retirement security for latinos: bolstering coverage, savings and adequacy

The Ret i rement Secur i ty Pro ject

The RetirementSecurity Project

National Councilof La Raza

RetirementSecurity forLatinos:Bolstering Coverage,Savings and Adequacy

Nº 2005-7

The Retirement Security Project

is supported by

The Pew Charitable Trusts

in partnership with

Georgetown University's

Public Policy Institute and

the Brookings Institution.

Advisory Board

Bruce BartlettSenior Fellow, National Center forPolicy Analysis

Michael GraetzJustus S. Hotchkiss Professor of Law,Yale Law School

Daniel HalperinStanley S. Surrey Professor of Law,Harvard Law School

Nancy KilleferDirector, McKinsey & Co.

Robert RubinDirector, Chairman of the ExecutiveCommittee and Member of the Officeof the Chairman, Citigroup Inc.

John ShovenCharles R. Schwab Professor ofEconomics and Director, StanfordInstitute for Economic Policy Research,Stanford University

C. Eugene SteuerleSenior Fellow, The Urban Institute

Commonsensereforms,real worldresults

www.ret i rementsecur i t yprojec t .org

The Retirement Security Project • Retirement Security for Latinos

1july 2005

Too many Americans — and too manyLatinos* in particular — are not savingadequately for retirement. Half of allhouseholds nearing retirement have only$10,000 or less in an employer-based401(k)-type plan or Individual RetirementAccount (IRA). Among Hispanics, thefigures are even more astonishing: overhalf of Hispanic households aged 55 to59 have no accumulated assets in a401(k) or IRA. A variety of othermeasures confirm that Latinos aredisproportionately likely to be under-saving. Only one in two Hispanics has abasic transaction account, such as achecking or savings account. Whensurveyed, 43 percent of Hispanic workersdescribed their personal knowledge ofinvesting or saving for retirement as“knowing nothing,” compared to 12percent for all workers.1

According to the U.S. Census Bureau,Hispanic Americans are the fastestgrowing segment of the population at ornear retirement. The number of Hispanicsaged 65 and over will increase from 1.7million in 2000 to a projected 15.2 millionby 2050. As a share of the retirement agepopulation, Hispanics will increase from4.9 percent in 2000 to a projected 17.5percent in 2050.2

Although the challenge of under-savingamong Latinos may seem substantial, agrowing body of empirical evidence pointsthe way to a solution. Three commonsense, empirically supported steps toincrease retirement saving include:

• Making it easier to save. Work, family,and other more immediate demandsoften distract workers from the need tosave and invest for the future. Those

who do take the time to consider theirchoices find the decisions quitecomplex: individual financial planning isseldom a simple task. In the face ofsuch difficult choices, many peoplesimply procrastinate and thereby avoiddealing with the issues altogether,which dramatically raises the likelihoodthat they will not save enough forretirement. Disarmingly simpleconcepts — such as changing thedefault options in 401(k) plans andmaking it easy to save part of anincome tax refund — have the potentialto cut through this Gordian knot andimprove retirement security through aset of common sense reforms. Theevidence described below suggeststhat such changes may have particularbenefit for Latino workers.

• Increasing the incentives to save.The federal tax system provides littleincentive for participation in tax-preferred saving plans to middle- andlower-income households, those whoneed most to save more for retirementand whose contributions would mostlikely represent an actual increase insavings. Furthermore, the rulesgoverning many means-testedgovernment programs entail steepimplicit taxes on saving, furtherdiminishing any incentive for moderate-and low-income households to save.Savings incentives can bestrengthened by revamping the Saver’sCredit, which helps to correct the“upside-down” structure of taxincentives for retirement saving, and byreforming the asset tests associatedwith means-tested programs. Thesereforms may be especially effective atbolstering incentives for Hispanics to

Retirement Security for Latinos:Bolstering Coverage, Savings and Adequacy

By Peter R. Orszag and Eric Rodriguez

* The terms “Latino” and “Hispanic” are used interchangeably by the U.S. Census Bureau and throughout this report to identifypersons of Mexican, Puerto Rican, Cuban, Central and South American, Dominican, and Spanish descent; they may be of anyrace. Similarly, the use of the term “White” in this report denotes “non-Hispanic White.”

Introduction

Over half of Hispanic

households aged

55 to 59 have no

accumulated assets

in a 401(k) or IRA.


2 july 2005

save; Hispanics on average havelower incomes than others andtherefore currently receive little or noincentive to save from the tax code,while being more likely to face steepimplicit taxes on savings from assettests. Data from the Census show,for example, that 53 percent of allHispanic workers reported less than$25,000 in earnings in 2001, but only25 percent of non-Hispanic Whitesearned as little.3

• Promoting financial counseling.Targeted and tailored financialcounseling appears to be an effectivemeans to encourage retirement savingsand sound investment choices,especially for middle- and lower-incomeworkers. Yet the majority of workershave not even attempted to figure outhow much they will need to save forretirement. Possible options to

improve financial counseling andeducation for middle- and lower-income workers include grants tocommunity tax preparation sites toprovide opportunities for individualretirement savings counseling andassistance (perhaps in the form of atax credit) to employers who provideemployees with access to an indepen-dent financial counselor once a year.

This paper has five sections. The firstsection documents retirement savingsand adequacy trends among Latinos.The second section explores ways ofmaking it easier for Latinos to save.The third section examines reforms toincrease the incentives for Hispanics tosave. The fourth section discusses theimportance of financial education in thiseffort to bolster retirement savings for theLatino community. The final section offersconclusions.


3july 2005

Retirement Savings andAdequacy Among Latinos

Latinos face particular challenges inpreparing for retirement. Only about aquarter of Hispanic workers participatedin an employer-provided pension plan in2001, compared to about half of theoverall workforce.4 This low level ofpension participation represents a threatto Latino retirement security.

The lower rate of Hispanic pensionparticipation persists even within earnings,age, and firm size categories. Forexample, Table 1 shows that pensionparticipation in 2003 was significantlylower for Hispanic workers than for Whiteworkers within any earnings category.(Note that native-born Hispanics hadparticipation rates that were significantlyhigher than nonnative-born Hispanics.Participation rates for native-bornHispanics were only somewhat lower thanthose for White workers within the sameearnings category.) Similar patternsemerge within age categories and withinfirm size categories.

Data on accumulated assets in 401(k)sand IRAs also point to lower retirementsavings among Hispanics, includingwithin any given income category.

Table 2, which is based on data from the2001 Survey of Consumer Finances,shows the average 401(k) and IRAbalance and the median balance for allhouseholds and for Hispanic-headedhouseholds. Among all households, themedian balance held in these types ofretirement accounts was $600; theaverage was $53,670. Among Hispanics,the median was zero and the averagewas $10,480. The table also shows thatasset balances for Hispanics aresignificantly lower in any given incomecategory: among households withincomes between $50,000 and $75,000,for example, the average balance for allhouseholds was more than $50,000;among Hispanics, the average was only alittle more than $12,000. The verymodest account balances held by Latinosunderscores the fundamental challenge ofboosting retirement savings specificallyfor Latinos. Even when Latinos areparticipating in retirement savingsvehicles, they do not take advantage ofthese options to the extent that theycould. Making saving easier couldincrease retirement security for the Latinocommunity.

Part of the explanation for the sharpdifferences in Table 2 is the lower rate ofparticipation in 401(k)s and IRAs among

Table 1: Pension participation rates for wage andsalary workers ages 21 - 64, 2003

Annual earnings White Hispanic Nonnative- All Native-born born Hispanic

Less than $15,000 17% 14% 6% 9%

$15,000-$29,999 44 35 21 26

$30,000-$49,999 65 59 41 50

$50,000 or more 75 73 58 66

All 53 41 22 29

Source: Craig Copeland, “Employment-Based Retirement Plan Participation: GeographicDifferences and Trends,” Employee Benefit Research Institute, Issue Brief No. 274, October 2004

Only about a quarter

of Hispanic workers

participated in an

employer-provided

pension plan in

2001, compared to

about half of the

overall workforce.


4 july 2005

Latinos. Even among those withaccounts, however, a significant differencegenerally remains. In other words,Hispanics are less likely to participate in401(k)s and IRAs, and those Latinos whodo participate typically contribute lessthan other participants. Table 3 showsthe accumulated account balances for allhouseholds and for Hispanics when theanalysis is restricted to those with anaccount. As the table shows, Hispanichouseholds with a 401(k) or IRA tend tohave significantly lower accumulatedbalances than all households with anaccount. For example, between $50,000and $75,000 in income, the averagebalance for all households was more than$58,000; the average for Hispanics wasunder $23,000.

