Social Security Individual Accounts and Employer-Sponsored Pensions

Publication Date: February 2005

Publisher: Library of Congress. Congressional Research Service

Author(s):

Research Area: Banking and finance; Labor

Type:

Abstract:

The President's 2001 Commission to Strengthen Social Security recommended that Social Security be modified to include voluntary individual accounts. The commission acknowledged that establishing and maintaining a system of individual accounts (IAs) could impose new costs on employers, particularly small employers. The commission's final report urged that in designing and implementing a system of IAs, policymakers should attempt to minimize the cost to employers while maintaining the features of IAs that would make them attractive to workers.

Pension analysts generally agree that designing individual accounts would require trade-offs between individual choice and efficient management. A relatively "high-cost" approach would create a system of IAs in which contributions to the accounts are deposited quickly, participants have substantial control over their accounts and have many investment choices, but in which employers must take on substantial new administrative duties. A "low cost" option would deposit contributions several months after they have been deducted from employees' pay, give participants less control over their accounts and provide few investment choices, but would minimize the administrative tasks required of employers. The low-cost approach to implementing Social Security individual accounts would avoid imposing significant new expenses on small businesses, but the result would be a system that would have few of the investment features common to modern 401(k) plans.

The ability of an employer to absorb new administrative costs associated with Social Security individual accounts would depend in part on its size and whether it already sponsors a retirement plan for its employees. Large employers would be able to spread the fixed costs of administering the accounts over more workers, thereby reducing average costs. Employers that already offer their employees a retirement plan have an administrative infrastructure in place to perform any new tasks that might be required to maintain a system of individual accounts. Most employers in the United States are small employers with fewer than 20 employees, and most small employers do not sponsor a retirement plan for their workers.

Employers could seek to offset cost increases that arise from administering individual accounts by reducing or restructuring the benefits they currently offer to their employees. For example, employers who must absorb new costs to help administer IAs might reduce contributions to their 401(k) plans or otherwise reduce their existing pension benefits. Social Security IAs also could affect employees' contributions to 401(k) plans. With more of their future retirement income dependent on investment returns, some workers might invest their 401(k) contributions more conservatively. Alternatively, exposure to greater investment risk could encourage some employees to increase their contributions to 401(k) plans in an attempt to offset some of this risk. As they gain experience with the accounts, some workers might develop a "taste for saving" that would persuade them to save more through other savings vehicles such as Individual Retirement Accounts (IRAs).

This report will be updated as legislative developments occur.