Brookings: Projects - Retirement Security Project

New Analysis of Who Pays What in Obama’s Budget

William G. Gale — Tue, 23 Apr 2013 12:57:00 -0400

The budget recently released by President Obama proposes a balanced path toward more fiscal responsibility, containing both spending cuts and tax increases. Although the president has proposed smaller changes than in previous budgets (even after adjusting for the recent tax act), his proposals do offer several helpful ways to move forward, most particularly the proposal to cap individual income tax expenditures at 28 percent.

However, I would have liked to have seen more ambition in his proposals. Given low interest rates and a listless economy, this is an opportune time for the government to borrow money and invest in the economy in the short-term. It should also do more to restructure its debt toward longer-term obligations to protect it from sharply increasing net interest payments when interest rates do start rising. Moreover, now is the time to implement reforms that can improve long-run growth and are consistent with the long-term revenue needs of the government, such as reforming the income tax code, implementing a VAT, and introducing a carbon tax. All of ideas, both short- and long-term, should be considered in order to put our economy on the optimal growth path going forward.

The Tax Policy Center has more on the president's budget.

Authors

William G. Gale

Image Source: © Joshua Roberts / Reuters

Tax Expenditures and the Deficit: Time to Rethink Retirement Saving Policy?

Wed, 13 Feb 2013 10:00:00 -0500

Event Information

February 13, 2013
10:00 AM - 12:00 PM EST

Falk Auditorium
Brookings Institution
1775 Massachusetts Avenue, N.W.
Washington, DC 20036

As policymakers continue to search for ways to shore up the nation’s fiscal status, tax subsidies may be ripe for the picking. Tax subsidies for retirement saving account for more than $90 billion annually in lost Treasury revenue. New research suggests that the tax subsidy for contributions to retirement accounts only affects the behavior of certain financially sophisticated households and does not raise overall saving significantly, however, automatic enrollment can raise both retirement saving and overall saving. Over 60 million Americans participate in 401(k) plans. Are there less expensive, more progressive ways to generate the same or more retirement saving and overall saving than the current tax treatment of contributions to retirement accounts?

On February 13, the Retirement Security Project and the Urban-Brookings Tax Policy Center explored the results from a new study that examines whether a nudge or a subsidy is a better way to increase saving. The study also draws crucial distinctions between active and passive savers and the implications of the two groups for retirement saving policy. Speakers included study co-authors Raj Chetty and John Friedman of Harvard University, as well as Director of the Retirement Security Project William Gale.

Read the full paper and executive summary »

Audio

Tax Expenditures and the Deficit: Time to Rethink Retirement Saving Policy?

Event Materials

Long-Term Impacts of Individual Development Accounts on Homeownership among Baseline Renters: Follow-Up Evidence from a Randomized Experiment

Fri, 01 Feb 2013 15:58:00 -0500

Abstract

We examine the long-term effects of a 1998–2003 randomized experiment in Tulsa, Oklahoma with Individual Development Accounts that offered low-income households 2:1 matching funds for housing down payments. Prior work shows that, among households who rented in 1998, homeownership rates increased more through 2003 in the treatment group than for controls. We show that control group renters caught up rapidly with the treatment group after the experiment ended. As of 2009, the program had an economically small and statistically insignificant effect on homeownership rates, the number of years respondents owned homes, home equity, and foreclosure activity among baseline renters.

Download the paper (pdf) »

Authors

Michal Grinstein-Weiss
Michael Sherraden
William G. Gale
William M. Rohe
Mark Schreiner
Clinton Key

Publication: American Economic Journal: Economic Policy

Image Source: © Mike Segar / Reuters

Effects of an Individual Development Account Program on Retirement Saving: Follow-Up Evidence from a Randomized Experiment

Tue, 04 Dec 2012 16:06:00 -0500

ABSTRACT

Using data from a randomized experiment that ran from 1998 to 2003 in Tulsa, Oklahoma, we examine the 10- year follow-up effects on retirement saving of an Individual Development Account (IDA) program. The IDA program included financial education, encouragement to save, and matching funds for several qualified uses of the savings, including contributions to retirement accounts. The results indicate that, as of 2009, 6 years after the program ended, the IDA program had no impact on the propensity to hold a retirement account, the account balance, or the sufficiency of retirement balances to meet retirement expenses.

Downloads

Effects of an Individual Development Account Program on Retirement Saving: Follow-Up Evidence from a Randomized Experiment

Authors

Michal Grinstein-Weiss
Michael Sherraden
William G. Gale
William M. Rohe
Mark Schreiner
Clinton Key

Publication: Center for Social Development

Image Source: © Lucy Nicholson / Reuters

New Ways to Promote Retirement Saving

William G. Gale, David C. John and Spencer Smith — Wed, 31 Oct 2012 00:00:00 -0400

Many American households do not save for retirement. Those that do save often contribute too little, invest poorly, or withdraw funds early. These patterns leave households, particularly low- and middle-income households, vulnerable to insufficient savings to finance adequate living standards during old age and retirement.

This research report proposes retirement saving reforms designed to help boost saving among low- and middle-income households. These 11 proposals are grouped under five themes: (1) making saving easier, (2) making saving more rewarding, (3) strengthening the market infrastructure for saving, (4) providing private information to savers, and (5) improving public education for saving.

Download the full report at aarp.org »

Authors

Publication: AARP

Improving All Types of Saving With the UK's Expanded Retirement Savings Platform

David C. John — Wed, 01 Aug 2012 00:00:00 -0400

Editor's Note: this article originally appeared in the 2012 Print Version of AARP: The Journal.

Using one platform to offer a variety of services

Known in the UK under the term “corporate platform” to indicate that it expands options available on the employer’s benefit platform, the development allows employees to use the employer’s retirement savings mechanism to save and invest for additional nonretirement purposes. When the corporate platform is fully implemented, employees will be able to manage almost all of their investments and savings plans from one location, thus giving them a consolidated view of their entire financial status. If carried to its full potential, the expanded saving platform will allow employees to shop for savings products, among options that are available on the platform, instead of having to seek them out from individual suppliers—a search that often takes up work hours. Of even greater value, it gives employees one source to go to for individualized advice or financial literacy training.

The enhancement has special significance in the UK, where by fall 2012, the larger employers that don’t offer any other type of pension or retirement savings plan, must begin to automatically enroll their employees into basic retirement savings accounts. This requirement is causing a great deal of discussion about the future role of employer-provided benefits, as well as reconsideration of the fees and services included in a traditional package. The platform enhancements allow an employer to differentiate its employee benefit package from the required basic account structure. It also gives younger employees a benefit of more immediate value, than they would have from a retirement savings account that they won’t access for a good 40 years.

Presentations from a variety of service providers at an October 2011 summit hosted by Pensions Insight, a UK trade journal, showed that the platform can be easily customized to meet the special needs of a specific workforce. Using a single computer interface, employees can select from a wide variety of savings and investment options that are appropriate for their income level and stage of life. Thus, an upper income manager who manages his or her own finances could see more sophisticated products, while an entry-level worker sees more basic savings products. Live presentations by financial professionals who explain what is available on the computer platform add to the system’s value and increase its use.

A place to provide choice and to build financial literacy

The platform will have special value for moderate- and lower-income employees. While higher salaried employees may appreciate the opportunity to build their investments, the real value of the platform will be to enable moderate- and lower-income workers to find savings opportunities that they might otherwise miss because they don’t know where to go, are uncertain about what is a fair price, or for a variety of other reasons. Because employees tend to believe that services included on the corporate platform are implicitly endorsed by the employer, they usually have greater faith that the services are from legitimate providers at a fair price.

Employees at all levels can also use the site to receive guidance on individual products or basic financial literacy training. Individuals can choose from a range of options, from short videos on a specific topic by experts or fellow employees, to longer connected courses designed to meet the needs of specific age or income groups. Use is increased when employees receive emails or text messages geared to birthdays or other life events, or generated after the employee visits a specific part of the website.

Understanding the value of peer evaluations to motivate others, some providers include a place where employees can post feedback about specific products or savings choices. These postings help to guide other employees’ decisions and build the reputation of the platform as a source of unbiased information. The site can also include links to outside advisors who can answer specific questions, guide employees to another site for more information, or perform other services either online or over the telephone.

