When plans compete for it, can employees win?
When it comes to tax-deferrable income, employees can win if their employer helps them understand the true value of each type of savings or coverage offered to them, depending on their financial situation and where they are in their career.
The chart below compares seven common plans. That comparison, plus company matching, use it or lose it provisions, investment performance, flexibility of distribution options, and differences in tax law can make one type of salary deferral more appealing than another. However, it is not only possible but also appropriate that the appeal of one plan over others will evolve over time for any given employee.
Choosing a Pre-tax Savings Hierarchy
At most ages and circumstances, paying for medical expenses generally comes first. These can be direct payments premiums for medical coverageor indirecta flexible spending account (FSA) or health savings account (HSA). Next will usually be some form of savings, often in a plan offering a company matchlong-term for retirement or nearer-term for education or home purchases. The challenge for many companies is communicating the right information to help their employees choose how deeply to invest in the plan(s) that make sense for them at the time. Ideally, employers should present this information in a way that facilitates easy and regular re-evaluation by employees of their contribution and premium options.
The Life-cycle View
Employees savings goals change as lives and careers progress. For instance, employees unburdened by homeownership, childcare, or high medical costs might be inclined to save the maximum matchable percentage of their pay in their companys plan. Employees accompanied by children and a mortgage or other debt often find saving for education, home purchase, retirement, and family medical coverage or elder care to be higher priorities. Of course, as employees reach their 50s and 60s, their own age-related increases in medical costs further affect their spending behavior.
Can More Options Affect Nondiscrimination Testing?
The concern about the magnitude of lower-paid employees 401(k) contributions (relative to those of highly paid) remains relevant. Is the plan already suffering from poor nondiscrimination testing results? Or is current publicity about HSAs steering lower-paid employees away from 401(k) contributions and creating new nondiscrimination tension? Conversely, if the lowest-paid employees are living paycheck to paycheck, are they justified in paying pre-tax premiums for current medical coverage but for little else?
As long as employers are able to recognize and respond to these personalized communication challenges with understandable and accessible financial and tax information and guidance, competition among these plans for employees tax-deferrable dollars is a good thing. Then, and only then, will employees be able to properly allocaterather than dilutetheir disposable pre-tax income among employer-sponsored plans