new employees in a 401k retirement plan, which forces them to opt out of using the plan if they do not wish to enroll.
The plan automatically increases the amount of employee net pay contributed to the plan as their compensation levels increase. Again, employees must opt out of these increases if they do not wish to participate.
The plan automatically shifts their contributed funds into more conservative investments as employees approach retirement age.
In the event of an employee departure from the company, the plan automatically shifts all contributed and matched funds into a tax-deferred account. Doing so keeps employees from being penalized for having taken an immediate payout from the plan.
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Advantages of 401(k) Auto Escalation
There are several major advantages associated with a 401(k) automatic escalation program, which are as follows:
Increases retirement savings over time. Automatic escalation gradually raises an employee’s 401(k) contribution rate, typically by 1% per year until a preset limit is reached. This helps employees build their retirement savings steadily without requiring them to take action each year.
Encourages long-term financial discipline. Since contribution increases happen automatically, employees are less likely to spend the additional income they receive from raises. This "set it and forget it" approach helps them prioritize saving without feeling the immediate financial impact.
Boosts participation and engagement. Employees are more likely to stay enrolled in their 401(k) plan and contribute at higher levels when automatic features are in place. Companies that implement auto-escalation often see higher retirement readiness among their workforce, reducing financial stress for employees.
Takes advantage of salary growth. By tying contribution increases to raises, auto-escalation helps employees save more without reducing their current take-home pay. This ensures that as their earnings grow, their retirement savings grow proportionally.
Employers may benefit from higher matching contributions. Many employers match a percentage of employee contributions, so as employees contribute more, they may receive greater employer matching funds. This can significantly increase overall retirement savings and maximize the benefits of the 401(k) plan.