Finally, part of the explanation for thedifferences highlighted in Table 2 mayreflect the age distribution of Hispanicscompared to the overall population.Latinos are a younger population

comparatively. But even among thoseaged 55 to 59, and therefore on the vergeof retirement, Latino account balances aresignificantly lower than for otherhouseholds. Small sample sizes do notpermit a full presentation of all incomecategories, but Table 4 shows the figuresfor all incomes combined. Among allhouseholds in this age range, the mediancombined 401(k)-IRA balance was$10,400; among Latino households in thesame age range, the median was zero. Inother words, the majority of Hispanichouseholds aged 55 to 59 and thereforeon the verge of retirement had nothingaccumulated in either a 401(k) or an IRA.Similarly, among all households in thisnear-retirement stage, the averagecombined 401(k)-IRA balance was almost$120,000; among Hispanics, it was justover $35,000.

This low level of pension accumulationmeans that Social Security benefitsdominate as a source of income for

Table 2: Assets held in 401(k)s and IRAs

Income class All households Hispanic households (thousands of 2000 dollars) Average Median Average Median

Less than 10 $2,572 $0 $159 $0

10-20 4,200 0 2,331 0

20-30 10,763 0 1,383 0

30-40 23,252 200 6,896 0

40-50 24,909 2,000 15,404 0

50-75 50,868 15,700 12,136 900

75-100 73,638 28,500 34,655 7,000

100-200 160,626 62,000 61,293 58,000

200-500 324,617 164,000 * *

500-1,000 731,549 300,000 * *

More than 1,000 718,832 308,000 * *

All 53,670 600 10,480 0

Source: Authors’ analysis of 2001 Survey of Consumer Finances* Inadequate sample sizes

5july 2005

retired Latinos. According to the PewHispanic Center, 76 percent of elderlyHispanics who receive Social Securitybenefits rely on those benefits for themajority of their income.5 Perhaps evenmore astonishingly, Social Securitybenefits represent the only source ofincome for two in five (41 percent) ofelderly Hispanic beneficiaries.6 This istwice the percentage for all elderlybeneficiaries, where 20 percent relyexclusively on Social Security – still toohigh a share, but much lower thanamong Latino beneficiaries.

Rigorous economic analysis alsosuggests disproportionate under-savingamong Hispanics. For example, Engen,Gale, and Uccello incorporate theimplications of uncertain wages into theiranalysis of retirement savings adequacy.7

The analysis recognizes that because ahousehold’s future income is uncertain,the level of current assets necessary tolive comfortably in retirement is alsouncertain. They therefore generate adistribution of optimal wealth targetsrelative to earnings for narrowclassifications of households (separated


Table 3: Assets held in 401(k)s and IRAs for those with an account


Less than 10 $798 $300 * *

10-20 13,071 3,200 * *

20-30 15,761 4,000 3,215 2,100

30-40 34,890 9,200 16,441 5,000

40-50 34,971 14,000 36,836 24,000

50-75 58,848 29,000 22,831 15,000

75-100 85,526 60,850 22,488 12,000

100-200 164,449 91,000 100,183 101,000

200-500 408,992 231,200 * *

500-1,000 799,103 418,000 * *

More than 1,000 852,102 360,000 * *

All 94,620 28,500 38,555 14,000

Source: Authors’ analysis of 2001 Survey of Consumer Finances* Inadequate sample sizes

Table 4: Assets held in 401(k)s and IRAs, households headed by a person ages 55 - 59


All $119,232 $10,400 $35,050 $0

Source: Authors’ analysis of 2001 Survey of Consumer Finances

Social Security

benefits represent

the only source of

income for two in

five (41 percent) of

elderly Hispanic

beneficiaries.

by age, education, pension status, maritalstatus, and current wage). They thencompare actual wealth-earnings ratios tothe simulated optimal targets, and seewhat share of households are above themedian simulated optimal target. If everyhousehold were saving the right amountfor retirement, and the Engen-Gale-Uccello model were exactly correct, halfof households should have wealth-earnings ratios in excess of the mediansimulated optimal ratio for their householdtype. To undertake these comparisons,the authors apply three definitions of“wealth.” “Broad wealth” is equal to allnet worth other than equity in vehicles.8

“Narrow wealth” is broad wealthexcluding equity in the household’sprimary residence. “Intermediate wealth”is broad wealth excluding one-half of thehousehold’s equity in its primaryresidence.

Table 5 shows the Engen-Gale-Uccelloresults using the 2001 Survey ofConsumer Finances for all householdsand for Latino households. As the tableshows, much smaller percentages of

Latino households than other householdsare at or above their median simulatedoptimal wealth-earnings ratio. Forexample, using the narrow wealthmeasure, 52 percent of all households areat or above the median simulated wealth-earnings ratio for their household type.Among Hispanic households, however,under 20 percent are at or above themedian. In other words, under this morerigorous analysis, as under the simpleasset calculations above, Latinos appearto be disproportionately savinginadequately for retirement.

According to official projections,Hispanics have higher life expectancythan other Americans (Table 6). At age22, for example, Hispanics have a lifeexpectancy of 60 years — three yearslonger than White non-Hispanics and morethan seven years longer than Black non-Hispanics. At age 65, Hispanics have alife expectancy of more than 21 years,again significantly longer than non-Hispanics. Such relatively long lifeexpectancies for Latinos reinforce theconcerns about their savings adequacy:


6 july 2005

Table 6: Life expectancy(number of years of additional expected life at given age)

Age White, non-Hispanic Black, non-Hispanic Hispanic

22 57.0 52.7 60.1

65 18.3 17.1 21.3

Source: U.S. Census Bureau, 2004 Life Tables, from Projections of the United States by Age,Sex, Race, Hispanic Origin, and Nativity: 1999-2100

Table 5: Percent of households at or abovemedian simulated wealth-earnings ratio

All Hispanics

Narrow wealth 52.3% 19.6%Intermediate wealth 61.0 32.3Broad wealth 68.8 41.0

Source: Engen-Gale-Uccello analysis of 2001 Survey of Consumer Finances

7july 2005The Retirement Security Project • Retirement Security for Latinos

longer life expectancies, unless offset bylater retirements, increase theaccumulated assets needed in order tolive comfortably throughout retirement.Studies like that of Engen-Gale-Uccelloassume that Latinos have the same lifeexpectancy as other people; to the extentthat Latinos actually have longer lifeexpectancies, their retirement savingadequacy is even worse than what ispresented in Table 5.

In evaluating the official life expectancyfigures, it should be noted thatresearchers have raised questions aboutthe longer-than-average life expectanciesamong Latinos. In particular, lifeexpectancy for native-born Hispanicsappears to be similar to that of non-Hispanics. The differential shown inTable 6 appears to arise solely from non-native-born Hispanics, and it is possiblethat the life expectancy differential fornon-native-born Hispanics reflectsmeasurement errors.9

The bottom line is that too many Latinofamilies are failing to save adequatelyfor retirement. As a recent NCLR issuebrief concluded, “Policy-makers whopurport to have an interest in openingthe doors of economic opportunity forLatinos should ensure that the U.S.pension system works for all Americanworkers and take steps to create moreavenues for Hispanic workers toparticipate…With targeted policyinterventions these pathways toprosperity can be enhanced for Hispanicworkers, and only then will we begin toconstructively address the disparity inwealth between Latino and otherAmerican families.”10

In the rest of this paper, we exploreseveral common sense reforms thatwould help to address the under-savingamong Latinos highlighted by the datapresented above. In particular, wepresent three key dimensions alongwhich even relatively small steps couldpotentially translate into substantialimprovements in Latino retirementsecurity: making it easier to save,

increasing the incentives to do so, andstrengthening financial education.

Making It Easier to Save

The trend over the past two decadesaway from the traditional, employer-managed plans and toward savingsarrangements directed and managedlargely by the employees themselves,such as 401(k)s and IRAs, is in manyways a good thing. Workers enjoy morefreedom of choice and more control over their own retirement planning. But fortoo many households, the 401(k) and IRArevolution has fallen short. As the firstsection of the paper demonstrates, asignificant number of the households leftbehind are Hispanic.

To address this problem, policy-makersand corporate leaders should make iteasier for households, including Hispanichouseholds, to save for retirement. Twokey steps that would move in thisdirection involve automating 401(k) plansand allowing part of tax refunds to bedirectly deposited into IRAs.

