How the Endorsement Effect Can Impact Your Retirement Plan

One of the biggest boons to enrolling participants in a qualified retirement plan has been automatic enrollment. Rather than choosing to participate, employees are automatically enrolled in the plan and must opt out if they don’t want to participate. In one firm that switched from standard enrollment to automatic, plan participation was 35 percent higher with automatic enrollment after three months, and 25 percent higher after two years.

Seeking those types of results, more companies are turning to automatic enrollment. It leverages participants’ inertia by requiring them to take an action to stop saving, rather than to take action to enroll in the plan. Typically, companies start participants at a relatively low 3 percent of pay, reasoning that a small amount is less likely to cause hardship and force a participant to opt out. However, this particular enrollment strategy can have some unexpected consequences, and one of them is discussed in a 2006 study from the National Bureau of Economic Research.

The Endorsement Effect

The endorsement effect refers to plan participants’ tendency to assume that their employer is recommending that they save only 3 percent of their pay. Since that is the set amount, employees feel that’s enough savings to guarantee a successful retirement. Of course, a savings rate of 3 percent is considered much too low by most financial experts. But once started at 3 percent, many participants simply stayed at that level, even if the employer provided matching for higher savings rates.

The interesting fact uncovered by the study, though, was that when the company studied raised the default savings rate to 6 percent of pay, significantly more employees chose to save 6 percent. In fact, 49 percent of employees chose to save 6 percent when enrolled under a 6 percent default rate, while only 24 percent of employees chose to save 6 percent when enrolled under a 3 percent default rate.

Optimize Your Plan

To get the best results for your employees and your plan, you may need to look at your plan enrollment policies. The Participant Effect^SM is a program that uses behavioral finance to offer you specific strategies to increase your plan enrollment and help your participants plan for retirement. Find out more by calling 888-968-9168.

Tracking number: 1-405417

This information was developed as a general guide to educate plan sponsors but is not intended as authoritative guidance or tax or legal advice. Each plan has unique requirements, and you should consult your attorney or tax advisor for guidance on your specific situation. In no way does advisor assure that, by using the information provided, the plan sponsor will be in compliance with ERISA regulations.