Differing age groups can be contacted and guided through different technologies. At the UK platform summit, David Harris, of Tor Financial Consulting, showed that younger employees preferred different communication methods than either older workers or the usual way employers provide information. However, the platform is able to use a wide variety of methods and is equally effective no matter which is used.

The platform’s value to international policy makers

Although the UK’s platform is intended as an enhancement to employer-provided benefits, it can also be used for a wide variety of policy goals, as the basic structure can be easily adapted to meet almost any nation’s specific tax and savings system. In the United States alone, policy experts have proposed dedicated savings accounts for nonretirement purposes ranging from unemployment benefits and retraining, home purchases, health care, and long-term health care coverage, to repaying student loans or building college balances for children or grandchildren. However, if all of these various accounts were established and funded, it is doubtful the employee would have any money left for food, clothing, and shelter.

Rather than having a host of specific savings programs, employees may be better served by more flexible accounts usable for a variety of purposes, as outside developments or changing needs dictate. The platform concept would allow individuals to choose which purposes they need to save for and how much to save for each. Combined with targeted guidance or education, this structure could expose individuals to possibilities they might not have considered before.

The structure is ideally suited to employment situations, but it could also be used by the self-employed or by consultants at sites aimed specifically at them and sponsored by trade associations, unions, or even government agencies. While their circumstances may preclude payroll deductions, the same products could be offered through direct debits to bank accounts.

The added value of nudge

The flexibility of the platform allows it to be used by employees with all levels of financial sophistication, but new participants would benefit from a variation on automatic enrollment that places certain amounts, in addition to the retirement savings amount, into a general savings account or similar vehicle. The automatic savings amounts deducted need not be large, and where the law allows, could vary according to employee age, with a larger proportion of the overall deduction going to nonretirement purpose for younger employees and to retirement for older ones.

As with automatic retirement enrollment, the employee would have the ability to vary amounts, divide the total among various accounts, and even stop all future contributions. However, automatic enrollment would offer workers direct experience with the nonretirement side of the platform. By varying enrollment in various accounts according to employees’ age, automatic enrollment could encourage them to consider saving for various purposes, such as a first home, college tuition for children, or additional health services.

Improving retirement security

Although the platform is applicable to a wide variety of other uses, its primary purpose is to build retirement security. Before retirement, the platform helps employees understand how to save, what they have, and how much more they need for a comfortable lifestyle. The other savings provide funds that can be used in the event of an emergency, thus helping to reduce leakage from retirement accounts in countries that allow early access to that money. At retirement, the platform helps individuals to see what other assets are available, and what loans or other liabilities must be factored in. In the UK, it is also being used to encourage individuals to use annuities and add them to their investments. The UK experience can help to guide US policymakers in their efforts to increase the use of similar products.

The enhanced information and flexibility of the corporate platform should help individuals to better understand their finances and how to meet their goals. It moves retirement savings plans from a minor part of employees’ financial lives, to a central feature that has many more uses than just an event many years in the future. This promotes regular use of the platform, and a fuller understanding of what is necessary for a comfortable retirement.

Authors

David C. John

Publication: AARP: The Journal

A Review of Paul Ryan's Budget Proposal

William G. Gale — Wed, 21 Mar 2012 16:31:00 -0400

The budget proposal Rep. Paul Ryan released yesterday is, essentially, an effort to have low- and middle-class households bear the entire burden of closing the fiscal gap and to have them bear the costs of financing an additional tax cut for high income households

Yesterday, the Tax Policy Center (disclaimer: which I co-direct) analyzed the revenue policies as proposed by Rep. Ryan. We simulated the effects of repealing the AMT and reducing ordinary income tax rates to 10 and 25 percent. These proposals would cost about $3.2 trillion over ten years, on top of the $0.3 trillion lost from repealing taxes enacted to pay for Affordable Care Act, the $1.1 trillion lost from his desired reduction in the corporate tax rate, and the $5.4 trillion lost from first extending the Bush-Obama tax cuts (which he also supports). By 2022, the tax policies he has specified would lower federal revenues to just 15.8 percent of GDP. Talk about digging yourself a hole.

Rep. Ryan claims he can fill this hole by eliminating tax breaks, which he correctly identifies as “spending through the tax code.” At first glance, this sounds like a step in the right direction: broaden the base and lower rates. Yet, like many recent proposals, the devil is in the details. Rep. Ryan never specifies which specific tax expenditures he would cut.

At a time when our country faces a daunting fiscal challenge, Ryan asks nothing of the wealthiest Americans. His budget proposal would simultaneously cut tax rates for the rich and corporations while slashing programs for the poor and elderly: he would shift many federal low-income assistance programs to state governments and would transform Medicare into a premium support system that will shift health care costs to seniors if health care inflation cannot be controlled.

Although I agree that spending cuts are necessary to meet our fiscal challenges, so too are additional revenues, for many reasons. They are the only way to get shared sacrifice from the wealthiest Americans. They could reduce the draconian spending cuts that Ryan proposes. Until he specifies which popular tax breaks he would eliminate, the Republican’s budget is clearly a win for the rich and a loss for everyone else.

Lastly, it is worth highlighting that Rep. Ryan is gaming the system in creating budget estimates. Ryan’s budget proposal is too vague to be scored, so he simply told the Congressional Budget Office (CBO) to determine the effect of his budget proposal assuming the proposal achieves its stated goals for spending and revenues. This is not the same as the usual approach—which involves asking CBO to determine whether the proposal actually achieves its stated goals. Instead, Ryan dictates the assumptions he wants and walks away with a seemingly favorable CBO report. This is smoke and mirrors. Ryan may not be the only politician to use the system this way, but that doesn’t make his actions any more forthright or reveal anything informative about this plan.

Authors

William G. Gale

Image Source: © Jose Luis Magaua / Reuters

The President’s 2013 Budget Would Enable Almost All Americans to Save for Retirement

William G. Gale and David C. John — Wed, 15 Feb 2012 16:07:00 -0500

The new 2013 budget unveiled by President Obama on Monday again contains the Automatic IRA, which was developed by Brookings' Retirement Security Project in conjunction with The Heritage Foundation. This year's version again includes an important change that will also encourage more employers to offer a 401(k) account to their workers. However, important changes to the Saver's Credit, which had been in previous budgets failed to make it this year.

Nearly half of American workers - an estimated 78 million- currently have no employer-sponsored retirement savings plan. The Automatic IRA is a simple, easy to administer and understand system that is designed to meet the needs of small businesses and their employees. Employers facilitate employee savings without having to sponsor a 401(k)-type plan, make matching contributions or meet complex eligibility rules. Employees are enrolled automatically into an IRA with a simplified system of investment choices and a set automatic savings level. However, they retain complete control over all aspects of the account including how much to save, which investment choice to use, or even to opt out completely. Automatic IRAs also offer savings options for the self-employed, for independent contractors, as well as providing those who are changing jobs the ability to continue their retirement savings.

The new 2013 budget would also double the size of the tax credit that employers receive in return for starting a new 401(k) plan from $500 annually for three years to $1,000 annually for the same period. This increase will ensure that the credit covers more of an employer's costs, and should encourage more employers to offer such a plan. This is a very good move, but the credit could be still further expanded to $1,500 for three years as will be proposed by a new House bill coming from Rep. Richard Neal. As Congress examines the proposal, it will have the opportunity to also expand the smaller credit that would be offered to employers that start an Automatic IRA to ensure that they are fully reimbursed for all expenses connected with starting and operating such an account for their workers.

A disappointing development is the failure to again include proposals to expand and improve the Saver's Credit by making it fully refundable. The Saver's Credit is an incentive for middle-and lower-income taxpayers to save in 401(k)-type accounts or IRAs. Retirement Security Project research found that more than 69 million taxpayers had income that was low enough for them to be eligible for the Saver's Credit in 2007. However, nearly 45 million of these filers actually failed to qualify for the credit because they had no federal tax liability. If the Saver's Credit was made refundable as RSP has proposed and deposited directly into the account as a match for savings, those 45 million taxpayers could have taken advantage of the program and had significantly higher retirement savings.

