In 1974, the Employee Retirement Income Security Act (ERISA) became the cornerstone of retirement protections in the U.S. It was designed to safeguard the retirement savings of American workers. However, as the world of work has evolved, ERISA has aged significantly and now faces a growing need for reform.
The Origins of ERISA: Protecting Workers’ Pensions
In the mid-20th century, large manufacturers like Packard and Studebaker were considered the height of luxury. However, when Studebaker folded in 1963, it left thousands of workers without the retirement benefits they had been promised, which caused public outrage.
Lawmakers took action and, after more than a decade of deliberation, ERISA was signed into law in 1974. The Act provided protections for employees, ensuring that retirement benefits like pensions were secure. ERISA’s primary goal was simple: to ensure that workers received the pensions they had earned, and that companies had to keep their pension funds properly funded and safe.
How ERISA Improved Retirement for Workers
ERISA had many wins when it was first implemented. Some of the key benefits included:
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Fiduciary Protection: ERISA established strict standards, requiring employers to act in the best interest of their employees when managing retirement plans.
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Funding Requirements: Companies were required to meet certain funding levels for their pension plans, helping avoid future disasters like the Studebaker pension collapse.
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Pension Benefit Guaranty Corporation (PBGC): One of ERISA’s key provisions was the creation of PBGC, an insurance program that ensures retirees are compensated if their pension plans fail. The PBGC provides protection even if an employer’s pension plan goes bankrupt.
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Vesting and Eligibility: ERISA shortened the waiting period for employees to become vested in their pensions, making it easier for workers to take their benefits with them when they changed jobs.
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Transparency: ERISA introduced better reporting requirements, ensuring that workers had access to clear information about their retirement benefits. This helped reduce the cost of retirement plans for employees and provided clarity on what they were entitled to.
Why ERISA Needs an Update
While ERISA played a crucial role in improving retirement savings protections, it’s now clear that the law hasn’t kept up with the changing nature of the workforce. Here’s why:
1. The Decline of Traditional Pensions
In the past, most workers relied on defined-benefit pensions, where their employer guaranteed a specific monthly payout upon retirement. However, over the years, employers began to move away from these pension plans, partly because ERISA’s stringent rules made them costly and difficult to manage.
- In 1970, more than half of all full-time workers had a traditional pension. By 2023, that number had fallen to just 11%. Today, most employers offer defined-contribution plans like **401(k)**s instead. While 401(k) plans provide flexibility, they also place more responsibility on workers to save and manage their own retirement funds.
2. Small Businesses Are Left Out
ERISA’s rules are tough on small businesses, many of which struggle to offer retirement plans due to the complexity and cost involved. About one-third of workers in small businesses don’t have access to an employer-sponsored retirement plan, leaving many workers to fend for themselves when it comes to retirement savings.
3. The Rise of Gig Workers
Another major change in the workforce since ERISA’s implementation is the explosive growth of gig and contract workers. Freelancers, contractors, and part-time employees now represent a significant portion of the workforce.
- These workers often lack access to employer-sponsored retirement plans, leaving them with fewer opportunities to save for retirement. While Individual Retirement Accounts (IRAs) are available for these workers, ERISA doesn’t apply to them, leaving many of these workers vulnerable to financial exploitation during rollovers and investment decisions.
4. Longer Life Expectancy
People are living longer than ever, meaning that workers need to save more for retirement. The life expectancy in the U.S. has risen by around 10 years since ERISA was signed into law, creating even more financial pressure for retirees.
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By 2050, the number of Americans over the age of 65 is expected to increase by 42%, which means that more workers will need larger retirement savings to fund longer retirements.
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Despite this, surveys suggest that 40% of households could run out of money during retirement due to insufficient savings. Inadequate savings and lack of access to retirement plans put millions of American workers at risk.
5. Job Hopping and Retirement Savings
Job hopping has become common in recent years. In fact, workers today stay in the same job for an average of just 3.9 years, which is the lowest since 2002.
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Job switching often results in a decline in retirement savings. When workers leave an employer, they often lose track of their retirement accounts or fail to roll them over to a new plan.
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Many workers also face issues when the default savings rate at a new employer is lower than what they had at their previous employer. This can lead to a loss of up to $300,000 in retirement savings over a career.
6. Changes to 401(k) and 403(b) Plans
A new rule, effective from 2023, requires employers to automatically enroll workers in 401(k) and 403(b) plans at a default deferral rate of 3-10% of their salary. The rate will increase every year until it reaches 10-15%. This change will help ensure that more workers are saving for retirement, but it’s still not a perfect solution.
ERISA Needs a Facelift: Key Improvements
ERISA must evolve to address the challenges facing today’s workers. Here are some potential updates:
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Protection for IRAs: With more workers relying on IRAs, ERISA should be extended to cover these accounts to prevent financial exploitation during rollovers.
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More Coverage for Gig Workers: New laws and regulations should be introduced to provide gig workers with access to retirement savings plans, ensuring they aren’t left behind.
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Automatic Enrollment and Portability: To help workers save consistently, employers should be required to offer automatic enrollment in retirement plans, and make it easier to transfer retirement savings between jobs.
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Better Protections for Small Businesses: Making it easier for small businesses to offer retirement plans will improve savings for millions of American workers. Simplified rules and incentives are essential.
Conclusion: The Future of Retirement in the U.S.
The Employee Retirement Income Security Act (ERISA) was revolutionary when it passed, but it’s clear that ERISA needs an update to meet the needs of today’s workers. With longer lifespans, a changing workforce, and fewer pension plans, the law’s outdated provisions leave many workers vulnerable to financial insecurity in retirement.
Retirement planning is more critical than ever. It’s time for policymakers to modernise ERISA to ensure all workers, regardless of their job type or employer, have the opportunity to secure their future.
Relevant links for further reading:
- Employee Retirement Income Security Act (ERISA)
- Pension Benefit Guaranty Corporation (PBGC)
- Gig Economy and Retirement
Photo credit: 401k Specialist
