Although legislative obstacles to Roth 401(k) plans have been cleared, employers and employees remain slow to embrace the plans, which allow employees to withdraw money tax-free after making contributions with post-tax dollars.
Thats because the plans are difficult for many employees to understand. Also, they often come with additional payroll costs that many employers are reluctant to assume.
Implementing the Roth 401(k) is a huge undertaking, said Pam Hess, director of retirement research at Hewitt Associates LLC, Lincolnshire, Ill. Theres a lot of complexity administratively and operationally. Its not something to be done lightly.
Only 22% of 429 employers surveyed early this year by the Chicago-based Profit Sharing/401(k) Council of America offered Roth 401(k)s to employees. In workplaces where such accounts were available, only about 8% of employees had signed up.
Today, the level of participation by employees whose companies offered Roth 401(k)s through Fidelity Investments stands at 3.5%, said Jamie Cornell, senior vice president of marketing at the Boston-based firm. That compares with 2006, when only 1.7% of employees signed up for the plans, the assets of which totaled $50 million, according to figures Fidelity released recently.
(Acceptance is) just taking longer than we all expected, Mr. Cornell said.
Law and accounting are among the industries in which Roth 401(k)s are most prevalent. Financial services companies also are more likely than most other firms to offer Roth 401(k)s to employees, according to industry observers.
Acceptance of these plans has been slowed by the many changes within the 401(k) industry in recent years, said Luis Fleites, vice president and director of retirement at Financial Research Corp., Boston.
I think theres been greater focus on automatic enrollment, target-date funds and other features that have taken precedence over the Roth 401(k) plan with plan sponsors, he added.
Rick Meigs, president and founder of 401khelpcenter.com LLC in Portland, Ore., agreed.
I dont think its lost the momentum I just think its gotten lost, he said of Roth 401(k) plans.
Human behavior might also be hampering the acceptance of Roth 401(k)s, said Dallas Salisbury, president and chief executive of the Employee Benefit Research Institute in Washington.
Betting on taxes
By choosing to participate in a Roth 401(k), employees are essentially betting that their taxes will be higher when they retire. In going with a traditional 401(k), however, they get the immediate gratification of paying less tax up front.
Individuals are choosing the immediate tax reduction, Mr. Salisbury said. Behavioral finance would suggest that the Roth flies in the face of normal human behavior, and that means itll always be a hard sale.
EBRI intends to begin tracking the growth of assets in Roth 401(k)s, he added.
Roth 401(k)s were created in 2001 and went into effect Jan. 1, 2006. A major impediment to their proliferation was a provision that no new contributions could be made after 2010, but that provision was eliminated under the Pension Protection Act of 2006.
Roth 401(k)s allow employees to make contributions with after-tax dollars and to withdraw those contributions and earnings tax-free, provided the recipient is at least 59½ years old and holds the account for at least five years. The plans are considered especially beneficial for younger employees with many years to rack up tax-free gains, and unlike a traditional account, there are no income restrictions for opening a Roth 401(k) plan.
Fund company executives are hoping more employees will embrace Roth 401(k)s as they gain a better understanding of how the plans work.
At the end of 2006, only about 14% of employers who offered a traditional 401(k) through The Vanguard Group Inc., Malvern, Pa., also offered a Roth 401(k), said Stephen P. Utkus, director of the Vanguard Center for Retirement Research. Today, that figure has grown to about 33% and is likely to hit 50% in five years.
At workplaces where a Roth 401(k) is available through Vanguard, about 5% of employees have signed up, he added.
The adoption of Roth 401(k)s is also on the rise at Charles Schwab & Co. Inc., said Clare Bergquist, director of 401(k) strategies at the San Francisco-based firm. At the end of 2006, 30% of employers who offered 401(k)s through Schwab also offered a Roth 401(k). Today, that figure is up to 35%. And among employers that offer a Roth 401(k) through Schwab, 10% of their employees are directing assets into such plans.
Weve seen a tremendous uptick from professional services firms, Ms. Bergquist said. They were quick to adopt it.