Authors

Image Source: © Hugh Gentry / Reuters

Around the Halls: Accessing President Obama's Proposals for Economic Growth and Budget Deficit Reduction

Tue, 14 Feb 2012 10:00:00 -0500

This week President Obama sent his fiscal year 2013 budget to Congress for consideration. Isabel Sawhill, Ron Haskins, William Gale, William Galston and Bill Frenzel analyze the merits of the president’s proposals for spurring economic growth, creating new jobs and reducing the federal budget deficit—and how they may be received by a divided Congress in the midst of contentious election year politics.

Mapping the Obama Administration’s Priorities
Isabel V. Sawhill, Senior Fellow, Economic Studies

No one seriously believes that the president’s budget will be enacted during 2012. Not only is 2012 a campaign year but our polarized politics makes taking even modest steps virtually impossible. Instead the budget is primarily a concrete way of signaling the administration’s priorities and what they would work on if reelected.

With this reality in mind, here’s my take on the overall themes in this year’s budget and what they signal about the administration’s priorities.

First, the administration cares about jobs. It proposes, as it did last September, a number of job-creating measures, including tax cuts and assistance to states. How much these will still be needed by 2013 is an open question and will depend on the strength of the economic recovery over the coming year. Sadly, in my view, political gridlock will prevent these measures from going into effect any time soon when they could do the most to bolster that recovery.

Read the full article »

Another Disappointing Budget
Ron Haskins, Senior Fellow, Economic Studies

Deficit hawks are grounded again. President Obama’s budget for 2013 is yet another failure to seize an opportunity to put down a serious marker that could lead to real, bipartisan progress on the deficit. Instead, the president has offered a budget that is flawed in at least three respects.

First, although candidate Obama pledged to end the long reign of budget tricks in the nation’s capital, his 2013 budget contains a big one. He claims $850 billion from winding down the wars in Iraq and Afghanistan. But you can’t save money on war spending that was already scheduled to decline.

Second, the president increases several taxes in the context of increased spending. The fight for increased taxes—which most analysts admit must be part of a bipartisan plan to fully control the deficit over the next decade and beyond—could get further if the budget used every penny of new taxes for deficit reduction. But because the president proposes to increase taxes in a budget that also contains new spending initiatives, Republicans are sure to dismiss the budget out of hand. Republicans have certainly not been forthcoming on the role of tax increases in a bipartisan deficit solution, but the Obama budget plays into the long-standing Republican claim that Democrats want new revenues only so they can increase spending.

Read the full article »

Raising Revenue in a Progressive Manner Without Raising Tax Rates
William G. Gale, Senior Fellow, Economic Studies

Amidst the myriad proposals in President Obama’s budget are two “big ideas” that would raise revenue in a progressive manner without raising taxes. These important ideas should be emphasized in the discussion of tax and fiscal reform that the country should be having and will have to have sooner or later. (The president also proposes letting the Bush tax cuts for high-income households expire, which would raise marginal tax rates modestly for high-income households.)

Some background: Revenue increases are going to have to be part of the medium- and long-term fiscal solutions. The required spending cuts from solving the budget problem on the tax side alone would be too draconian to gain public support, and durable budget deals that addressed earlier fiscal problems in the 1980s and 1990s contained a balance of spending cuts and revenue increases. In addition, the public supports having a combination of revenue increases and spending cuts, rather than all one or the other. And, if shared sacrifice is a key theme for fiscal solutions, tax increases are the only way to ensure that households with very high income participate meaningfully in helping to close the fiscal gap the nation faces.

Read the full article »

The 2013 Federal Budget: A Political Strategy
William A. Galston, Senior Fellow, Governance Studies

Among the many intriguing features of the administration’s FY 2013 budget proposal, three strike me as especially significant.

First: the thrust of this budget is wholly (and in some respects literally) consistent with the political strategy toward which President Obama shifted last fall. The president’s budget message summarizes—and occasionally quotes verbatim—his Kansas speech and State of the Union Address. It isn’t clear the extent to which this budget will become the blueprint for our fiscal future. But one thing is entirely clear: it is a blueprint for the president’s reelection campaign—in particular, for the spending he argues is necessary to boost growth and job creation.

Read the full article »

The 2013 Budget: A Process Run Amok
Bill Frenzel, Guest Scholar, Economic Studies

At the announcement of the president’s budget, many budget observers are wondering if it matters much anymore. There was a time when presidents’ budget requests to Congress had some meaning, and were not just opening bids in a political auction where no sales are final.

In those days, Congress usually responded with a budget of its own, often quite similar. The real battles were later fought over appropriations. The budget/appropriations process has always been a confused, competitive exercise. That was before debt and deficits became overwhelming.

The competitive exercise has become a blood sport in which there are no winners. The president’s 2013 budget signifies an intention to keep fighting. It is almost $1 trillion in deficit. It is full of new and added “investments” many of which Congress will not enact. Most notably, it contains $1.5 trillion in new taxes, none of them favored by the House.

Read the full article »

Authors

Image Source: © Kevin Lamarque / Reuters

New Regulations Enhance Savers’ Retirement Security

William G. Gale and David C. John — Wed, 08 Feb 2012 10:40:00 -0500

Americans who use defined contribution retirement savings plans (for example, 401(k) or 403(b) plans) or Individual Retirement Accounts will see their retirement security enhanced by two recently announced regulatory initiatives. The first is a series of Treasury Department/IRS proposed regulations that such individuals to use annuity-like guaranteed lifetime income products. The second is a final Department of Labor rule requiring complete fee disclosure to employers sponsoring retirement saving plans. Together, the two initiatives will give current retirement savers and future retirees more flexibility in structuring their retirement incomes, while making it possible to avoid excessive or hidden fees.

Four Treasury/IRS proposals, which were developed under the leadership of our former RSP colleague Mark Iwry, deal with several of the most pressing issues faced by employers and savers that currently reduce the use of annuities. The first proposal would reduce barriers to giving retiring savers the option of annuitizing part of their account balances. Currently, people need to annuitize either the entire balance or none at all. People are naturally wary of annuitizing the entire amount because it leaves them with little in the way of a cash cushion for emergencies. By choosing to annuitize part of the balance, people can retain a lump sum for emergency or other purposes.

A second proposal would remove a technical impediment to using longevity annuities, an annuity that is typically purchased close to retirement but does not begin to pay benefit until the retiree reaches age 85 or a similar age. Longevity annuities enable retirees to manage their money for a set period of time, secure in the knowledge that the longevity annuity will provide income after that, should they live longer than expected.

The third proposal would allow an individual to begin to partially annuitize their savings well before retirement. Starting to annuitize early by buying small pieces of an annuity over twenty or so years allows the saver to avoid having to make a “once and for all” decision and allows the savers to spread out the interest rate risk over time. This option had been subject to a requirement that the saver get a notarized statement from his or her spouse (if any) concerning whether the annuity covers just the saver or both the saver and his or her spouse. The proposal allows this to be handled by the issuing insurer when payments would begin rather than when purchases begin.

The fourth proposal would apply to relatively rare case where the employer has both a retirement savings plan and a traditional defined benefit pension, and would allow an employee to buy a low-cost annuity through the employer’s DB pension.

These four regulatory changes are positive developments. The changes announced today eliminate unintentional barriers to the use of lifetime income products without dictating how individuals should use them. Some may choose to partially annuitize at retirement, some to use longevity annuities to protect them in later years, and some to begin to buy annuities well before retirement. Whatever the choice, the proposals open up new options to future retirees, and should encourage even more market innovations.

At about the same time, the Department of Labor released final regulations requiring providers to disclose all direct and indirect fees to the employer sponsoring a 401(k) plan. The regulations will add needed transparency on fees that will enable increased competition to produce better results for employers and employees.

Despite removing a required template of charges, the new regulations nevertheless give employers a complete and accurate picture of all charges they have to pay, including indirect fees paid by the provider to others. Currently, many indirect fees are not disclosed even though they may reduce the earnings of participants. Endorsed by industry and consumer groups, the disclosures will enable employers who use this information properly to meet their fiduciary responsibility to choose a responsible fee level. What is even more important, the full disclosure will enable employers to structure their 401(k) plan so that individual savers can get the best returns possible, and not be subject to unreasonable fees.

While much more remains to be done to improve retirement savings plan, the steps taken by the proposed Treasury/IRS regulations and the Department of Labor’s final regulations will help savers to improve retirement security.

