Economic Crisis Prompts Many Companies To Suspend Contributions To Employee Savings Plans

During this severe recession, many companies are trying to trim costs where they can to stay afloat, and the cost-cutting measures include layoffs, hiring freezes, furloughs, salary freezes and even salary reductions. Employers are also looking at ways to lower retirement plan costs. Many are opting for a short-term solution — cutting company contributions to defined contribution (DC) plans.

Since October 2008, more than 170 employers have announced plans to reduce or suspend matching contributions to their employee savings plans as a cost-cutting measure. Companies typically match 50 percent of the employee's deferral percentage, up to a limit (often 6 percent of salary). The purpose is to encourage workers to contribute to their plans and to help them build up their retirement savings. As DC savings plans have become the only retirement vehicle offered by many companies, the importance of DC contributions has increased accordingly.

Suspending contributions during tough financial times is not unheard of — there were several such suspensions in 2003. Today, however, this cost-cutting measure is becoming more and more prevalent among large companies. In a Watson Wyatt survey on recent changes to HR programs during this economic crisis,¹ 52 percent of responding companies said they had laid off employees, 42 percent had implemented a salary freeze or pay reduction strategy, and 12 percent had suspended or reduced their matching contribution to their DC plan — compared with 3 percent when the survey was conducted in December 2008. Many companies made their decisions after their year-end fiscal results underscored the need for action.

The timing of announcements of cutbacks to DC plans is shown in Figure 1. More than 71 percent of announcements occurred in February and March. More match suspensions and reductions are on the horizon — an additional 12 percent of the Watson Wyatt HR programs survey respondents said they planned to reduce or suspend their match in the near future.

Figure 1
Timing of announcements of changes to DC plans

Source: Watson Wyatt Worldwide.

Changes to DC plans sponsored by Fortune 1000 companies
The rest of this analysis focuses on companies of the Fortune 1000. Fifty-three Fortune 1000 companies have changed their matching contribution to their employees' savings plans since the recession started. The majority (83 percent) of these plan sponsors chose to suspend their matching contribution, at least for 2009, while 13 percent opted to reduce their matching formula. Four percent of the sample changed their match from a "fixed" to a "discretionary" contribution, thereby allowing the company to base the decision on its financial performance at year end.

Of companies that suspended their matching contribution,² 19 percent still offer nonmatching contributions.³ The nonmatching contribution for these companies is typically for newly hired employees who are not eligible for pension benefits previously provided by their employer.

Employees of companies that suspended matching contributions (and don't provide a nonmatching contribution) who contributed enough to qualify for a full match will lose an average 4.2 percent of annual compensation (see Figure 2). Among companies that suspended their matching contribution but still offer a nonmatching contribution, employees will lose an average 3.7 percent of compensation (from 7 percent to 3.3 percent). Among companies that reduced their match formula, employees will lose an average 1.8 percent of annual compensation.

For example, an employee making $50,000/year at a company that suspended matching contributions (and does not provide nonmatching contributions) would lose, on average, $2,100 in that year. Over 2009, we estimate that these reductions will save the 53 companies in this analysis roughly $2 billion.⁴

Figure 2
Compensation after 401(k) match changes for Fortune 1000

* Assuming no matching contribution is made at end of year.

Source: Watson Wyatt Worldwide.

The bigger retirement plan picture for companies changing their DC matches
A significant share (72 percent) of the 53 Fortune 1000 companies that have suspended or reduced their 401(k) match currently provide only a DC plan to their newly hired employees. Twenty-eight percent offer both a DC and a defined benefit (DB) plan. So most employees subject to a suspension or reduction of a contribution match are relying entirely on a DC plan to prepare for retirement (outside of private savings and Social Security).

Of companies that now offer only a DC plan, 82 percent used to offer a DB plan as well, so these companies already scaled back their retirement plans in the past. Sixty-six percent froze their DB plan and 16 percent closed the plan to new hires (as shown in Figure 3), and most did so before suspending their 401(k) match, often several years earlier.

Figure 3
Prior/current action to arrive at DC-only environment

*Thirty-eight companies.

Source: Watson Wyatt Worldwide.

Other major HR actions taken by companies
In addition to suspending or reducing their 401(k) matches, most of the Fortune 1000 companies in this analysis (94 percent) made other HR changes as well, including layoffs and salary freezes or reductions. Eighty-one percent of these plan sponsors have terminated some percentage of their workforce during the financial and economic crises. A majority (64 percent) either froze or cut salaries.

How long will these cuts last?
A key question is how long these match suspensions will last. Almost all the companies in this analysis said they would consider reinstating the 401(k) match once the economy turns around. Only a handful of companies mentioned a timeline, which was generally by the beginning of 2010.

While reducing or even suspending the company 401(k) match for a year or two to free up needed cash may be necessary — particularly if it helps keep the business alive and avoid layoffs — there is some concern about when and whether companies will bring back these benefits. In a recent poll measuring confidence that employers will reinstate benefit cuts when the economic crisis ebbs,⁵ only 30 percent of respondents felt confident that employers would reinstate a 50 percent match on the first 6 percent employees contribute to 401(k) plans. However, companies that suspended their matching contributions in the past eventually reinstated them. Another concern is that — as with the huge wave of pension freezes over the last four to five years — healthy companies might follow suit to stay competitive within their industry.

A scenario where employees are left with voluntary contributory savings plans as their main retirement vehicle would be problematic for companies, employees and society as a whole. As mentioned earlier, matching contributions are a major tool in enticing employees to participate as well as in building adequate retirement savings in DC plans, and plan participation would likely decline without them. Historically, DC plans without a match typically have much lower participation rates than those that provide this benefit.⁶ Lower participation rates could cause problems for sponsors down the road, as employees might not be able to save enough to retire in a timely and efficient manner.

The effects could linger even after a company reinstates the 401(k) match. Without a match, participants might stop contributing or contribute less to their savings plan and — once out of the habit — might not resume contributing even after the employer restarts the match. This could adversely affect plan participation, retirement readiness and even nondiscrimination testing. Sponsors should carefully consider the impact of match suspensions and the potential long-term effects before making such decisions.

¹ See Watson Wyatt Worldwide, "Effect of the Economic Crisis on HR Programs, Update: February 2009," Washington, D.C., https://www.watsonwyatt.com/news/pdfs/WT-2009-11232.pdf.
² Analysis of the prevalence of nonmatching contributions and compensation loss is based on 45 companies for which plan information was available.
³ Nonmatching contributions are made regardless of whether the employee contributes to the plan.
⁴ The estimate for 2009 is based on 2008 cash contributions to DC plans from companies' 10-K and 11-K annual reports.
⁵ This Harris Poll was conducted by Harris Interactive within the United States March 24 and 26, 2009, among 2,280 adults (aged 18 and over), http://www.harrisinteractive.com/harris_poll/pubs/Harris_Poll_2009_04_09.pdf.
⁶ See Steve Nyce (2005), "The Importance of Financial Communication for Participation Rates and Contribution Levels in 401(k) Plans," Benefits Quarterly, Vol. 21:2, pp. 22-39.