Your 401(k) match is billed as “free money,” but high-income workers may be getting an unfair share

The 401(k) is now the most popular type of retirement plan, with many employers offering a company match when workers save money in their accounts. But these matches — often abbreviated as “free money” from your company — can exacerbate retirement inequality, new research finds.

About 44% of correspondence between employers is directed to the top 20% of earners, according to to a May study by researchers at Vanguard, Yale University and the Massachusetts Institute of Technology. In contrast, the poorest 20% of workers receive just 6% of their employers’ matching contributions, the analysis found.

There’s a lot of money at stake, as companies provided about $212 billion in matching contributions in 2021, or nearly 60 cents for every dollar saved by workers, the study noted. But most of those employer dollars are more likely to go to higher-earning workers, even though companies typically tout their 401(k) matches as a way to convince all workers, regardless of income, to save for retirement. .

“Employer contributions are a ripe target for innovation,” the authors wrote in the report. “They accrue disproportionately to those with higher incomes, white workers, those with more access to liquid wealth and those with wealthier parents.”

The findings come amid increasing scrutiny of the pitfalls of 401(k) plans, which now serve as the predominant retirement vehicle for American workers. About half of all private employees participate in a so-called defined contribution plan, which includes 401(k)s and 403(b)s, compared with about 15% who have access to traditional pensions.

But even as they have supplanted traditional pensions, 401(k) plans have left the majority of American workers behind, according to Teresa Ghilarducci, a labor economist and professor at The New School for Social Research in New York. First, many workers don’t have access to them, and second, those who participate in 401(k) plans are largely left on their own to figure out how to invest and manage them, creating what Ghilarducci calls a “fragile” do-it-yourself system.

After more than four decades of a 401(k) system, nearly 3 in 10 older workers are close to retirement without a penny saved. Two-thirds of the youngest baby boomers I don’t have enough saved for his golden years.

Who saves – and why

In fact, it’s not at all surprising that higher-earning workers receive a larger share of a company’s matching contributions. For example, take two workers who direct 10% of their salary into their 401(k)s, with the first earning $100,000 and the second earning $50,000.

With a typical percentage match, in which an employer matches 50% of an employee’s contributions up to 6% of their salary, the worker earning $100,000 would receive a $3,000 match; for an employee earning $50,000, the match would be $1,500.

But the analysis found that higher-income workers are actually receiving a larger share of employer contributions than their share of income – indicating that higher-income workers enjoy outsized benefits compared to their peers. work with lower income.

In fact, the top 20% receive an 11% larger share of employer contributions than income, while those in the bottom 20% receive a 29% smaller share of matching dollars than income, the study found. .

This is partly because some wealthier workers are more likely to maximize their savings, which helps them make the most of their employers’ “free money.” But these people are also likely to have other advantages, such as family wealth or a Academic degreenoted the study.

At the same time, the analysis concluded that there isn’t much evidence that intercompany matches actually persuade workers to save more. Most low-income workers do not participate in their 401(k) plans despite company matching, while most high-income workers are saving above the company match limit even though they may not benefit from any “cash additional “free,” the study found.

In other words, 401(k)s are giving more advantage to wealthier people who can save more and maximize the company match, while putting people who can’t save as much at a disadvantage, a previous situation. analysis of MIT researchers found. The bottom line is that wealth inequality is likely to persist, they concluded.

There is a type of 401(k) match that offers a fairer distribution of company dollars, the recent analysis found. This type of program is called a dollar limit match, which is only used in 4% of 401(k) plans. These programs limit employer contributions to a dollar amount, such as making a $6,000 match per year, regardless of how much an employee earns or contributes.

And employers could add other attributes to help lower-income workers, such as immediate vesting, automatic enrollment and a higher default savings rate, the researchers noted.