Authors

Image Source: © Rebecca Cook / Reuters

A Value-Added Tax as a Solution to the U.S. Budget Deficit

William G. Gale — Fri, 21 Oct 2011 10:10:00 -0400

At a recent event, William Gale discussed the possibility of using a value-added tax (VAT) to solve the budget deficit in the United States. He argued that instituting a VAT could be a good, although not perfect, way to raise new revenues that could be used for both deficit reduction and tax reform. He detailed the use of a VAT around the world, noting that approximately 150 countries have instituted one, and in most, it either raises the most revenue or the second most, after the income tax.

Gale also outlined the two different ways to set up a VAT: the credit invoice and the subtraction method. The credit invoice is set up so that each transaction includes the tax. The subtraction method more closely resembles an income tax with the tax added up at the end of the year. This set-up is similar to parts of Herman Cain's 9-9-9 plan.

According to Gale, a VAT does not have to be either a money machine or regressive. In most countries with a VAT, there has been no growth in the size of the government due to the tax or major increases in the tax rate itself in the past twenty-five years. Yet it remains one of the best ways to raise substantial amount of revenue; raising a comparable amount with income tax reform would require massive increases in the tax rates.

Authors

William G. Gale

Image Source: Â© Shannon Stapleton / Reuters

Rethinking Incentives to Save for a Secure Retirement

Fri, 09 Sep 2011 11:00:00 -0400

Event Information

September 9, 2011
11:00 AM - 12:00 PM EDT

Room 216
Hart Senate Office Building
Constitution Avenue and 2nd Street, NE
Washington, DC

Americans — especially low- and middle-income workers — are simply not saving enough for retirement. The current retirement income deficit—the gap between what Americans will need in retirement and what they will actually have—is well over $6 trillion. This gap will be insurmountable without a significant change to current tax policy to help incentivize more Americans to save for their own retirement.

On September 9, the Retirement Security Project at Brookings hosted a briefing in collaboration with the Senate Special Committee on Aging to examine new ways to help Americans save for retirement without increasing government spending. A panel of experts on tax, retirement and budget policy explored ideas to modify the tax incentives for retirement savings.

After the panel, participants took audience questions.

Participants

Panelists

Lisa Mensah

Executive Director, Initiative on Financial Security
The Aspen Institute

David C. John

Deputy Director, Retirement Security Project
Senior Research Fellow, Thomas A. Roe Institute for Economic Policy Studies, The Heritage Foundation

Testimony on Employee Welfare and Pension Benefit Plans

David C. John — Tue, 30 Aug 2011 00:00:00 -0400

Issue Chairman Lau, Vice Issue Chairman Turner and Members of the Advisory Council, thank you for inviting me to testify before you today on this important issue.

I am David C. John, a Senior Research Fellow at the Heritage Foundation and Deputy Director of the Retirement Security Project. I also serve as senior policy advisor to Retirement Made Simpler—and it is in that capacity that I appear before you today.

Retirement Made Simpler is a coalition formed by AARP, the Financial Industry Regulatory Authority (FINRA) and the Retirement Security Project (RSP). The coalition was created in November 2007 specifically to inspire and support employers who want to help their employees save more for retirement through adding automatic features to their retirement plans. By providing companies with the tools and information they need to better understand and embrace such features as automatic enrollment and automatic escalation, RMS believes that we can help more Americans achieve a safe and secure retirement.

The timing of this meeting—with its focus on 403(b) plans and best practices of 403(b) plans, including automatic features—is opportune, and I would like to thank Jack Towarnicky and others on the Council for inviting RMS to participate in this hearing.

The gyrating financial markets that we have experienced recently encourage the wrong type of employee inertia—the kind that keeps employees who are not already participating in a retirement savings plan on the savings sidelines. Those markets also encourage some employees to either stop contributing or to make sudden changes in their investments. Both responses keep workers away from the incremental and long-term investing that is essential to building a sufficient retirement nest egg. This failure to save comes despite new evidence from Fidelity that participants who remained in their 401(k) plans, kept the same level of savings and maintained some level of equity allocation had better outcomes between September 30, 2008 and June 3 of this year than those who did not[1].

The best way to encourage employees to maintain steady savings patterns is automatic features. Automated features—from automatic enrollment to automatic escalation—lay the groundwork for a different kind of inertia: the kind that starts employees participating in their organization’s retirement plan early, generally in a balanced or lifecycle fund. And when properly designed, automatic plan design allows employees to save enough to lay the groundwork for a comfortable retirement.

As you are aware, the 403(b) plan landscape is different than it was even just a few years ago. Legislative and regulatory actions have put employers squarely in the center of responsibility for 403(b) plans. The changes have made 403(b) and 401(k) plans virtually synonymous. In fact, 403(b) plan providers are in very much the same situation that 401(k) plan providers were in when the Pension Protection Act was passed in 2006. They are asking the same questions, actively looking for guidance, seeking out best practices but, most important, starting to adopt automatic features with increased frequency. According to the Profit Sharing/401(k) Council of America’s 2010 403(b) Study, 11.5 percent of plans have adopted automatic enrollment. That percentage rises to 22 percent for plans with 1,000 or more participants. With an automatic plan, employees are enrolled at a pre-set contribution rate into a preselected investment fund, and are in the plan unless they opt out.

My comments today can be boiled down to one major point: The success that automatic plan design has experienced with 401(k) plans is replicable with 403(b) plans also. While there are some technical differences between 401(k)s and 403(b)s—and while there are also workforce composition differences—for instance many teachers, healthcare workers and employees in the nonprofit sector have 403(b) plans—automatic plan design will yield similar results in either environment. Specifically, automatic features can be expected to boost participation rates and increase savings rates.

Furthermore, as with 401(k) plans, automatic features are likely to have the most impact on lower wage employees who tend to participate and save at a much lower rate than higher wage employees. Automatic enrollment and escalation have a special value to minority and moderate income employees. In general, these groups tend to be much less likely to participate in a retirement plan—be it 401(k) or 403(b). However, studies show that automatic enrollment can dramatically increase participation by the four groups—women, minorities, younger workers and moderate-income employees—most likely to under-save. Automatic enrollment can increase participation in these four groups from about 1 out of 5 to 4 out of 5 and above.[2]

South Dakota Case Study

A significant 2010 study[3] directly illustrates this point. The study was commissioned by Retirement Made Simpler and conducted by the Center for State and Local Government Excellence. It examines the background and passage of automatic enrollment legislation in South Dakota and its initial impact on participation rates in the state’s defined contribution retirement plan. Ninety-one percent of new, eligible employees are participating in the SRP in units that adopted automatic enrollment, versus only 1 percent of new hires in units without automatic enrollment.

Although still in its early stages, it is already clear that automatic enrollment is positively affecting participation rates in South Dakota’s Supplemental Retirement Plan (SRP)—this is a 457 plan that is supplemental to the state’s pension, and actually shares many similarities with 403(b) plans which themselves often supplement a defined benefit plan.

Under the South Dakota supplemental plan, state employees are allowed to make optional pre-tax contributions to augment their retirement income. The plan is considered to be an integral component of retirement benefits and employees are encouraged to participate in the SRP when planning for retirement. After considering national trends in savings rates and the need for additional retirement income for participants in the South Dakota retirement plan, the South Dakota Retirement System decided to increase the prominence of the SRP. Changes included revising the SDRS mission statement to emphasize the need for additional personal saving through the supplemental plan and adopting automatic enrollment in the SRP for newly hired employees.

Prior to 2009, newly hired workers had to make a positive election to participate in the SRP: if the employee did nothing, he or she was not enrolled in the plan. In 2008, the state legislature passed a bill authorizing automatic enrollment so that newly hired employees were enrolled in the SRP. As noted above, the results were startling.

Prior to the policy change, about 20 percent of all eligible employees participated in the SRP. Eight months after the passage of automatic enrollment legislation, 91 percent of new, eligible employees whose units chose to implement automatic enrollment participated in the plan and remained in it. The opt out rate was only 8.7 percent, which is in line with opt out rates in 401(k) plans that institute automatic enrollment.

This study is an example of how other states can dramatically aid their employees in preparing for retirement simply by instituting features such as automatic enrollment—and other features such as automatic escalation. It is yet another piece of evidence that automatic enrollment is one of the simplest things employers are doing to ensure the majority of their employees are planning adequately for retirement costs. And, the small opt-out rates suggest employees recognize they needed the extra push to start saving. More on that in a minute.

