New retirement savings plan for low-income workers, without cost to employers

Past efforts to boost retirement savings of low-income household have not been successful, according to Penn Wharton, which just released its new illustrative plan to boost retirement for these households, designed to not burden employers with higher administrative costs or contributions.

The Penn Wharton Budget Model (PWBM) is a new policy created by the Wharton School of the University of Pennsylvania in response to policymaker questions that could create automatic retirement savings accounts for more than 56 million low-income Americans by 2030.

The plan is for the federal government to create personal individual investment accounts for qualifying individuals, based on Earned Income Tax Credit criteria, for three different variations:

• Small: 10% contribution rate of earned income; annual maximum contribution of $2,000; contributions are phased-out at a rate of 30% starting at $50,000 of earned income.
• Medium: 10% contribution rate of earned income; annual maximum contribution of $2,250; contributions are phased-out at a rate of 30% starting at $50,000 of earned income.
• Big: 10% contribution rate of earned income; annual maximum contribution of $2,500; contributions are phased-out at a rate of 30% starting at $50,000 of earned income.

Individuals could potentially have retirement savings of more than $200,000 each in automatic retirement savings accounts, according to the PWBM policy.

In its design, the retirement pool will grow with the federal government making annual contributions to the individual retirement savings accounts; households or employers are not required to make any contributions. In exchange, those individuals would give up the tax breaks they receive for investing in 401(k) retirement accounts.

In its projections under the existing plan, the federal government will spend about $1.25 trillion over the next decade to subsidize retirement savings in 401(k) and similar retirement plans.

The PWBM analysis projected savings under its plan for three types of savers by age 65:

• A person aged 24 in 2025 with the lowest average annual income ($12,700) could have an account balance of $125,000.
• A person aged 26 in 2025 with earned income of $27,900 could have an account balance of between $150,000 and $200,000.
• A saver aged 24 in 2025 who has the highest average annual earnings of $59,300 could have a retirement account balance of between $100,000 and $125,000.

In its plan, the government would make contributions of 10% of earned income that reach a maximum of $2,000, $2,250, and $2,500 under those three scenarios, respectively; contributions are phased out at a rate of 30% starting at $50,000 of earned income.

Currently, retirement savings under 401(k) and similar plans mostly benefit higher-income households, according to Wharton. The automatic retirement savings accounts will shift more of those benefits to lower-income households with little impact on retirement savings by higher-income households. “The idea was to take that money that we otherwise would have spent, and gear it toward low-income households,” said Kent Smetters, faculty director at PWBM.

Related: Saver’s Match: New employer 401(k) option that expands access for low-income workers

However, as a nonpartisan research think tank, PWBM does not advocate for policy changes. “We’re not proposing anything, saying Congress should do this,” Smetters said. “We’re just simply showing how it could be done.”

Congress is actually attempting to boost retirement security for millions of low- and middle-income American workers. The Retirement Savings for Americans Act was first introduced in the Senate in 2021 and reintroduced in 2023. The legislation would offer federal matching contributions for low- and middle-income workers, with the match beginning to phase out at median income.