Automating the 401(k)

A 401(k)-type plan typically leaves it up tothe employee to choose whether toparticipate, how much to contribute,which of the investment vehicles offeredby the employer to invest in, and when topull the funds out of the plan and in whatform (in a lump sum or a series ofpayments).11 Workers are thusconfronted with a series of financialdecisions, each of which involve risk andcalls for a certain degree of financialknowledge. Many workers shy awayfrom these burdensome decisions andsimply do not choose. Those who dochoose often make poor choices.Among those covered, many do notparticipate. Among those whoparticipate, many contribute little to theiraccounts, and others take the money outbefore reaching retirement age. Andworkers often do not follow the mostbasic norms of prudent asset allocation.Many overinvest in their own companies’

Longer life

expectancies,

unless offset by

later retirements,

increase the

accumulated assets

needed in order to

live comfortably

throughout

retirement.


8 july 2005

stock: in plans that allow employer stockas an investment option, 46 percent ofparticipants hold more than 20 percentof their account balance in employerstock.12 This overconcentration inemployer stock means that any financialdifficulties experienced by the employercould expose an employee not onlyto lost wages but also a substantialerosion of retirement security. Thetendency to overinvest in employerstock further indicates the need fortargeted financial education so thatworkers better understand the risksinvolved in investing.

To enroll in a 401(k), an eligible employeeusually must complete and sign anenrollment form, designate a level ofcontribution (typically a percentage of payto be deducted from the employee’spaycheck), and specify how thosecontributions will be allocated among anarray of investment options. Often theemployee must choose from among 20or more different investment funds. Anemployee who is uncomfortable makingall of these decisions may well end upwithout any plan, because the defaultarrangement — that which applies whenthe employee fails to complete, sign, andturn in the form — is nonparticipation.

Heavy reliance on self-direction in 401(k)plans made more sense when 401(k) planswere first developed in the early 1980s. Atthat time, they were mainly supplements toemployer-funded defined benefit pensionand profit-sharing plans, rather than theworker’s primary retirement plan. Sinceparticipants were presumed to have theirbasic needs for secure retirement incomemet by an employer-funded plan and bySocial Security, they were given substantialdiscretion over their 401(k) choices. Today,despite their increasingly central role inretirement planning, 401(k)s still operateunder essentially the same rules andprocedures, based on those now-outmoded presumptions. Yet the risks ofworkers making poor investment choicesloom much larger now that 401(k)s havebecome the primary retirement savingsvehicle.

To improve the design of the 401(k), weshould recognize the power of inertia inhuman behavior and enlist it to promoterather than hinder saving. Under anautomatic 401(k), each of the key eventsin the process would be programmed tomake contributing and investing easierand more effective.

• Automatic enrollment: Employeeswho fail to sign up for the plan —whether because of simple inertia orprocrastination, or perhaps becausethey are not sufficiently well organizedor are daunted by the choicesconfronting them — would becomeparticipants automatically.

• Automatic escalation: Employeecontributions would automaticallyincrease in a prescribed manner overtime, raising the contribution rate as ashare of earnings.

• Automatic investment: Funds wouldbe automatically invested in balanced,prudently diversified, and low-costvehicles, whether broad index funds orprofessionally managed funds, unlessthe employee makes other choices.Such a strategy would improve assetallocation and investment choices whileprotecting employers from potentialfiduciary liabilities associated with thesedefault choices.

• Automatic rollover: When anemployee switches jobs, the funds inhis or her account would beautomatically rolled over into an IRA,401(k) or other plan offered by thenew employer. At present, manyemployees receive their accumulatedbalances as a cash payment uponleaving an employer, and many of themspend part or all of it. Automaticrollovers would reduce such leakagefrom the tax-preferred retirementsavings system. At this stage, too, theemployee would retain the right tooverride the default option and placethe funds elsewhere or take the cashpayment.


In each case — automatic enrollment,automatic escalation, automaticinvestment, and automatic rollover —workers can always choose to overridethe defaults and opt out of the automaticdesign. Automatic retirement plans thusdo not dictate choices any more thandoes the current set of default options,which exclude workers from the planunless they opt to participate. Instead,automatic retirement plans merely pointworkers in a pro-saving direction whenthey decline to make explicit choices oftheir own.

These steps have been shown to beremarkably effective. For example,studies indicate that automatic enrollmentboosts the rate of plan participation froma national average of about 75 percent ofeligible employees to between 85 and 95percent.13 The evidence also suggeststhat automatic enrollment is particularlyeffective in boosting participation amongHispanics: among new Hispanicemployees, automatic enrollment hasincreased participation from 19 percent to75 percent (Figure 1).14 And even among

the lowest earning Hispanic workers,those with earnings below $20,000,automatic enrollment raised participationfrom 4 percent to 55 percent. Table 7shows more detail on the effect ofautomatic enrollment among Hispanics,demonstrating significant increases inparticipation in each sub-classification.

Despite its demonstrated effectiveness inboosting participation, especially forHispanics, only a small minority of 401(k)plans today have automatic enrollment.According to a recent survey, 8 percent of401(k) plans (and 24 percent of plans withat least 5,000 participants) have switchedfrom the traditional “opt-in” to an “opt-out”arrangement.15 Automatic enrollment is arecent development, and therefore it mayyet become more widely adopted overtime, even with no further policy changes.But policy-makers could accelerate itsadoption through several measures.Some of these policy measures would beappropriate only if automatic enrollmentwere adopted in conjunction with otherfeatures of the automatic 401(k),especially automatic escalation:

Figure 1: Effect of automatic enrollmentamong newly hired Hispanic employees

Source: Calculations by Brigitte Madrian, University of Pennsylvania

0

10

20

30

40

50

60

70

80

Par

tici

pat

ion

Rat

e

19

75

18

75

4

55

Without Automatic Enrollment

All Hispanic Female Hispanics Hispanics withunder $20,000

in earnings

With Automatic Enrollment

The evidence also

suggests that

automatic enrollment

is particularly

effective in boosting

participation among

Hispanics: among

new Hispanic

employees,

automatic enrollment

has increased

participation from 19

percent to 75

percent.


10 july 2005

• First, the law governing automaticenrollment could be better clarified. Insome states, some employers see theirstate labor laws as potentially restrictingtheir ability to adopt automaticenrollment. Although many expertsbelieve that federal pension lawpreempts such state laws as they relateto 401(k) plans, additional federallegislation to confirm this explicitly wouldbe helpful. Any such explicitpreemption should be undertaken onlyto the extent necessary to protectemployers’ ability to adopt automaticenrollment.

• Second, some plan administratorshave expressed the concern that somenew, automatically enrolled participantsmight demand a refund of theircontributions, claiming that they neverread or did not understand theautomatic enrollment notice. Thiscould prove costly, because restrictionson 401(k) withdrawals typicallyrequire demonstration of financial

hardship, and even then thewithdrawals are normally subjectto a 10 percent early withdrawal tax.One solution would be to passlegislation permitting plans to “unwind”an employee’s automatic enrollmentwithout paying the early withdrawal taxif the account balance is very small andhas been accumulating for a shortperiod of time.

• Third, Congress could give plansponsors a measure of protection fromfiduciary liability if the defaultinvestment they have prescribed is anappropriate one, such as a “balanced”mutual fund that invests in bothdiversified equities and bonds or otherstable-value instruments. Theexemption from fiduciary responsibilitywould not be total: plan fiduciarieswould retain appropriate responsibilityfor avoiding conflicts of interest,excessive fees, lack of diversification,and imprudent investment choices.However, it would provide meaningful

Table 7: Effect of automatic enrollment on newly hired Hispanic workers

Participation rate without Participation rate with automatic enrollment automatic enrollment

All Hispanic workers 18.9 75.1Gender

Male Hispanics 22.2 75.0Female Hispanics 17.8 75.2

AgeAge <20 -- 75.0Age 20-29 9.3 72.8Age 30-39 20.5 76.7Age 40-49 37.7 77.8Age 50-59 33.3 72.7

Compensation<$20K 3.5 54.8$20-$29K 14.7 76.4$30-$39K 29.4 90.0$40-$49K 40.0 69.0$50K+ 53.8 80.9

Source: Calculations by Brigitte Madrian, University of Pennsylvania


protection under ERISA (the EmployeeRetirement Income Security Act of1974, the principal legislation governingemployer pension plans), thusencouraging more employers toconsider automatic enrollment.