Two Lessons

It is worth commenting on two aspects of the South Dakota case study—and the lessons that can be drawn from it.

First, the policy was rolled out with no opposition and no push back from employees. This shows the recognition by all parties—legislators, plan administrators and employees—that saving more was a good and necessary course of action.

Numerous studies and first-hand accounts indicate that actual opposition to automatic features tends to be weak or nonexistent, and the majority of employees—new and existing—welcome automatic features in their retirement plans. In addition, a study by Harris Interactive on behalf of Retirement Made Simpler found that 85 percent of workers said that automatic enrollment helped them to start saving earlier than they would have otherwise done[4]. Given this, a best practice is to roll out an automatic enrollment process for all employees, not just those who are newly hired. There is more detail on this below.

Second, the default contribution to the plan is relatively small—only $25. The plan administrators hope that once workers participate in the plan, they will continue to contribute to the SRP throughout their career, and increase their monthly contributions. In fact, many who did participate quickly upped their contributions. Also, the rollout of automatic enrollment was buttressed with a communications program educating employees about the need to save amounts in addition to their defined contribution benefit, which in many cases was not enough to retire in comfort. In our discussions with plan administrators we got the sense that if they were to do this again, they would roll the plan with a more substantial default rate.

The lesson is to “think bigger” when it comes to setting default rates in a plan. A recent analysis from the Principal Financial Group adds credence to this. Client data from Principal shows that plans with an automatic enrollment feature defaulting at 3 percent produce an average deferral of 6.3 percent. This is lower than the average deferral of 6.8 percent for plans without an automatic enrollment feature. In contrast, if a plan rolls out an automatic default rate of 6 percent, the average deferral is 7.1 percent.[5] Furthermore, nearly twice as many participants (61 percent) reach an overall savings rate greater than 11 percent—which many financial experts consider to be a threshold for a secure retirement—when their employers’ plan defaulted them at 6 percent. In contrast, when the default rate was 3 percent, only 32 percent of employees reached that 11 percent savings rate.

Workers Like Automatic Features and Start Saving Earlier

The South Dakota study reinforces the fact that employees want and value the guidance found in automatic features. An October 2009 survey by Prudential Insurance found that 74 percent of American workers would rather be automatically enrolled into a 401(k) plan than use the traditional method;[6] 65 percent support automatic contribution escalation.

Even more telling, a 2007 Retirement Made Simpler study[7] shows that workers who have been automatically enrolled strongly support the mechanism and start saving before they would have otherwise. According to the study, 97 percent of workers who had been automatically enrolled and remained in the plan were satisfied with the procedure, while 90 percent of those who had been automatically enrolled and then opted out due to individual circumstances felt the same way. Eighty-five percent of those participating in the 401(k) plan said that they had started to save for retirement earlier than they had otherwise planned, while 95 percent felt that automatic enrollment made saving for retirement easy. Finally, 98 percent of those who were automatically enrolled and remained in the plan were glad their company offered automatic enrollment, as were 79 percent of those who had opted out. This last number is key, as it shows that even if workers decided that their specific circumstances did not allow them to remain in the company’s 401(k) plan, they still valued automatic enrollment.

403(b) Case Study: North Shore-LIJ Health Systems[8]

The value of automatic features is further shown in a another example, this one a 403(b) case study. The company is North Shore-LIJ Health System, which includes 15 hospitals across Long Island and in New York City, and additional long-term care facilities and home health agencies. North Shore employs nearly 20,000 physicians, nurses and other healthcare professionals.

Despite a matching contribution by the health care provider, in 2007 more than 30 percent of eligible workers did not contribute to its 403(b) savings plan—this despite an employer match of 2 percent on an employee contribution of 6 percent. It was a frustrating situation for the company. In the words of the company’s director of benefits, “Some people believed they couldn't afford to contribute. Others had an expectation that their employer would take care of everything.” In some cases immediate gratification won out over long-term financial security—a new car won out over the need to save for retirement.

The 30 percent nonparticipation rate was of deep concern to the company, which felt it had an obligation to boost participation but was dubious that additional education would improve employees' participation rate. So North Shore turned to automatic enrollment. The benefits staff made its case to the health care system’s senior leadership and the organization worked with its plan administrator to roll out the program.

Interestingly enough, while cost was a consideration, it was not the ultimate determining factor. In fact, automatic enrollment was estimated to increase the system's costs by nearly $3 million, but the company reasoned that since it was providing a competitive retirement program that included participation in a defined contribution plan with an employer match—a plan they hoped everyone would participate in—it made sense to ensure that all employees maximized the availability of the benefit.

This attitude is present in many employer deliberations about automatic plan design. A sense of corporate responsibility is the overriding factor in the decision to automate. It is a refrain I have heard over and over again in discussions of 401(k) plans, and it appears to be no different with respect to the 403(b) decision-making process.

In 2008, automatic enrollment was adopted. Employees—new and existing—who did not voluntarily enroll were automatically enrolled with a contribution amount equal to 3 percent of their salary, with that amount increasing in annual increments of 1 percent of salary for the next three years. Those contributions would be invested in target-date investment funds offered the plan administrator.

The net result? Participation rate in North Shore’s 403(b) plan soared—jumping to, and remaining at, 90 percent.

The company was concerned about negative employee reaction, in spite of a robust educational campaign that went well beyond DOL’s mandatory communications requirements to employees. But North Shore received virtually no calls from employees who didn't understand why they were automatically enrolled in the plan. In fact—and this is another refrain that we hear time and again—employees who called were delighted and said “they never would have done this on their own.” In fact, the director of corporate benefits said employees actually thanked him and the organization for its decision to automatically enroll them.

This case study is more confirmation that rolling out automatic features in a 403(b) environment is quite comparable to doing so in a 401(k) environment:

The decision to automate is often born out of frustration with current participation rates and the failure of traditional communications programs to significantly change this fact.
Because organizations are implementing automated features for the first time, they rely heavily on the expertise of their plan administrator.
Organizations are desperate for information from federal sources such as DOL and the IRS. There appears to be a need for more information by 401(k) and 403(b) providers related to fiduciary rules as they pertain to automatic plans, in spite helpful governmental resources, including DOL’s valuable “Meeting Your Fiduciary Responsibilities” content and The ERISA Fiduciary Advisor, an interactive guide that asks plan sponsors specific questions about their own circumstances and provides fiduciary answers.
Because of the relative newness of automatic features by 403(b) plans, organizations also seem to be keenly interested in case studies of how other organizations have handled automatic 403(b) implementation.
There are concerns about cost—but those concerns are often secondary to a sense of corporate responsibility to help employees adequately save for retirement.
Concerns about negative employee reaction are real—but ultimately unfounded. Unfortunately, they can cause organizations to move too tentatively with automatic plan design best practices. Rolling out automatic enrollment to all employees and escalating up to 10 percent or more remain underutilized strategies.

Recommendations

Given these realities, RMS has several suggestions for ways to improve the use of automatic features by 403(b) plans:

There seems to be a steep learning curve among 403(b) providers, particularly small and medium-sized organizations about the basics—and especially the best practices—of automatic enrollment. Retirement Made Simpler has produced an Automatic 403(b) Toolkit that seeks to bridge the information gap, including a number of sample employee communications resources. We are not alone in offering helpful resources—and this council might consider issuing its own information and resources specifically focused on automated plan design. For instance, consider a sister publication to the current and valuable Automatic Enrollment 401(k)Plans for Small Businesses (IRS Publication 4674) that focuses on automatic 403(b) plans.

Just as the growth of automatic features in 401(k) plans experienced the greatest growth after the 2006 Pension Protection Act resolved concerns that implementing these features could conflict with certain state and local laws, there is a need for a comprehensive study of any potential conflicts that could affect the use of them with 403(b) plans. This could serve as the basis for future legislation on the subject.

Undertake efforts to facilitate greater education and information directed at non-ERISA 403(b) plans. Our discussions with experts who work daily in the 403(b) space note that not all 403(b) plans are created equal. For example, governmental plans, some church plans and 403(b) plans that are not subject to ERISA but are instead governed by state and local laws and rules. Decision-makers for these plans are likely to have their own questions and concerns related to plan automation. As one expert noted, “the devil is in the details”[9] when sifting through the various regulations and requirements—and this is especially true for automatic plan design. These concerns play a direct role in the decisions of several local think tanks not to implement automatic features in their 403(b) plans despite publishing papers supporting the use of them for other types of retirement plans. Again, it is worth considering whether specific steps – legislative or regulatory – could help to encourage non-ERISA 403(b) plans to implement automatic enrollment and automatic escalation.

