PPA (Pension Protection Act)
The Pension Protection Act of 2006 is legislation adopted in recognition of the increasingly important role played by 401k plans (and the corresponding declining importance of traditional pension plans) in the retirement planning landscape. With respect to 401k planning, PPA addressed three major problem areas:
- Encouraged Automatic Enrollment - To encourage greater participation in 401k plans, PPA removed legal obstacles faced by employers who wanted to automatically enroll their workers in the plans. Studies show that automatic enrollment increases participation by as much as 41 percent and that the vast majority of workers automatically enrolled still participate after 3-4 years.
- Sanctioned Increases in Default Contribution Rates - To promote higher levels of retirement savings, PPA encouraged 401k plan sponsors to increase the deferral percentage by at least 1 percentage point annually up to 6 percent of compensation – or until the employee stops the increases. Sponsors can continue the increases up to 10 percent of compensation.
- Broadened Investment Options - Prior to PPA, "default" investment options generally consisted of conservative money market funds having little or no risk of principal loss. Not being skilled investors, many 401k participants simply allowed assets to accumulate in the default funds despite the fact that there was little hope of accumulating an adequate retirement nest egg. PPA encouraged 401k sponsors to offer default investment options more in line with sound retirement planning by removing fiduciary liability concerns associated with defaulting workers into investments where they potentially could lose money.
Department of Labor regulations adopted with passage of PPA provide for:a list of “qualified default investment alternatives” that included target date funds (funds that change asset allocation based on a participant’s age), balanced funds (funds with a target risk level appropriate for the plan’s participants as a whole), and managed accounts (accounts managed by an investment service that determines allocations based on age and target retirement date). Plans that place a participant’s defaulted contributions in these investments avoid fiduciary liability; the liability shifts to the participant.
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