• Fourth, Congress could establish thefederal government as a standard-setter in this arena by incorporatingautomatic enrollment into the ThriftSavings Plan, the defined contributionretirement savings plan covering federalemployees. The Thrift Savings Planalready has a high participation rate,but if automatic enrollment increasedparticipation by even a few percentagepoints, that would draw in tens ofthousands of eligible employees whoare not currently contributing.Moreover, the Thrift Savings Plan’sadoption of automatic enrollment,along with other elements of theautomatic 401(k), would serve as anexample and model for otheremployers.

• Finally, broader adoption of automaticenrollment and the other key pieces ofthe automatic 401(k) could beencouraged by reforming an exceptionto the rules governingnondiscrimination in 401(k) plans.Many firms are attracted to automaticenrollment because they care for theiremployees and want them to have asecure retirement, but others may bemotivated more by the associatedfinancial incentives, which stem in largepart from the 401(k) nondiscriminationstandards. Policy-makers could changethe rules to allow the matching safeharbor only for plans that featureautomatic enrollment and the other keyparts of the automatic 401(k).

In sum, a growing body of evidencesuggests that the judicious use of defaultarrangements — arrangements that applywhen employees do not make an explicitchoice on their own — holds substantialpromise for expanding retirement savings.The effects appear to be particularlypromising for Hispanic households, whooften have the greatest need to increase

their savings. Retooling America’svoluntary, tax-subsidized 401(k) plans tomake sound saving and investmentdecisions more automatic, while protectingfreedom of choice for those participating,would require only a relatively modest setof policy changes — and the steps takenthus far are already producing good resultsfor those with access but who do notparticipate or who have low participationrates. Expanding these efforts will make iteasier for millions of Hispanic Americanworkers to save, thereby promising greaterretirement security.

Allowing Part of a Tax Refund to beDeposited into an IRA

Most American households — includingthe majority of Hispanic households —receive an income tax refund everyyear.16 For many, the refund is the largestsingle payment they can expect toreceive all year. Accordingly, the morethan $200 billion issued annually inindividual income tax refunds presents aunique opportunity to increase personalsavings. Census data show that 3.8million Hispanic households were eligiblefor the Earned Income Tax Credit in2002.17 Millions more Hispanichouseholds likely received an income taxrefund because of over-withholdingthroughout the year.

Currently, taxpayers may instruct theInternal Revenue Service to deposit theirrefund in a designated account at afinancial institution. The direct deposit,however, can be made to only oneaccount. This all-or-nothing approachdiscourages many households fromsaving any of their refund. Some of therefund is often needed for immediateexpenses, so depositing the entireamount in a savings account is not afeasible option. Yet directly depositingonly part of the refund in such an accountis not possible.

Allowing taxpayers to split their refundcould make saving simpler and, thus,more likely — especially if combinedwith the stronger incentives to savediscussed on the next page. The

Policy-makers

could change the

rules to allow the

matching safe

harbor only for

plans that feature

automatic

enrollment and the

other key parts of

the automatic

401(k).


12 july 2005

Administration has supported divisiblerefunds in each of its last two budgetdocuments, but the necessaryadministrative changes have not yet beenimplemented. The Internal RevenueService could provide a split refundoption by administrative action withoutthe need for legislation. Althoughimplementation does raise a variety ofadministrative issues, none of theseadministrative issues appears to presentan insuperable obstacle.18

Once refund splitting is implemented, akey obstacle that might limit participationis the need to have an IRA to receive therefund. This may be of special concernfor Latinos: only 42 percent of Hispanichouseholds even owned an interest-earning account at a financial institution in2002.19 If a household does not alreadyhave an IRA, an IRA would have to be setup (including choosing a vendor,choosing investments, and taking anyother steps necessary to open theaccount). These steps may be asignificant impediment in some cases.One possibility would be to allowtaxpayers who do not have an IRA todirect on their tax return that thegovernment open an IRA in their name ata designated “default” financial institutionthat has contracted with the governmentto provide low-cost IRAs for this andrelated purposes. Another possibility,suggested by Professor Peter Tufano ofHarvard Business School, is to allow taxfilers to elect part of their refund to be invested in a government savingsbond, which would not require an IRA to be created in their name.

In summary, allowing households to splittheir tax refunds and deposit part of themdirectly into an IRA would make savingeasier. Since federal individual incometax refunds total more than $200 billion ayear, even a modest increase in theproportion of refunds saved couldrepresent a significant increase in savings.

Increasing Incentives to Save

In addition to making it easier to save,policy-makers should increase the

incentives for middle- and lower-incomehouseholds to do so. A ground-breakingnew study from The Retirement SecurityProject in collaboration with H&R Blockshows that the combination of a clear andunderstandable match for savings, easilyaccessible savings vehicles, theopportunity to use part of an income taxrefund to save, and professional one-on-one assistance could generate asignificant increase in retirement savingsparticipation and contributions, evenamong middle- and lower-incomehouseholds.20 The study found that highermatch rates significantly raise IRAparticipation and contributions. AverageIRA contributions among those offered a20 percent or 50 percent match were 4and 8 times higher, respectively, than in acontrol group that received no match.

To improve the financial incentives forhouseholds to save, two key stepsinclude strengthening the Saver’s Creditand reducing the heavy implicit taxes onsavings often imposed through means-tested benefit programs.

Strengthening and Expanding theSaver’s Credit

For decades, the U.S. tax code hasprovided preferential tax treatment toemployer-provided pensions, 401(k)plans, and IRAs relative to other forms ofsavings. The effectiveness of this systemof subsidies remains a subject ofcontroversy.21 Despite the accumulationof vast amounts of wealth in pensionaccounts, concerns persist about theability of the pension system to raiseprivate and national savings, and inparticular to increase savings amongthose households most in danger ofinadequately preparing for retirement.

Many of the major concerns stem, atleast in part, from the traditional form ofthe tax preference for pensions. Pensioncontributions and earnings on thosecontributions are treated more favorablyfor tax purposes than othercompensation: they are excludible (ordeductible) from income until distributedfrom the plan, which typically occurs

To improve the

financial incentives

for households to

save, two key

steps include

strengthening the

Saver’s Credit and

reducing the heavy

implicit taxes on

savings often

imposed through

means-tested

benefit programs.


years if not decades after the contributionis made. The value of this favorable taxtreatment depends on the taxpayer’smarginal tax rate: the subsidies are worthmore to households with higher marginaltax rates, and less to households withlower marginal rates.22

The pension tax subsidies, therefore, areproblematic in two important respects.First, they reflect a mismatch betweensubsidy and need. The tax preferencesare worth the least to lower-incomefamilies, and thus provide minimalincentives to those households who mostneed to save more to provide for basicneeds in retirement. Instead, the taxpreferences give the strongest incentivesto higher-income households, who,research indicates, are the least likely toneed additional savings to achieve anadequate living standard in retirement.

Second, as a strategy for promotingnational savings, the subsidies are poorlytargeted. Higher-income households aredisproportionately likely to respond to theincentives by shifting existing assets fromtaxable to tax-preferred accounts. To theextent such shifting occurs, the net result isthat the pensions serve as a tax shelter,rather than as a vehicle to increase savings,and the loss of government revenue doesnot correspond to an increase in privatesavings. In contrast, middle- and lower-income households, if they participate inpensions, are most likely to use theaccounts to raise net savings.23 Becausemiddle-income households are much lesslikely to have other assets to shift into tax-preferred accounts, any deposits theymake to tax-preferred accounts are morelikely to represent new savings rather than asset shifting.

The Saver’s Credit, enacted in 2001, wasdesigned to address these problems.The Saver’s Credit in effect provides agovernment matching contribution, in theform of a nonrefundable tax credit, forvoluntary individual contributions to 401(k)plans, IRAs, and similar retirementsavings arrangements. Like traditionalpension subsidies, the Saver’s Creditcurrently provides no benefit for

households that owe no federal incometax. However, for households that oweincome tax, the effective match rate in theSaver’s Credit is higher for those withlower income, the opposite of theincentive structure created by traditionalpension tax preferences.

The Saver’s Credit is the first and so faronly major federal legislation directlytargeted toward promoting tax-qualifiedretirement savings for middle- and lower-income workers. It was enacted as partof the Economic Growth and Tax ReliefReconciliation Act of 2001. In principle,the credit can be claimed by middle- orlower-income households who makevoluntary retirement savings contributionsto 401(k) plans, other employer-sponsored plans (including SIMPLEplans), or IRAs. In practice, however, thenonrefundability of the credit means itoffers no incentive to save to the millionsof lower- and middle-income householdswith no income tax liability.

