Study finds mixed benefits of 401(k) plans for workers

A recently released study by the Tax Policy Center examines the benefits that workers get from having 401(k) plans. The study found that contributing does confer benefits, but higher earners benefit most.

Workers with retirement fund paid more than those without

The number of employers that offer a traditional pension are rapidly diminishing, as the 401(k) retirement account has become the dominant form of retirement plan. The plans take a variety of shapes and investment strategies, but basically a portion of a person’s pre-tax earnings are funneled into a fund that uses a number of investment instruments and savings to hold that money until retirement. Some employers will match contributions, up to a point.

The Tax Policy Center, an economic think tank, has just released a study about how workers fare if contributing to a 401(k) retirement account, according to Time magazine. Among other findings, authors Eric Toder and Karen Smith found that overall wages for workers whose employers contributed to a 401(k) plan were lower than for those whose employers didn’t. However, they also found workers with an employer 401(k) plan made more money when contributions and wages were combined than those with none.

Wealthier workers benefit more

Another feature of the 401(k) is that earnings and interest on a 401(k) plan are not taxable. The money a person withdraws from it is eventually taxed as income, but whatever it accrues is not subject to a capital gains tax.

However, according to the Christian Science Monitor, benefits of the tax deferral are greater for those who earn a lot. In other words, a person in the 20 percent tax bracket who dips to the 15 percent bracket upon retirement proportionately benefits less than someone who drops from the 35 percent bracket to the 20 percent bracket.

Contributions cut into pay

Every contribution from an employer has to come from somewhere. In other words, when an employer puts an extra $1 into an employee’s retirement fund, one less $1 is paid to the employee.

The Tax Policy Center found every $1 of additional employer contribution into 401(k) accounts resulted in a loss of 11 cents of income for low income female workers and 29 cents for males. For high income workers, it’s up to 99 cents. Essentially, wages are reduced more for high income employees than low income employees if an employer wants to boost retirement contributions instead of giving employees raises.

The risks

There are risks inherent to the 401(k) plan and other retirement accounts that rely on investments. When the market tanks, so do retirement accounts.

[Unlike waiting on gains from the market, short term loans can be depended on.]

The wild swings in the stock market this year highlight the kind of losses that can occur as a result. According to Reuters, Fidelity Investments, one of the largest 401(k) administrating firms in the U.S., the average 401(k) balance at the end of March 2011 was $74,900. At the end of September, according to the Syracuse Post-Standard, it was $64,300.

Sources

Time

Christian Science Monitor

Reuters

Syracuse Post-Standard on Syracuse.com: http://www.syracuse.com/news/index.ssf/2011/11/fidelity_401k_balances_drop_12.html