Employer Match Game: Lump Sum or Per Paycheck?

How companies match employee contributions to their 401(k) accounts has gotten a lot of attention recently, thanks to AOL Inc.’s public reversal of its plan to give workers an end-of-year lump-sum matching contribution.

But industry experts say AOL’s blooper caused an unnecessary panic.

“A few are making it a bigger deal than it is,” said Chad Parks, president and CEO of The Online 401(k). “There are all different flavors of benefits packages. It’s all about what [employers] are comfortable using. AOL got a bad rap because of how they handled their situation and the excuse they used.”

Earlier this year, AOL CEO Tim Armstrong announced the company planned to switch to a lump-sum matching 401(k) contribution at the end of year, instead of each pay period. The announcement became garbled when Armstrong said the reason the company changed its policy was to offset the rising costs of health care.

It was a public relations nightmare, so AOL reversed its plan and is sticking with its original strategy, matching employee contributions each pay period.

But it didn’t stop there. In February, the Massachusetts Securities Division sent a letter to 30 financial firms asking for statistics on clients who use year-end lump-sum matching contributions.

“At a time when most Americans have much of their retirement savings in these 401(k) plans, it is crucial that they are made aware of the risks involved when a company shifts to a year-end distribution,” said Massachusetts Secretary William Francis Galvin in a written statement. Galvin was not available for comment. By the March 10 deadline to respond, Galvin’s office received some answers and granted a few extensions, a spokesman said.

It’s important to remember that, by law, companies don’t have to make contributions to participants’ 401(k) accounts, Parks said. Overall, about 83 percent of companies make a matching contribution, according to the Plan Sponsor Council of America’s 56th Annual Survey of Profit Sharing and 401(k) Plans, reflecting 2012 data. There are a wide variety of formulas, but survey data show nearly 74 percent of plans match contributions on a payroll period basis.

Several companies receiving the letter from the Massachusetts Securities Division did not want to comment, but Fidelity Investments provided a statement.

“Fidelity provides 401(k) recordkeeping and other employee benefits services to more than 20,000 companies. A very small number of these companies — primarily large employers — have moved in the direction of annual lump-sum matching contributions. In general, we are not seeing a big shift away from the more traditional method of matching employee contributions per pay period,” a Fidelity Investments spokesman said in an emailed statement.

Doing a year-end matching contribution is a strategy companies tend to consider during down economies to save money, said Robyn Credico, defined contribution practice leader at benefits consultancy Towers Watson & Co. Only about 8 percent of Towers Watson clients do it, according to company data, Credico said. The most typical lump-sum match is 50 percent on the first 6 percent of worker contributions.

It can hurt workers because they can’t take advantage of dollar-cost averaging, a way to reduce risk by investing a little each pay period instead of one large amount at the end of the year.

But for companies with tight budgets, a year-end lump-sum contribution might be the right strategy to save money — as well as keep and reward talent. If workers quit before the end of the year, then they aren’t eligible for the company match.

“If you have a certain budget, and you are trying to maximize it and give the most you can to the employees who stay with you, then I don’t have a problem” with the end-of-year lump-sum match, Credico said.

Parks added that companies using this strategy often liken it to a profit-sharing contribution. When the benefit is communicated, employees learn that the amount they’re receiving at year-end is a result of their hard work during the year. It’s a good way to keep workers at companies longer, given the U.S. Bureau of Labor Statistics’ July 2012 data showing workers hold an average 11.3 jobs between ages 18 and 46.

Employers need strategies that can help reduce the risk of turnover, Parks said.

“Employers do want to reward loyalty and to control cash flow. There is an argument to be made that pay as you go doesn’t give the employer the full value of the benefit offering,” Parks said. “Companies bring on people and invest in them heavily. It’s disheartening when they walk out after eight months.”