The matching rates under the Saver’sCredit reflect a progressive structure —that is, the rate of governmentcontributions per dollar of privatecontributions falls as household incomerises. This pattern stands in stark contrastto the way tax deductions and the rest ofthe pension system subsidize savings.The Saver’s Credit is currently a smallexception to this general pattern: theTreasury Department estimates that the taxexpenditures associated with retirementsavings preferences in 2005 will totalroughly $150 billion, of which only $1 billionis attributable to the Saver’s Credit.24

The Saver’s Credit applies tocontributions of up to $2,000 per yearper individual. As Table 8 shows, thecredit rate is 50 percent for marriedtaxpayers filing jointly with adjusted grossincome (AGI) up to $30,000, 20 percentfor joint filers with AGI between $30,001and $32,500, and 10 percent for jointfilers with AGI between $32,501 and$50,000. The same credit rates apply forother filing statuses, but at lower incomelevels: the AGI thresholds are 50 percentlower for single filers and 25 percent


14 july 2005

lower for heads of households. The credit’s effect is to correct theinherent bias of tax deductions orexclusions in favor of high-marginal-ratetaxpayers. A $100 contribution to a401(k) by a taxpayer in the 35 percentmarginal federal income tax bracketgenerates a $35 exclusion from income,resulting in a $65 after-tax cost to thetaxpayer. In contrast, without the Saver’sCredit, a taxpayer in the 15 percentmarginal bracket making the same $100contribution to a 401(k) gets only a $15exclusion from income, resulting in an$85 after-tax cost. Thus, the taxdeduction is worth more to the higher-income household. However, if the lower-income taxpayer qualifies for a 20 percentSaver’s Credit, the net after-tax cost is$65 ($100 minus the $15 effect ofexclusion minus the $20 Saver’s Credit).Thus, the Saver’s Credit works to levelthe playing field by increasing the taxadvantage of saving for middle- andlower-income households.

The credit represents an implicitgovernment matching contribution foreligible retirement savings contributions.The implicit matching rate generated bythe credit, though, is significantly higher

than the credit rate itself. The 50 percentcredit rate for gross contributions, forexample, is equivalent to having thegovernment match after-tax contributionson a 100 percent basis. Consider acouple earning $30,000 who contributes$2,000 to a 401(k) plan or IRA. TheSaver’s Credit reduces that couple’sfederal income tax liability by $1,000 (50percent of $2,000). The net result is a$2,000 account balance that costs thecouple only $1,000 after taxes (the$2,000 contribution minus the $1,000 taxcredit). This is the same result that wouldoccur if the net after-tax contribution of$1,000 were matched at a 100 percentrate: the couple and the governmenteach effectively contribute $1,000 to theaccount. Similarly, the 20 percent and 10percent credit rates are equivalent to a 25percent and an 11 percent match,respectively (Table 8).

Although it is too soon to obtain adefinitive reading of the impact of theSaver’s Credit, preliminary estimates andevidence can be useful in identifying somebasic themes. The nonrefundability of thecredit substantially reduces the number ofpeople eligible for it. Further, the lowmatch rates for middle-income households

Table 8: Saver’s Credit

AGI range for:

Joint filers Singles Credit Tax credit After-tax cost Effective rate for $2,000 incurred by after-tax

contribution individual to matchingcreate $2,000 rateaccountbalance

0-$30,000 0-$15,000 50% $1,000 $1,000 100%

$30,001-$32,500 $15,001-$16,250 20% $400 $1,600 25%

$32,501-$50,000 $16,251-$25,000 10% $200 $1,800 11%

Source: Authors’ calculation using the 2001 Survey of Consumer Finances.

Note: Figures in table assume that couple has sufficient income tax liability to benefit from thenonrefundable income tax credit shown, and do not take into account the effects of tax deductions orexclusions that might be associated with the contributions or any employer matching contributions.


substantially reduce the number of peopleeligible to receive a significant incentive.Nonrefundability results in a credit thatprovides no incentives to tens of millions oflow-income filers who qualify on paper forthe 50 percent credit rate, but who haveno income tax liability against which toapply the credit.

In 2005, 59 million tax filers will haveincomes low enough to qualify for the 50percent credit.25 Since the credit isnonrefundable, however, only about one-seventh of them actually would benefitfrom the credit at all by contributing to anIRA or 401(k).26 Furthermore, of the 59million eligible filers, only 43,000 — orfewer than one out of every 1,000 —could receive the maximum credit ($1,000per person) if they made the maximumcontribution. These are the householdswho have sufficient tax liability to benefitin full from the Saver’s Credit butsufficiently low income to qualify for thehighest match rate.

For families with somewhat higherincomes, the nonrefundability of the creditposes much less of a problem, sincemore of these families have positiveincome tax liabilities. For these families,however, the credit provides only amodest incentive for saving. Forexample, a married couple earning$45,000 a year receives only a $200 taxcredit for depositing $2,000 into aretirement account. This small creditreflects the modest matching rate at thatlevel of income, which provides lessincentive to participate.

IRS data indicate that about 5 million taxfilers claimed the Saver’s Credit in 2002and in 2003. Calculations based on theSurvey of Consumer Finances suggestthat Hispanics represent a share of these5 million filers in rough proportion to theirpopulation share. Since Latinos make uproughly 14 percent of the population(without including residents of PuertoRico), the implication is that at least685,000 Latinos are benefiting from theSaver’s Credit. Moreover, data from H&RBlock suggest that a slightly higher share

of Latinos benefit from the Saver’s Creditthan other H&R Block clients. Tax PolicyCenter data similarly suggest that over45 percent of the benefits from thecurrent credit accrue to filers with cashincome between $10,000 and $30,000and that a disproportionate share ofLatinos are in this income bracket,making the Saver’s Credit of importantconsequence to the Hispanic community.Households with income below $10,000receive almost none of the benefits, anoutcome that reflects the nonrefundabilityof the credit.

The results of a recent study conductedby The Retirement Security Projectconfirms the basic idea behind the existingSaver’s Credit.27 The study, whichinvolved randomized assignment ofdifferent match rates for contributionsmade to an IRA by tax filers, shows thatoffering a stronger incentive to save tomiddle- and lower-income households canencourage them to contribute significantlymore to retirement accounts.28 The studyalso suggests, however, that the existingSaver’s Credit could be made moreeffective in encouraging additionalcontributions. Some options to do so arealready under active discussion amongpolicy-makers:

• First, the credit could potentially bemade more salient and effective byredesigning it as a matchingcontribution that goes into the account,rather than a tax credit. As Table 8shows, the current design results in asubstantially higher implicit match ratethan the credit rate. Instead of thecurrent design in which a tax creditgenerates cash for a worker, it may bedesirable to have matchingcontributions made directly to aworker’s account.

• Second, in order to reduce theapparent revenue cost, Congressstipulated that the existing credit wouldsunset at the end of 2006. It wouldcost between $1 billion and $2 billion ayear to make the existing programpermanent, which seems relatively

Tax Policy Center

data similarly

suggest that over

45 percent of the

benefits from the

current credit

accrue to filers

with cash income

between $10,000

and $30,000

and that a

disproportionate

share of Latinos

are in this income

bracket, making

the Saver’s Credit

of important

consequence.


16 july 2005

modest when the potential impact toincrease retirement savings andretirement security among lower-income workers is considered. Giventhat many Latinos qualify for theSaver’s Credit, extending andstrengthening the credit could help todevelop retirement savings for thefastest growing minority population.

• Third, as noted, tens of millions oflower-income workers are unable tobenefit from the existing programbecause the credit is nonrefundable.The incentives provided by a matchingprogram for retirement contributionsshould be extended to lower-incomeworking families. Doing so, whichwould cost perhaps $2 billion to $3billion per year if based on the currentdesign, would help equalize the taxbenefits of saving for higher- and lower-income households, leveling theplaying field between income taxpayers and workers who pay payrolltax but have no income tax liability.Extending the matching contributionsin this manner would significantlybenefit lower-income earners, withalmost 38 percent of the tax benefitaccruing to individuals and families with$20,000 or less in cash income. Adisproportionate share of the benefitwould likely flow to Hispanic families asmany are working in low-paying jobs.

• Finally, another set of possibleexpansions would extend eligibility toadditional middle-income households.The matching contributions could beexpanded in this way along threedimensions: changes to the credit rate,the income limit, and the manner inwhich the credit is phased out. Theseoptions are explored in another Retire-ment Security Project discussion paper.29

If reformed in this manner, the Saver’sCredit offers the potential to help correctthe nation’s “upside-down” tax incentivesfor retirement savings. The current taxsystem provides the weakest incentivesfor participation in tax-preferred savingsplans to those who most need to save for

retirement and who are more likely to usetax-preferred vehicles to increase netsavings than to serve as a shelter fromtax. The changes described wouldfurther help middle- and lower-incomefamilies save for retirement, reduceeconomic insecurity and poverty ratesamong the elderly, and raise nationalsavings.

