It's no wonder Americans are often befuddled by questions regarding the best way to save for retirement. Not only are there multiple IRAs to choose from, but employer-sponsored plans also come in all shapes and sizes -- 401(k), 403(b), 457, SEP-IRA, SIMPLE 401(k).
If President Bush's budget proposal goes through, though, all those variations will be consolidated into one pan-employer plan -- the Employer Retirement Savings Account.
But as we've all learned at one time or another, one size does not
fit all. A closer look at the proposal reveals some, er, irregularities.
Flexibility or a Straitjacket?
Employer Retirement Savings Accounts, or ERSAs -- not to be confused with ERISA, the Employee Retirement Income Security Act -- are similar in design to 401(k)s, but with broader application.
For one, any and all employers would be able to offer ERSAs -- including nonprofits and government agencies, both of which typically offer 403(b) and 457 plans, respectively. Individuals would be able to contribute up to $12,000, $15,000 in 2006. Individuals 50 and over would also be able to make a "catch-up" contribution of $2,000 a year, increasing to $5,000 in 2006. Those are the same contribution limits currently on the books for 401(k) plans, 403(b) plans, SAR-SEPs and 457 plans.
Like the existing plans that ERSAs would replace -- and unlike the Lifetime Savings and Retirement Savings Accounts also created in Bush's budget -- all contributions would be deducted from salary
Under the proposal, beginning in 2004, all 401(k) plans would become ERSAs. Other types of plans may continue to exist indefinitely, but further contributions would not be allowed after 2004.
The Jury's Still Out
Not everyone is excited about this supposed simplicity, though.
"Simplicity without flexibility is just a straitjacket," says Janice Gregory, vice president of the ERISA Industry Committee in Washington, D.C., an employee-benefits lobbying association of Fortune 100 companies. "These rules try to squeeze all employers into one mold. That's just not how it works -- and with good reason."
Employers often have different 401(k) plans from their peers for a variety of reasons. Some may have beefier 401(k) plans because that's all they offer. Others may offer a pension plan or some other benefit in addition to the 401(k). Some may not offer anything at all.
"The jury's still out on ERSAs," says Frank McArdle, the manager of Hewitt Associates' Washington research office. "There's a lot of concern and consternation, particularly among small business groups."
One main concern is that as a result of the budget proposals, small businesses would be less likely -- rather than more so, as intended -- to offer retirement plans to their workers.
Small businesses, especially those with fewer than 25 or so employees, currently feel pressure to offer retirement plans, both for their owner's savings as well as the employees. But if the owners are able to save $15,000 a year outside of an employer plan (as they would in the LSAs and RSAs), they may be less inclined to contend with the administrative hassles of offering an ERSA.
"Many people are worried that if small business owners are able to save effectively outside of a company retirement plan, they will do so and avoid the red tape of offering an employer plan," McArdle says. "The workers would lose out; there wouldn't be as much incentive for them to save." While the workers would also be able to open their own LSAs and RSAs, they would lose the pretax salary deductions and employer match that most of these plans offer.
You Say ERSA, I Say ERISA
There's another aspect to all this simplifying that has some observers concerned: the elimination of some rules that are in place to make 401(k) plans more fair to lower-income participants and not a tax shelter for highly compensated employees.
ERSAs would still be covered by ERISA, which was enacted in 1974 to ensure that employees actually receive the pension and other retirement benefits promised by their employers. ERISA is also inextricably bound to the Internal Revenue Code in order to encourage employers to even offer such benefits. ERISA rules, which cover 401(k)s but generally not the retirement plans offered by nonprofit or government employers, were also designed with several "tests" aimed at ensuring that these tax-favored retirement plans do not favor the highest-paid employees over the rest of the unwashed masses.
Essentially, these tests limit how much highly compensated employees (defined, for these purposes, as those with $90,000 a year or more in wages) are allowed to contribute, on the basis of the level of participation of lower-paid employees. In order for these highly compensated employees to contribute the full amount allowed by the Internal Revenue Service, lower-paid employees must have a certain level of participation.
Many companies help goose participation by offering a "company match." (That's right: As generous as it seems, the company match isn't driven by pure altruism.)
While some of the so-called discrimination testing will remain in place, a few tests will be eliminated. "Since it appears there will still be some discrimination testing, employers should still have some incentive to offer a match," says Dan Halpin, a benefits consultant with Grant Thornton in Washington.
Even so, ERSAs may still prove to be a boon for highly paid employees. "It certainly seems that highly compensated employees will come out doing better if there's less stringent testing," says Richard O'Donnell, a tax analyst and pensions editor at RIA, a provider of tax information for professionals.
The questions that surround ERSAs will no doubt be debated along with the other savings accounts created by the budget. But while LSAs and RSAs do seem to streamline an overly complicated system, ERSAs do not.