Finally, because organizations like to hear from their peers, consider convening a round table of companies that have automated their 403(b). By sharing real-life stories of 403(b) automation—the obstacles and the success stories—and disseminating the proceedings to the plan sponsor, plan administrator and plan advisor communities you provide a valuable service to organizations actively considering automating their 403(b) retirement plan.

Thank you for allowing me to share my thoughts with you today.

[1] Investors Who Pulled Out of The Market in 2008/2009 Saw 2 Percent Growth; Those Who Maintained Their Investment Strategy Experienced 50 Percent Growth. Available at: http://www.fidelity.com/inside-fidelity/employer-services/q2-2011-401k-trends

[2] Orszag, Peter and Rodriguez, Eric. “Retirement Security for Latinos: Bolstering Coverage, Savings and Adequacy.” RSP Policy Brief No. 2005-7 (July). Retirement Security Project and National Council of La Raza, Washington DC. See also “The Ariel-Schwab Black Paper,” published by Ariel Mutual Funds and Charles Schwab. October 2007

[3] Adopting Automatic Enrollment in the Public Sector: A Case Study of South Dakota’s Supplemental Retirement Plan. Available at: http://www.retirementmadesimpler.org/Library/RMS_South_Dakota_Study_090810_FINAL.pdf

[4] http://retirementmadesimpler.org/Library/RMS_Styles_2008_Topline_Data_Public.pdf

[5] See News Release, New Data from The Principal Shows Impact of Automatic Enrollment in 401(k) Plans, www.principal.com/about/news/2011/ris-auto-enroll051711.htm

[6] Prudential, “The New Economic Reality and the Workplace Retirement Plan,” January 2010, at http://retirementmadesimpler.org/Library/New_Economy_WorkPlace_Retirement.pdf. Percentages differ from the earlier survey in part because the Prudential survey includes workers who have been automatically enrolled as well as those who have not.

[7] Retirement Made Simpler, “Resources and Research: How Do Employees Feel About Their Auto 401(k) plan?” 2010, at http://retirementmadesimpler.org/ResourcesAndResearch/HowEmployeesFeel.shtml

[8] Gerry Geisel, For-profit strategy boosts 403(b) plan enrollment to 90%, Business Insurance, June 27, 2010

[9] Connie Toth, “And the survey says…”Check your paradigm! BusinessBenefits.com, published by Robert J. Toth, Jr.

Authors

David C. John

Publication: U.S. Department of Labor

Do Individual Development Accounts Promote Homeownership?

Tue, 26 Apr 2011 09:00:00 -0400

Event Information

April 26, 2011
9:00 AM - 10:30 AM EDT

Saul/Zilkha Rooms
The Brookings Institution
1775 Massachusetts Avenue, NW
Washington, DC 20036

The “asset-building” movement has argued eloquently for two decades that promoting saving in general and home ownership in particular would be an effective way to help low-income households raise their economic status. As a result, Individual Development Accounts (IDAs) – saving accounts where withdrawals for approved purposes are awarded matching funds and where account holders receive financial education and encouragement to save – have been popular in the United States. Despite the lofty rhetoric, there has been little in the way of hard evidence to support these claims.

On April 26, the Retirement Security Project at Brookings explored the results from the only long-term experiment to date with IDAs. The study, reporting the results of an IDA program, found that after 10 years, there was no significant impact on either the homeownership rate or the amount of time during the sample period that people owned homes. Speakers included study co-author William Gale, director of the Retirement Security Project; Reid Cramer, director of the Asset Building Program at the New America Foundation; Greg Mills, senior fellow at the Urban Institute; and David John, deputy director of the Retirement Security Project and senior research fellow at the Heritage Foundation.

After the program, panelists took audience questions.

Presentations

Ten-Year Impacts of Individual Development Accounts on Homeownership: Evidence from a Randomized Experiment

Audio

Do Individual Development Accounts Promote Homeownership?

Transcript

Uncorrected Transcript (.pdf)

Event Materials

20110426_individual_development_accounts

Participants

Panelists

Moderator: David John

Deputy Director
Retirement Security Project

Reid Cramer

Director of the Asset Building Program
New America Foundation

Gregory B. Mills

Senior Fellow
The Urban Institute

Do Private Saving Schemes Offer a Plausible Substitute for Public Pensions? Lessons from the Economic Crisis

Gary Burtless — Mon, 25 Apr 2011 00:00:00 -0400

Abstract

Old-age income protection is provided in nearly all wealthy democracies by publicly funded defined-benefit pensions. The budgetary challenges facing public pensions have forced policy makers to consider private alternatives to these traditional systems. This paper considers the shortcomings of private saving arrangements in duplicating the advantages of public pensions. Some of the shortcomings can be overcome through the introduction of compulsory elements into private saving plans. For example, worker contributions into such plans can be mandatory, some or all worker accumulations in the plans can be forcibly converted to annuities at retirement, and workers’ investment choices can be narrowly circumscribed to a small menu of carefully designed, safe alternatives. These measures unfortunately do not eliminate the biggest weakness of private saving plans. Wide fluctuations in asset prices and returns make it hard for even well-informed savers to select an affordable saving rate and an investment strategy guaranteed to produce a decent income in old age. Public pension systems partly insulate workers against economic and financial market risks by sharing these risks across workers, retirees, and taxpayers in multiple generations

Introduction

The recent financial crisis should give pause to critics of public old-age pensions. Many of the harshest critics of public pensions believe these programs for assuring old-age income security should be jettisoned, in whole or in part, and replaced with a system of private retirement savings accounts. The crisis highlighted the risks facing workers and retirees who rely solely on private savings to fund their retirements. Savers who invested heavily in equities and corporate bonds experienced extraordinary losses in the value of their portfolios. In rich industrialized countries equity prices fell 40% or more in 2008, wiping out a decade of investor returns. The value of assets held in pension funds plunged (see Figure 1). As the financial crisis demonstrated, old-age income provided under a purely private retirement savings system is highly variable from one year to the next unless workers invest in a very conservative portfolio. Optimistic estimates of workers’ expected returns under a purely private retirement system nearly always assume that workers will hold a sizeable percentage of their portfolios in risky assets, such as equities or private bonds. If retirement savers accept the risk associated with this kind of portfolio their pensions are highly unpredictable. This will be true even under optimistic assumptions about their sagacity and self-discipline in maintaining a prudent investment strategy. Considerable evidence suggests that many if not most retirement savers are far less well-informed and self-disciplined than assumed in the standard economic model, implying that the risk-adjusted returns actually obtained by workers who invest their own funds will often fall short of the theoretical returns implied by common calculations.

One reason policymakers have been considering a shift toward private pension accounts is that public pension systems face sizeable problems of their own. In most rich democracies population aging has been a major impetus for reform. The projected budget costs associated with an older population are so large that governments in rich nations have been forced to consider a major overhaul in the structure of their pension systems. With few exceptions, their old systems were based on pay-as-you-go, tax-financed funding of publicly organized defined-benefit (DB) pensions. The tax burden of this kind of system was acceptable when their retired population represented a small fraction of the population of working, contributing tax payers. The tax burden appeared less tolerable when average pensions began to replace a large percentage of average wages and the population receiving full pensions grew to be a large fraction of the active workforce.

In the past two decades policymakers in a number of rich countries have shown interest in following the example of Chile, which in the early 1980s replaced its public, pay-as-you-go pension system with a private system organized around individual investment accounts. Advocates of this kind of reform point to Chile's success in introducing a private account system to replace a failing and under-funded public system, a system the government began phasing out in the early 1980s. In the past three decades, Chile’s private pension system has received high marks for sound administration, good returns, and broad political acceptance. (It has, however, received lower marks because of major holes in workforce coverage.) The expected surge in public retirement costs in rich industrialized countries has made many economists and some policymakers receptive to the idea of a Chilean-style private substitute or supplement to existing unfunded public systems.