Reducing the Implicit Taxes onRetirement Saving Imposed byAsset Tests

Policy-makers have expressed a goal ofincreasing retirement savings amongthose with low or moderate incomes. Butthe asset rules in means-tested benefitprograms could penalize any low- andmoderate-income families who do savefor retirement, by disqualifying them fromthe means-tested benefit program.30 Theasset tests thus represent a substantialimplicit tax on retirement savings — andone that may significantly burden Latinofamilies struggling to save.

Many low-income families rely on means-tested programs at times during theirworking years — during temporary spellsof unemployment or at times whenearnings are insufficient to make endsmeet. The major means-tested benefitprograms, including food stamps, cashwelfare assistance, Medicaid, andSupplemental Security Income (SSI), eitherrequire or allow the application of assettests when determining eligibility. Theasset tests may in effect force householdsthat rely on these benefits — or might relyon them in the future — to depleteretirement savings before qualifying forbenefits, even when doing so wouldinvolve a financial penalty. As a result, theasset tests not only penalize low-incomesavers but may also actually discourageretirement saving in the first place.31

Asset tests in means-tested programs, ascurrently applied, thus constitute a barrierto the development of retirement savingsamong the low-income population.Modifying or eliminating these asset tests,or even disregarding savings in retirement

The asset tests

thus represent a

substantial implicit

tax on retirement

savings — and

one that may

significantly burden

Latino families

struggling to save.


accounts when applying the tests, wouldallow low-income families to buildretirement savings without having to forgomeans-tested benefits at times when theirincomes are low during their workingyears.

In addition to imposing what amounts toa steep implicit tax on savings, the assettests treat retirement savings in aconfusing and seemingly arbitrarymanner. For example, policy-makersoften encourage workers to roll thebalances in a 401(k) account into an IRAwhen they switch jobs, rather thancashing out the 401(k) balance. Yet insome cases, rolling the 401(k) accountinto an IRA could disqualify a worker formeans-tested benefits. For example,under the Food Stamp Program, sometypes of retirement savings accounts arecounted toward the food stamp assetlimit, while other types of retirementaccounts are excluded. Most employer-sponsored retirement plans, including401(k) plans, are excluded. IRAs,however, are counted. Thus, if the cashvalue of a 401(k) is “rolled over” into anIRA, it loses its exclusion and becomes acountable asset following the rollover.This rule is very significant. An employeeoften must take his or her retirementbenefits out of the employer’s 401(k) planwhen he or she stops working for thefirm. For such funds to remain in a tax-favored retirement savings account, theemployee must then roll the funds overinto an IRA (unless the employee is ableto roll the funds into a new employer’sretirement plan). A large share of IRAs arefrom 401(k) or other defined contributionaccounts that have been rolled over. Thefood stamp rule means that changingjobs or being laid off can cause a low-wage working family with a modestretirement account to lose the exclusionfor the account and hence to beterminated from the Food StampProgram unless the family liquidates itsretirement account and spends theproceeds.

Fortunately, substantial progress can bemade to mitigate the penalty on saving

and to simplify the rules in a number ofmeans-tested programs. Congress couldamend the tax code so that retirementaccounts that receive preferential taxtreatment (such as 401(k) plans and IRAs)are disregarded for purposes of eligibilityand benefit determinations in federalmeans-tested programs. There isprecedent for including such crossprogram provisions in the tax code; thepart of the tax code related to the EarnedIncome Tax Credit (EITC) includes aprovision regarding the treatment of theEITC by other means-tested programs. Congress included a similar provision inthe 2001 tax-cut legislation, with regard totreatment of the child tax credit by means-tested programs. Provisions that excludecertain federally-funded Individual Development Accounts from beingcounted as assets in federal means-testedprograms provide another precedent.

Even in the absence of such a cross-program disregard, important recent changes in federal policies have givenstates the flexibility to craft a morecoherent set of asset rules in severalmeans-tested programs to exempt moreretirement savings from asset tests, whilesimplifying program administration. Forexample, in Medicaid, the State Children’sHealth Insurance Program (SCHIP), andprograms funded under the TemporaryAssistance for Needy Families (TANF)block grant, states have completediscretion over the treatment of assets,including retirement accounts. In 2002,10.5 million Latinos (26.6 percent) werecovered by government health insurance(Medicare and Medicaid); 14.6 percent ofall persons covered by government healthinsurance that year were Latino.32 It isreasonable to suppose that if asset testswere restructured in the Medicaidprogram, many Latinos would encounteropportunities to bolster their retirementsavings. In the Food Stamp Program,states have the ability to liberalize assetrules within federal parameters and, forthe time being, to disregard all retirementaccounts if they are disregarded in thestate’s TANF cash assistance or familyMedicaid program.


18 july 2005

State policy-makers could thus begin tomove the system in the right direction bytaking steps such as:

• Aligning rules regarding retirementaccounts in Medicaid (for nonelderlyhouseholds) and TANF cash assistanceto the Food Stamp Program rules, byexempting 401(k) accounts and similaremployer-based plans as assets underthe Medicaid and TANF programs.

• Disregarding IRAs in Medicaid (fornonelderly households) and TANF cashassistance, as well as in the FoodStamp Program, to the extent thatforthcoming food stamp rules allowstates to do so, so that families withchildren and people with disabilitieswho have an IRA, including those whodo not have access to an employer-based retirement plan and those whomust roll over funds from an employer-based plan into an IRA when they arelaid off or change employers, will nothave to liquidate retirement savings toobtain means-tested benefits during aperiod of need.

• Eliminating the Medicaid asset test forfamilies with children, as 22 stateshave already done.

At the same time even if they don’tenact a cross-program disregard, Federalpolicy-makers should implement specificrule changes within the asset testsapplying to SSI, and also explore avariety of ways in which the implicit taxon retirement savings can be reduced.33

Latinos tend to be disproportionatelydependent on SSI because their workhistories and lower wages may make itharder for them to qualify for SocialSecurity, or they may receive such lowbenefits from Social Security thatthey still qualify for SSI. Latinoparticipation rates in the SSI programtend to be higher than that of othergroups. Almost one-tenth (9 percent) ofHispanic couples over 65 receive SSI,compared to 3 percent of Black couplesover 65 and 2 percent of White couplesover 65.34 For unmarried Hispanic

women over 65, the results are alsostriking: 18 percent of unmarried Hispanicwomen receive SSI, compared to 14percent for Black unmarried women over65 and 5 percent of White unmarriedwomen over 65.35 These high levels ofbenefit receipt demonstrate perhaps twochallenges to Hispanic retirement security.First, Latinos are less likely to have beenable to participate in pensions or toreceive Social Security. Second, in orderto receive SSI, they cannot save muchoutside of a few income- and asset-exempt items, further compromisingLatino retirement security.

Promoting Financial Counseling

A final mechanism for policy-makers — aswell as employers — to bolster retirementsecurity and savings among Hispanicsinvolves tailored financial counselingstrategies.36 The evidence suggests thatdisinterested financial education is aneffective tool in raising savings levels.Households that have planned forretirement tend to save more than otherhouseholds, even when controlling forincome and other characteristics.37

Employer-provided financial educationalso tends to generate higher savings, butshould be done in a targeted fashion thatresponds to their employees’ uniqueconcerns. Investments in financialeducation and counseling are particularlycrucial if policy-makers and firms fail totake aggressive steps to make itsubstantially easier to save. Furthermore,implementation of the critical retirementsavings opportunities addressed couldprove less effective at addressing wealthcreation opportunities for Latinos if suchsteps are not combined with a financialcounseling effort.

For Hispanics, financial counseling is anespecially important subject. Forty-threepercent of Hispanic workers describedtheir personal knowledge of investing orsaving for retirement as “knowingnothing,” compared to 12 percent for allworkers.38 Part of this gap arisesbecause many Hispanics remaindisconnected from mainstream financial

In order to receive

SSI, they cannot

save much outside

of a few income-

and asset-exempt

items, further

compromising

Latino retirement

security.


institutions. Up to one-half of Latinos donot have a transaction account, such asa savings or checking account, which is abasic starting point in financialmanagement and wealth-building formany families. Foreign-born Latinos, inparticular, are unlikely to use basicfinancial services at mainstreaminstitutions. Thus, when discussing theseefforts to bolster retirement security forthe Latino community, a tailored financialcounseling effort plays a critical role soopportunities to increase economicsecurity are maximized.

