What happens when 401(k)s replace pensions?News added by Benefits Pro on July 3, 2014

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Joined: September 07, 2011

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By Chuck Epstein

Can replacing a pension plan with a 401(k) hurt the career paths of younger workers and cause stagnation among more senior employees?

Yes, according to a study by a Mercer partner who looked into how the switch to 401(k)s has changed retirement thinking for employees.

Haig Nalbantian, a labor and organizational economist and senior partner at the HR consulting firm, studied employee development and career paths at two unnamed global corporations in the consumer products sector. Both companies followed a culture of promoting from within.

One company in the study eliminated its pension plan in the late 1990s and replaced it with a 401(k). The other firm maintained its pension plan. Both companies did not show any immediate changes in employee dissatisfaction levels concerning their two approaches to retirement, but this changed when the recession hit and the economy slowed.

When this happened, the research found that in the company that had the 401(k), younger workers became dissatisfied as older workers remained on the job and prevented their career advancement.

This affected job mobility “velocity,” Nalbantian found, and the percentage of people moving into new positions, whether vertically or horizontally, stalled at 11 percent. This, in turn, accelerated the exit of more talented people who saw advancement potential evaporating, the research found.

On the other hand, at the firm with a pension, velocity remained at about 18 percent.

This showed that people were retiring on their expected timelines, he said. Nalbantian found that the average retirement age at the first company among workers who joined after the 401(k) was established was 64, while the average was around 60 at the second company.

Essentially, the larger impact of the move from defined benefit to defined contribution retirement plans means employers “have lost their primary source of influence over the timing of their employees’ retirement,” Nalbantian concluded.

Replacing pensions with 401(k)s also has hidden costs in terms of employee turnover; talent stagnation, people who “retire on the job” and simply stop working hard to get promoted, he added.

When there is a lack of innovation, it takes a toll on productivity and morale because “you need replenishment to make sure you’re not living in the past,” said Nalbantian.

Employers that want to avoid all of that, his report said, “can design DC retirement plans that are more DB-like (and) could help facilitate graceful exits.”

For example, a DC plan with default annuitization at payout mitigates the longevity risk an employee faces and may influence the timing of employee retirement, the report suggested.

Lump sum payments may be another attractive route for some employees, but this also carries the risk of accelerating spending in retirement, Nalbantian noted.

Originally published on BenefitsPro.com
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