Employees can invest more now

Sunday, August 20, 2006 What! You're not planning to read the 900-page pension-reform bill? Must be summer laziness. Let me boil it down for you — with emphasis on key parts that might affect your investments for college and retirement. The bill, recently passed by the Senate, is mainly an effort to fix shaky corporate pension plans by forcing employers to fund them more fully. These provisions are mind-numbing. And, whether they are good or bad — experts disagree — they have no effect on ordinary folks' day-to-day financial decisions. But the bill also changes the rules for retirement and college-savings accounts — generally for the better. Many of the Bush tax cuts enacted in recent years were to expire at the end of 2010, making long-term financial planning a gamble. The new measure makes some of those changes permanent, assuming the president signs it, as he has said he will. This includes tax-exempt savings in Section 529 plans, state-sponsored plans families use to save for college. Investment gains in these plans are exempt from federal tax so long as they are used for qualified education expenses such as tuition. 529 plans are a terrific deal, and with the uncertainty over the tax exemption removed, they're more attractive than ever. Similarly, Roth 401(k)'s and 403(b)'s will be permanent. These provide tax exemption on investment gains withdrawn in retirement. Finally, the bill makes permanent the higher limits approved earlier on annual contributions to certain investment accounts. This means you can put up to $4,000 into an IRA this year — $5,000 if you're over 50. And you can put $15,000 into a 401(k) — $20,000 if you're over 50. Without this bill, these limits would have been much lower after 2010. The bill also includes two important provisions on 401(k)s and similar plans. One makes it easier for employers to require that new employees be automatically enrolled in these retirement-investment plans. Most employers have been reluctant to do this for fear they'd be held liable if the investments turned out badly. Now they'll be protected from liability if they meet certain requirements. Under utilized It's no secret that the typical worker does not take full advantage of the plans offered. Many don't contribute anything, and most don't contribute the maximum permitted — up to 20 percent of gross pay. The typical employee is overly conservative, putting too much money into "safe" investments such as bonds and money-market accounts that won't grow fast enough to fund a comfortable retirement. With automatic enrollment, a portion of the employee's pay is automatically put into a well-diversified investment such as a mutual fund. While the employee has the right to opt out of the plan, studies have shown that people who are enrolled automatically tend to stay in, and to contribute more than those who must go to some effort to enroll. Unfortunately, the bill makes the automatic participation pretty small — just 3 percent of annual income to start, rising to 6 percent after the employee has been in the plan for several years. Also, it does not require that employers implement automatic enrollment. Still, it's a step in the right direction. The other provision affecting 401(k)s and similar plans makes it easier for employers to provide workers with investment education and advice, again by protecting the boss from liability. In the past, I've sided with critics who worried that unscrupulous advisers would put their own interests ahead of workers' — by steering them to mutual funds with high fees, for example. But the bill provides some protection against that. And I think the need for investment advice is so great that it makes sense to encourage employers to offer it. Jeff Brown is a business columnist for The Philadelphia Inquirer. E-mail him at brownjphillynews.com.