According to one study, among thosewith access to retirement education in theworkplace, 77 percent report using theeducational resources. Moreover, thisstudy revealed a rise in 401(k)participation with the presence ofeducational activity. Thus, improvementsin financial knowledge can boost pensionplan participation.39 The research alsoshows that many Latino workers lackaccess to financial information, which isessential for understanding theimportance of investing in employer-sponsored retirement plans. In 2001, onesurvey found that only 32 percent ofLatino workers surveyed were providedwith educational materials or hadattended seminars about retirementplanning from their employer.40 Thus, atailored effort to address financialeducation and counseling is necessary tobolster retirement security.

The research also suggests that individualcounseling may produce better results forLatinos than generic financial educationtargeted to workers. One study showedthat workplace financial education,combined with one-on-one financialcounseling, affects workers’ attitudes andbehaviors in a positive way.41 Morespecifically, workers with access tofinancial counselors were more likely toparticipate in an employer-sponsoredretirement plan and to increasecontributions to that plan as well. EBRI’s2003 Retirement Confidence Surveyfound that 42 percent of Latino workerssurveyed reported that investment advice

was “very effective.” Forty-eight percentof Latino workers reported that individualaccess to a financial planner was also“very effective.” On the other hand,videos, online services, brochures, andcomputer software received low marksamong Latino workers.42

Since Latinos have specific financialeducation needs and financial choices, a“one-size-fits-all” approach to pensionplan counseling is not the best approachto raising their financial knowledge. For example, when targeting materialsand products to Hispanics, financialeducation materials often are translatedfrom English to their literal equivalent inSpanish, which may be unintelligible ordifficult for the reader to understand. Caremust be taken to convey a clear, easy-to-grasp sense in Spanish of what theEnglish text says. Images and idiomaticSpanish phrases can be used, a processknown as “transcreation,” so that theSpanish dominant reader learns the sameconcepts as an English-dominant reader,regardless of how the English original wasphrased. Unfortunately, while there aremany publications in Spanish, very fewhave been transcreated from their Englishoriginal.

Another challenge is that Hispanicworkers often hold multiple jobs and arelimited to fixed periods of time during theday or week in which to participate inprograms. Therefore, in addition tochoosing the right curriculum and financialeducation program, Latino-focusedfinancial education providers must beincreasingly mindful of the conditionsunder which lower-wage Hispanic workersare able to participate at all in such efforts.Providers now often need to make otherkey decisions before they implement anddesign a program that affects a workingfamily’s ability and willingness toparticipate, including addressing issues ofchild care, transportation needs, andprogram length.

Work-based financial education andcounseling could be improved ifemployers:

Since Latinos

have specific

financial

education needs

and financial

choices, a

“one-size-fits-all”

approach to

pension plan

counseling is not

the best approach

to raising their

financial

knowledge.


20 july 2005

• Include access to an independentfinancial planner for one-on-onecounseling.

• Include information that is custom-tailored to address the unique andcomplex financial challenges thatLatinos face. (e.g., immigrationstatus, language barriers, IDrequirements).

• Market or promote pensionparticipation as a way of providingsecurity for one’s family, as opposed toemphasizing the direct financial value tothe employee.

Policy-makers must also do more tosupport financial education programs inthe workplace and enable workers,especially those that are lower income, toaccess financial counselors:

• One option could be to providefinancial incentives, perhaps througha tax credit, for employers whoprovide their employees with accessto an independent financial counseloronce a year. The Department ofLabor could create and maintaina list of certified and approvedfinancial counselors. This effort wouldrequire a balance between employers’need to be shielded from liabilityissues and workers’ need to beprotected against conflicts of interestand other abuses of the financialadvisory role.

Finally, community-based organizations(CBOs) are also major providers of financialeducation, especially to middle- and lower-income families. Many Latino-servingCBOs are social service providers withconnections reaching deeply into thecommunity and a history of communitysupport and resources are neededto support their financial education efforts.These CBOs could assist in the effort toincrease financial counseling.

To increase and improve financialcounseling infrastructure at thecommunity level, policy-makers could:

• Provide grants to community taxpreparation sites to expand services toprovide individual retirement savingscounseling. This way middle- andlower-income workers could discuss arange of investment options for theirincome tax refunds and their plans forretirement savings, including using theirtax refunds to save.

Conclusion

Too many Hispanics are currently under-saving for retirement, but empiricalevidence points the way towardaddressing the problem. The commonsense reforms described in this paper —making it easier to save, increasing theincentives to do so, and promotingfinancial education — could substantiallyimprove retirement security for theHispanic community.


Endnotes

1 Brenda Muniz et al., National Council of La Raza, Financial Education in Latino Communities: An Analysis of Programs, Productsand Results/Effects. Washington, D.C.: National Council of La Raza, 2004.

2 Karen Humes, “Demographic Portrait of America’s Older Racial and Ethnic Populations,” A presentation at the PopulationResource Center, May 13, 2005, Washington, D.C.

3 U.S. Census Bureau, Table 11.1 Earnings of Full-Time, Year-Round Workers 15 Years and Over in 2001 by Sex, Hispanic Origin,and Race, Current Population Survey, March 2002. http://www.census.gov/population/socdemo/hispanic/ppl-165/tab11-1.pdf

4 Eric Rodriguez and Deirdre Martinez, “Pension Coverage: A Missing Step in the Wealth-Building Ladder for Latinos,” NationalCouncil of La Raza, Issue Brief No. 11, March 2004, page 2.

5 Richard Fry, Rakesh Kochkar, Jeffrey Passel, and Roberto Suro, “Hispanics and the Social Security Debate,” Pew HispanicCenter, March 2005, Figure 4. The Pew Hispanic Center is a project of the Pew Research Center, which is supported by The PewCharitable Trusts' Information Cluster.

6 Social Security Administration, Income of the Population 55 or Older, 2002. Washington, D.C.: Government Printing Office,2005. Table 6.B4

7 William G. Gale, Eric M. Engen, and Cori Uccello, “The Adequacy of Household Saving,” Brookings Papers on EconomicActivity, 1999:2, 65-165, and William G. Gale, Eric M. Engen, and Cori Uccello, “Effects of Stock Market Fluctuations on theAdequacy of Retirement Wealth Accumulation,” forthcoming, Review of Income and Wealth.

8 Broad wealth is thus the sum of equity in the primary residence, other real estate equity, equity in businesses, and net financialassets (which itself is equal to balances in defined contribution plans, 401(k) plans, IRAs, and Keogh plans, as well as non-tax-advantaged financial assets, minus consumer debt).

9 See, for example, Alberto Palloni, "Paradox Lost: Explaining the Hispanic Adult Mortality Advantage," Demography - Volume 41,Number 3, August 2004, pp. 385-415.

10 Eric Rodriguez and Deirdre Martinez, “Pension Coverage: A Missing Step in the Wealth-Building Ladder for Latinos,” NationalCouncil of La Raza, Issue Brief No. 11, March 2004.

11 This section draws upon William G. Gale, J. Mark Iwry, and Peter R. Orszag, “The Automatic 401(k): A Simple Way toStrengthen Retirement Savings,” Retirement Security Project Policy Brief No. 2005-1, March 2005.

12 Jack VanDerhei, “Retirement Security and Defined Contribution Pension Plans: The Role of Company Stock in 401(k) Plans,”Testimony before the Senate Committee on Finance, February 27, 2002.

13 Brigitte Madrian and Dennis Shea, “The Power of Suggestion: Inertia in 401(k) Participation and Savings Behavior,” QuarterlyJournal of Economics 116, no. 4 (November 2001): 1149-87; and James Choi and others, “Defined Contribution Pensions: PlanRules, Participant Decisions, and the Path of Least Resistance,” in Tax Policy and the Economy, Vol. 16, edited by James Poterba(MIT Press, 2002), pp. 67-113.

14 “New employees” are defined as those with between 3 and 15 months tenure at their current job. The data and technique isthe same as that in Madrian and Shea (2001), with the sample limited only to Hispanic workers.

15 Profit Sharing/401(k) Council of America, 47th Annual Survey of Profit Sharing and 401(k) Plans (2004).

16 This section draws on J. Mark Iwry, “Tax Refunds as a Retirement Savings Opportunity,” Retirement Security Project, forthcoming.