The question I pose in this paper is whether improvements in workers’ financial market access can serve as a substitute for the kind of social protection provided by traditional public retirement systems. I interpret these “improvements” to involve new kinds of financial instruments, ones different from those available to ordinary workers in the past. In particular, the new instruments would be suitable retirement saving vehicles for ordinary mortals as opposed to the ideal, far-sighted and well-informed investors assumed in most economic text books. The new instruments would expose workers to less risk than investment alternatives available in the past, and they would offer workers better assurance that their private savings could sustain them through a retirement of unknown duration. Because the new instruments would be private, however, there would be little scope for redistribution in favor of workers with low lifetime earnings. Redistribution in favor of low-wage or other kinds of disadvantaged workers would have to take place outside these purely private financial instruments.

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Authors

Gary Burtless

Publication: Retirement Security Project

Ten-Year Impacts of Individual Development Accounts on Homeownership: Evidence from a Randomized Experiment

Fri, 04 Mar 2011 00:00:00 -0500

With the housing market still recovering from the subprime crisis, a key question for policymakers is how and whether to encourage homeownership and the role of down payments in the initial homeowner purchase.

A new research paper looks specifically at the long-term impact of an experiment with an Individual Development Accounts (IDA) program, which was designed to help teach financial education and provide matching funds for qualified savings withdrawals (including a 2:1 match for housing down payments) for low-income households.

The study found that, 10 years after implementation, the IDA program had no significant effect on homeownership rates, nor on the duration of homeownership over the preceding decade.

Many IDAs are implemented as Assets for Independence (AFI), a grant program within the Department of Health and Human Services' Administration of Children and Families. From 1999 through 2008, more than 50,000 IDAs were opened at 544 project sites, which provided grants to community-based organizations and local governments. The program has had an annual appropriation of approximately $25 million, which is then awarded as grants to community-based organizations and local governments to administer IDA programs.

The study focuses on a particular IDA program that ran from 1998 to 2003 in Tulsa, Oklahoma, and which is the only randomized experiment with IDAs in the U.S. to date.

Authors William Gale of Brookings, Michal Grinstein-Weiss, William M. Rohe and Clinton Key of the University of North Carolina at Chapel Hill, and Michael Sherraden and Mark Schreiner of Washington University in St. Louis find that the Tulsa program had no impact on long-term homeownership rates for the group that received access to the IDA relative to the control group or on the average amount of time people owned homes during the 1998-2009 period.

They found that about 90 percent of treatment group members opened IDA accounts, and contributions averaged about $1,800. Homeownership rates for both treatment and control groups increased substantially throughout the experiment. Prior work shows that from 1998 to 2003, homeownership rates increased more for treatment group members than for controls. But after the experiment ended, control group members caught up rapidly with the treatment group.

"A plausible explanation for the pattern of results found-a positive effect through 2003 but no significant effect after 10 years-is that is that the specific design of the Tulsa IDA experiment created incentives for treatment group members to accelerate home purchases before 2003 and for control group members to delay purchases," they write. "Specifically, treatment group members had incentives to accelerate home purchase given the 2:1 match contribution they could receive for home purchase, which was available only up to 2003. Control group members had incentives to postpone purchases until the experiment ended in 2003, at which point they could take full advantage of the homeownership programs, including financial assistance for down payment and closing costs."

The researchers did find a positive impact on homeownership rates among those with above-sample median income ($15,840) at the time they entered the program, but not on any of 23 other subgroups tested, which included by race, age, sex, education, marital status, other assets, etc. Looking at the positive results for the above-sample median income group, the authors state that it "may indicate that while IDA programs are not effective in promoting homeownership among very-low income households, they can be effective for households with higher, although still modest, levels of income." However, they note that in multiple other subgroups, they were unable to detect any impact of IDAs. As a result, it is not clear if the positive results for the single subgroup are meaningful or are simply a random "false positive." Future work will be required to sort out those competing views, they say.

The authors find that there are several other areas to explore in future research, including other qualified uses of savings on such things as home repair, small business, post-secondary education, or saving for retirement. They also note that policy interventions can have often have longer-term effects through some channels even if the short-term effects through other channels fade out - "for example, small class size may have temporary impacts on test scores but longer-term impacts on non-cognitive aspects of behavior and earnings. It is important to know whether financial education, the encouragement to save, and the opportunity to have accumulated funds during the IDA program could have longer-term effects, even if controls had caught up six years after the program ended," they conclude.

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Authors

William G. Gale
Michal Grinstein-Weiss
Clinton Key
William M. Rohe
Mark Schreiner
Michael Sherraden

President’s Budget Proposal Could Help Up to 78 Million More Workers to Save for Retirement

William G. Gale and David C. John — Tue, 22 Feb 2011 11:31:00 -0500

The new budget unveiled by President Obama on Monday again contains the Automatic IRA, which was developed by Brookings' Retirement Security Project in conjunction with The Heritage Foundation. This year's version includes an important change that will also encourage more employers to offer a 401(k) account to their workers. However, important changes to the Saver's Credit, which had been in previous budgets failed to make it this year.

In an important change, this year's budget would also double the size of the tax credit that employers receive in return for starting a new 401(k) plan from $500 annually for three years to $1,000 annually for the same period. This increase will ensure that the credit covers more of an employer's costs, and should encourage more employers to offer such a plan. As Congress examines the proposal, it will have the opportunity to also expand the smaller credit that would be offered to employers that start an Automatic IRA to ensure that they are fully reimbursed for all expenses connected with starting and operating such an account for their workers.

A disappointing development is the failure to again include proposals to expand and improve the Saver's Credit by making it fully refundable. The Saver's Credit is an incentive for middle-and lower-income taxpayers to save in 401(k)-type accounts or IRAs. Retirement Security Project research found that more than 69 million taxpayers had income that was low enough for them to be eligible for the Saver's Credit in 2007. However, nearly 45 million of these filers actually failed to qualify for the credit because they had no federal tax liability. If the Saver's Credit was made refundable as RSP has proposed and deposited directly into the account as a match for savings, those 45 million taxpayers could have taken advantage of the program and had significantly higher retirement savings.

Authors

Financial Literacy: What Works? How Could It Be More Effective?

William G. Gale and Ruth Levine — Fri, 01 Oct 2010 00:00:00 -0400

Abstract
This paper highlights the extent and effects of financial illiteracy among American households, reviews previous efforts to promote financial literacy, and discusses new directions for such initiatives. None of the four traditional approaches to financial literacy - employer-based, school-based, credit counseling, or community-based - has generated strong evidence that financial literacy efforts have had positive and substantial impacts. Nevertheless, the apparent success of financial planning efforts and of simplification initiatives suggests that there are both private actions and public policy strategies that can influence saving behavior. There is a key role for the private sector in enhancing financial literacy and the market is responding rapidly to try to fill the void. At the same time, there is an at least equally important role for the public sector, via a campaign that revolves around a comprehensive website, and through better coordination of existing policies toward saving. We conclude that improving financial literacy should be a first-order concern for policy-makers, and that gains could accrue not only to the affected individuals, but also to their family members and society at large.

Introduction
In a recent consumer study, 21 percent of individuals surveyed - including 38 percent of those with income below $25,000 - reported that winning the lottery was "the most practical strategy for accumulating several hundred thousand dollars" of wealth for their own retirement. In addition, 16 percent thought that winning the lottery was the best retirement strategy for all Americans, not just themselves (Consumer Federation of America and The Financial Planning Association, 2006). This is far from the only recent example of financial dysfunction among American households. From 401(k) portfolios overstuffed with company stock to cups of coffee that cost $35 because of overdraft fees, a growing number of compelling examples suggest that many people are simply financially illiterate. For purposes of this paper, we define financial literacy as the ability to make informed judgments and effective decisions regarding the use and management of money and wealth. Financially illiterate households make poor choices that affect not only the decision-makers themselves, but also their families and the public at large, making the improvement of financial literacy a first-order concern for public policy.

Although policy makers have long been concerned about the financial status of American households, secular shifts toward lower private saving, longer retirement periods, and "do-it-yourself" defined contribution plans have fueled these concerns in recent years. Likewise, declines in housing values, financial assets, and the overall economy have heightened both the urgency and the importance of these issues.

