Addressing the Achilles’ Heel of Auto IRA Programs

Auto IRAs: Their Potential and Challenges
Not long ago, I participated in a services proposal to a fledgling, state-based Auto IRA program. Knowing little about Auto IRAs, I had to learn fast. Fortunately for me, Auto IRAs were already a thing, and there were existing programs I could closely examine and learn from.

The potential of Auto IRA programs was very easy to see:
By delivering ubiquitous access to a workplace retirement savings vehicle and pairing it with auto enrollment and auto escalation features, more state workers – particularly lower-income and gig economy workers – could easily save for their retirement. Because these workers tended to have lower incomes and could often require access to funds for emergencies, Roth IRAs were the savings vehicle of choice. In theory, one program account could house a worker’s retirement savings as they changed jobs, provided they stayed in the same state. Finally, as programs grew their assets, they could quickly reach economies of scale that would drive down fees.

As of this writing, 5 states (Oregon, California, Illinois, Washington, and Massachusetts) are up-and-running. According to this chart, another 5 states should soon follow suit, with a host of others engaged in some form of activity to that end. According to the same chart, only 4 states (Florida, Alabama, South Dakota and Alaska) appear to have no Auto IRA activity at all.

Even with that apparent momentum, Auto IRA programs face challenges to becoming successful, including:

1. Demographics: Targeted savers are typically lower-income, part-time and gig economy workers, who change jobs frequently and tend to have high levels of cashout leakage.  While this is central to the Auto IRA program mission, it does create unique challenges.
2. High Cost of Service: Large concentrations of small balance accounts with frequent withdrawals are not ideal for achieving economies of scale and offering low, asset-based fees. Consequently, service providers find themselves caught between states’ desire for low fees, vs. hard dollar costs associated with servicing large numbers of small accounts.
3. Portability of Savings: In theory, state-based Auto IRA programs deliver portability by allowing savers to retain the same account as they move to other participating employers. Practically, portability for program savers is weak, as I explain below.

Current Auto IRA program metrics support these observations. According to consolidated statistics, as of April 2022, there were 460,419 funded IRA accounts in state Auto IRA programs with combined assets of $407.9 million. That’s an average account balance of around $956.

While these figures are growing and should increase over time, the programs are almost certainly dealing with high levels of job-changing and pre-retirement withdrawals (I.e., leakage) as savers utilize emergency savings features that allow unfettered access to their balances.

Portability: The Achilles’ Heel of Auto IRAs
American workers are famously mobile, moving not only from job-to-job but frequently relocating, often from state to state. In addition, upward mobility occurs as careers progress and earnings increase. Today’s lower-income and/or gig worker can easily become tomorrow’s higher earning, full-time employee.

My point is that many of today’s Auto IRA program savers will not be actively contributing to a program tomorrow, leaving their balances stranded, or worse, simply cashing them out.

To avoid becoming large warehouses for small balance, transient retirement savings, these programs could dramatically improve their metrics by providing seamless portability for savers as they enter, as well as when they leave.

Here’s how basic retirement savings portability should work for state-based Auto IRA programs:

• When savers first enroll in an Auto IRA program and take charge of their new account, they should immediately be presented with an offer to consolidate their balances from other retirement savings accounts, if they have them. Tax-qualified savings from 401(k) plans or from other IRAs could be consolidated into a traditional IRA. Of course, not everyone will have balances to consolidate, and for those who do, not everyone will accept the offer, but the benefits of consolidation in terms of lowering cashout leakage and simplifying retirement planning are proven.
• At termination, all savers should be offered education to understand their options, as well as assistance to move their retirement savings forward, if desired.

Of course, Roth savings present a special problem, as Roth funds can only be transferred out of a defined contribution plan, but not rolled in from a Roth IRA. If new legislation provided for Roth IRA funds to be rolled into 401(k) plans, the door could open for Auto IRA programs to engage in auto portability, where small account balances could seamlessly move in both directions, as workers change jobs, cross state lines and participate in different plans and programs.

While I firmly believe that the benefits of portability would be substantial, don’t take my word for it. An Employee Benefits Research Institute (EBRI) Issue Brief (What if OregonSaves Went National: A Look at the Impact on Retirement Income Adequacy) found that a nationwide implementation of Auto IRA programs reduced the nation’s retirement shortfall by $645 billion, or 17 percent of the total. However, the addition of auto portability delivered much larger reductions of $1.03 trillion, or 27 percent of the total.

A Compelling Case for Auto IRA Programs
When it comes to state-based Auto IRA programs, a compelling case can be made that the incorporation of retirement savings portability is exactly what these programs need to overcome their unique challenges and to achieve their goals. When combined with enabling legislation that would enhance the portability of Roth IRA balances, Auto IRA programs could participate fully in auto portability, realizing substantial benefits that would accrue to the entire Auto IRA ecosystem, but most importantly, to millions of retirement savers.