17 U.S. Census Bureau, Current Population Survey, Annual Social and Economic Supplement, Table 1. Income DistributionMeasures, by Definition of Income: 2002 (Revised) (Households With A Hispanic Origin Householder.) March, 2003.http://pubdb3.census.gov/macro/032003/rdcall/1_016.htm.

18 See discussion in J. Mark Iwry, “Tax Refunds as a Retirement Savings Opportunity,” Retirement Security Project, forthcoming.

19 Rakesh Kochhar, “The Wealth of Hispanic Households: 1996 to 2002,” Pew Hispanic Center, October 2004. The Pew HispanicCenter is a project of the Pew Research Center, which is supported by The Pew Charitable Trusts' Information Cluster.

20 Esther Duflo, William Gale, Jeffrey Liebman, Peter Orszag, and Emmanuel Saez, “Saving Incentives for Low- and Middle-IncomeFamilies: Evidence from a Field Experiment with H&R Block,” Retirement Security Project Discussion Paper No 2005-5, May 2005.

21 This section draws upon William G. Gale, J. Mark Iwry, and Peter R. Orszag, “The Saver’s Credit: Expanding Retirement Savingsfor Middle-and Lower-Income Americans,” Retirement Security Project Discussion Paper, No. 2005-2, March 2005.

22 Technically, the lifetime subsidy from such accounts comes from two sources: the difference (if any) between the tax rate at thetime of contribution and that at the time of withdrawal, and the tax-free accumulation of funds. See Leonard E. Burman, William G.Gale, and David Weiner, “The Taxation of Retirement Saving: Choosing between Front-Loaded and Back-Loaded Options,” NationalTax Journal 54, no. 3 (September 2001), and Eric M. Engen, John Karl Scholz, and William G. Gale, “Do Saving Incentives Work?”Brookings Papers on Economic Activity, no. 1 (1994), pp. 85-151. In practice, however, these items are often correlated with thetax rate at the time of the contribution, and casual evidence suggests that the up-front deductibility of most of these plans (such as401(k)s and traditional IRAs, which provide the tax advantage at the time of contribution rather than distribution) is an importantdeterminant of whether people make contributions.


22 july 2005

23 See, for example, Eric M. Engen and William G. Gale, “The Effects of 401(k) Plans on Household Wealth: Differences AcrossEarnings Groups,” Working Paper 8032 (Cambridge, Mass.: National Bureau of Economic Research, December 2000), and DanielBenjamin, “Does 401(k) Eligibility Increase Saving? Evidence from Propensity Score Subclassification,” Journal of Public Economics87, no. 5-6 (2003): 1259-90.

24 Office of Management and Budget, Fiscal Year 2005 Analytical Perspectives, table 18-2.

25 These estimates are generated by the Urban-Brookings Tax Policy Center microsimulation model.

26 Some households who can benefit from the Saver’s Credit do not have positive income tax liability, but do have positive incometax liability before taking into account the Earned Income Tax Credit (EITC). For these households, the EITC refund is increased tothe extent that the Saver’s Credit reduces their pre-EITC tax liability.

27 Esther Duflo, William Gale, Jeffrey Liebman, Peter Orszag, and Emmanuel Saez, “Saving Incentives for Low- and Middle-IncomeFamilies: Evidence from a Field Experiment with H&R Block,” Retirement Security Project Discussion Paper No 2005-5, May 2005.

28 Although this study did not put forth a Latino breakdown, it demonstrates that many lower-income households will save forretirement if given a clear incentive to do so. NCLR’s financial education report “Financial Education in Latino Communities: AnAnalysis of Programs, Products and Results/Effects,” (National Council of La Raza, 2004), also notes one study in which three in five(62 percent) Latino non-savers said they could set aside $20 per week, compared to 54 percent for all similar U.S. workers. Clearly,there is a desire to save in the Latino community which could be enhanced with offering matching contributions of a type similar tothat outlined in The Retirement Security Project study.

29 William G. Gale, J. Mark Iwry, and Peter R. Orszag, “The Saver’s Credit: Expanding Retirement Savings for Middle-and Lower-Income Americans,” Retirement Security Project Discussion Paper, No. 2005-2, March 2005.

30 For more detail on these proposals, see Zoë Neuberger, Robert Greenstein, and Eileen Sweeney, “Protecting Low-IncomeFamilies’ Retirement Savings: How Retirement Accounts are Treated in Means-Tested Programs and Steps to Remove Barriers toRetirement Saving,” Retirement Security Project Discussion Paper, June 2005.

31 For a more in-depth discussion of research on the relationship between asset tests and saving rates, see The Effect of AssetTests on Saving, Gordon McDonald, Peter R. Orszag, and Gina Russell, The Retirement Security Project, June 2005, available athttp://retirementsecurityproject.org.

32 U.S. Census Bureau, Current Population Survey, March Supplement 2003.

33 For more detail on these proposals, see Zoë Neuberger, Robert Greenstein, and Eileen Sweeney, “Protecting Low-IncomeFamilies’ Retirement Savings: How Retirement Accounts are Treated in Means-Tested Programs and Steps to Remove Barriers toRetirement Saving,” Retirement Security Project Discussion Paper, June 2005.

34 Social Security Administration, Income of the Population 55 or Older, 2002. Washington, D.C.: Government Printing Office,2005. Table 1.3.

35 Ibid.

36 Brenda Muniz et al., National Council of La Raza, “Financial Education in Latino Communities: An Analysis of Programs,Products and Results/Effects,” National Council of La Raza, 2004.

37 B. Douglas Bernheim, Daniel M. Garrett, and Dean M. Maki, “Education and Saving: The Long-Term Effects of High SchoolFinancial Curriculum Mandates,” NBER Working Paper 6085 (July 1997); B. Douglas Bernheim and Daniel Garrett, “TheDeterminants and Consequences of Financial Education in the Workplace: Evidence from a Survey of Households,” NBER WorkingPaper 5667 (1996); Patrick J. Bayer, B. Douglas Bernheim, and John Karl Scholz, “The Effects of Financial Education in theWorkplace: Evidence from a Survey of Employers,” NBER Working Paper 5655 (July 1996); Annamaria Lusardi, “Explaining Why SoMany People Do Not Save,” Center for Retirement Research, Working Paper 2001-05, Boston College (September 2001).

38 Employee Benefit Research Institute, “2003 Minority Retirement Confidence Survey,” American Savings Education Council, andMathew Greenwald & Associates, Inc., May 2003.

39 Brenda Muniz et al., National Council of La Raza, “Financial Education in Latino Communities: An Analysis of Programs,Products and Results/Effects,” National Council of La Raza, 2004.

40 Employee Benefit Research Institute, “2001 Minority Confidence Survey,” American Savings Education Council and MathewGreenwald & Associates, February 2001.

41 Jinhee Kim, ‘‘The Effectiveness of Individual Financial Counseling Advice,’’ in Jeanne M. Hogarth, ed., Proceedings of the 2001Annual Conference of the Association for Financial Counseling and Planning Education, 2001.

42 Employee Benefit Research Institute, “2003 Minority Confidence Survey,” American Savings Education Council and MathewGreenwald & Associates, May 2003.

Peter R. Orszag is Director of TheRetirement Security Project, the Joseph A.Pechman Senior Fellow in Tax and Fiscal Policy atthe Brookings Institution, and Co-Director of theUrban-Brookings Tax Policy Center.

Eric Rodriguez is the Director of the PolicyAnalysis Center at the National Council of LaRaza. In addition, he plans and prepares policyanalysis, legislative, and advocacy activities relat-ed to economic, employment, and financial secu-rity public policy issues.

The views expressed in this paper are those of the authors alone and should not be attributed to the Brookings Institution,Georgetown University’s Public Policy Institute, The Pew Charitable Trusts,the National Council of La Raza or the Ford Foundation.

Copyright®

The National Council of La Raza wishes to acknowledgesupport from the Ford Foundation to NCLR’s AssetDevelopment Initiative.

The authors would like to thank Laura Bos, GordonMcDonald, Luisa Grillo-Chope, Beatriz Ibarra andCristina Bryan for their assistance with this paper.

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Mission Statement

The Ret i rement Secur i ty Pro ject i s

ded icated to promot ing common

sense so lu t ions to improve the

re t i rement i ncome p rospec ts o f

mi l l ions o f Amer ican workers .

The goa l o f The Ret i rement

Secur i ty Pro ject is to work on a

nonpart isan basis to make i t eas ier

and increase incent ives for middle-

and lower- income Amer icans to

s a v e f o r a f i n a n c i a l l y s e c u r e

ret i rement.

retirement security for latinos: bolstering coverage, savings and adequacy

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