Partially in response to these concerns, recent years have seen a growing awareness that many Americans possess little financial literacy, and an increasing belief that raising literacy rates could be the gateway to improved saving outcomes and increased financial and economic security. Efforts to improve financial literacy are now supported by a wide array of organizations, including private employers, federal, state and local government agencies, commercial banks, consumer groups, community service organizations, and religious organizations. As interest in financial literacy grows, however, it is crucial that policy makers and interested organizations understand the relative strengths and weaknesses of prior efforts to improve literacy, the new approaches to literacy that are under consideration, and how financial literacy efforts can best be implemented to exploit the advantages of pre-existing policies. (Ed.: Please download full paper for citation.)

This paper addresses these issues. We begin in section II with a brief summary of evidence on the extent and effects of financial illiteracy, and discussions of how literacy evolves over the life cycle and the potential welfare implications of illiteracy.

Section III provides much of the substance of the paper, reviewing and assessing previous research on the effects of four traditional formats for delivery of financial literacy and financial education efforts. First, employer-provided financial education expanded rapidly following the growth in 401(k) participation in the 1980s, is typically voluntary for workers, is often targeted toward retirement saving, and provided via seminars, information fairs or the distribution of written information. A second approach, state-mandated financial and consumer education for students in public high schools, expanded from the mid-1950s through the mid-1980s and tends to focus on overall financial responsibility and record-keeping. The third approach, credit and mortgage counseling, is usually provided in a one-on-one format and, naturally, focuses on helping households manage debt problems. Lastly, community-based programs frequently focus on general financial education, increasing saving or debt management, and are often administered through churches, banks or non-profits.

None of the four traditional approaches has generated unambiguous evidence that financial literacy efforts have had positive and substantial impacts. There is some evidence that workplace financial education has helped raised retirement plan participation and contributions, and that it has raised households' overall level of saving as well - in both cases at the lower end of the saving and wealth distribution. But much of the evidence is subject to potential econometric biases, and the strongest evidence, from experimental work, suggests quite small effects. Nor are the other approaches more effective. Evidence on the impact of high-school financial education mandates or classes is ambiguous and inconsistent. While early work suggested a strong impact, recent work with more general models has rejected that finding. Evidence of impacts of credit and mortgage counseling and advising through community-based programs is suggestive, but not compelling. In general, much of the literature is marred by econometric concerns that make reliable inference difficult.

In addition to the four typical approaches to providing financial literacy described above, we also examine the impact of financial planning and of making saving choices simpler. These two issues are related to financial literacy in that they also link information and saving behavior. With some caveats, planning does appear to help people save more and simplification of saving options clearly raises participation rates and contribution rates in retirement plans.

Although prior efforts at raising financial literacy appear to have met with at best mixed success, the apparent success of planning efforts and of simplification initiatives suggests that there are both private actions and public policy strategies that can influence saving behavior. Section IV of the paper therefore explores three aspects of how private and public efforts to bolster financial literacy could evolve in the future in order to have the most impact.

First, we discuss an explosion of new private sector efforts to provide financial education and raise financial literacy, which typically focus on online access and often emphasize behavioral concepts. These activities can serve to bolster interest and knowledge of financial literacy, but may run into limits based on issues related to the independence and credibility of the informative provided. The main policy goal here is to let the private sector's creativity bloom and to ensure that any potential conflicts of interest are reported clearly.

Second, we describe key elements of previous public information campaigns - such as the effort to reduce smoking - and how they could be transplanted into a national campaign to raise financial literacy. There are some concerns about how a campaign for financial literacy would work - for example, it may be more difficult to communicate basic financial concepts than to convey a message like "stop smoking" or "wear seat belts." Nevertheless, an overarching public information campaign could play a key role in promoting financial literacy, by providing a credible, digestible, timely, comprehensive, and continual information on the key issues. The literature on campaigns offers many important lessons that could be applied to a financial literacy campaign.

Third, we discuss how interactions between financial literacy initiatives and other public policies could be exploited to leverage the impact of both new and existing policies. Policy makers have encouraged saving through several different approaches, such as mandates (social security), incentives (401(k) plans), choice architecture (automatic enrollment), and information (social security's individualized annual statements to participants). A promising direction for financial literacy policy is to focus on the extent to which such policies are complements or substitutes. We argue that combinations of policies - for example, to help low-income households save - are coherent intellectually and would leverage the impact of each individual intervention.

Section V offers concluding remarks.

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Authors

William G. Gale
Ruth Levine

Publication: Brookings

The Bush Tax Cuts: The Least Effective Stimulus

William G. Gale — Tue, 28 Sep 2010 12:01:00 -0400

The usual joke about economics is that the questions never change, only the answers do. Supporters of the Bush tax cuts have now flipped that around – whatever the question, the Bush tax cuts are the answer.

The Bush tax cuts were never meant to be an economic stimulus package. They were designed in 1999 as part of then-Governor Bush's presidential platform. The intent was to return to the American taxpayer the emerging budget surpluses that had arisen under unprecedented economic prosperity. It's downright bizarre to consider extending those same tax cuts now as a way to turn around a faltering recovery in an era of a huge deficits.

Yes, there were rebates intended to stimulate the economy in the actual 2001 legislation, but they were added at the end of the process by the Congress and are not under consideration now.

Economic research over the past decade can explain why extending the original Bush tax cuts is not good stimulus policy. After the tax rebates in 2001, 2003, and 2008, households appear to have spent in relatively short order somewhere between 25 and 67 cents more for each dollar of tax cut. This makes tax cuts in general – even the parts of those tax bills that were intended to stimulate – a relatively weak way to help the economy compared to increases in government purchases, for which each dollar of increased deficit turns into an additional dollar of spending.

Also, high-income households are less likely than low-income households to spend much of their rebate. The Bush tax cuts in general – and tax cuts that only benefit high-income households in particular – favor the wealthy, and so are a particularly poor way to stimulate a weak economy.

The Congressional Budget Office recently considered 11 options for stimulating the economy and extending the tax cuts tied for least effective. Policy makers could do far more good for the economy in the short run by allowing the same increase in the deficit as would come from extending the tax cuts (or the tax cuts that help only high income households) and using the money instead to pay for infrastructure and investment programs and aid to the states so that they can avoid laying off workers. This would also help the long run deficit because if the tax cuts don't die now, they probably never will and so will create enormous future deficits.

Authors

William G. Gale

Publication: The New York Times

Improving Retirement Security

William G. Gale and David C. John — Thu, 09 Sep 2010 13:57:00 -0400

Recent recommendations by the President's Economic Recovery Advisory Board that would make the saver's credit a match to individual savings by moderate income workers and further increase the use of automatic enrollment in retirement savings plans are the latest indication that policymakers recognize the need to improve opportunities to save. However, while these recommendations are welcome news, additional steps are needed.

As it is currently structured, the savers' credit is an unkept promise for many families because it only helps those savers with enough taxable income to take advantage of the credit. Further, by acting only to increase tax refunds, the current version often acts more as an incentive to consume than it does to further save. The Board's recommendation to change it to a match of savings and be deposited directly into the taxpayer's account will help to increase that individual's savings balances. It will especially help younger workers who will find their accounts able to grow even more as the government matches earn additional tax free dividends and interest, thus greatly improving the size of the account at retirement.

However, the Board could have gone farther by making the savers' credit refundable. This move, which the Retirement Security Project recommended several years ago, would enable the lowest income workers, the ones without a tax liability, to build assets and improve their economic status. Their savings would grow visibly each year, thus giving all moderate income families a strong incentive to save. And since the saving match would only be available to those who actually save, the potential for abuse will be small.

The Board's other retirement savings recommendation, expanding the availability of automatic enrollment neatly combines with improving the savers' credit. Automatic enrollment and similar mechanisms like automatic escalation show continued popularity among the employees who are affected by it, with 85 percent in one poll saying that they started to save earlier than they would have otherwise. Continuing to expand these features to additional 401(k) and other similar plans combined with the creation of an Automatic IRA that will enable up to 90 percent of Americans to save for retirement since only about 1 in 10 eligible individuals who don't have access to a 401(k) plan currently contribute to an IRA.

Two members of the President's Economic Advisory Board, Martin Feldstein and Laura Tyson have joined a number of others on both sides of the ideological divide to endorse the Automatic IRA. Combined with the Board's two recommendations, the Automatic IRA and a refundable savers' credit will enable many more Americans to build retirement security.