oversight

401(k) Pension Plans: Loan Provisions Enhance Participation But May Affect Income Security for Some

Published by the Government Accountability Office on 1997-10-01.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

                United States General Accounting Office

GAO             Report to the Chairman, Special
                Committee on Aging, and the Honorable
                Judd Gregg, U.S. Senate


October 1997
                401(k) PENSION
                PLANS
                Loan Provisions
                Enhance Participation
                But May Affect Income
                Security for Some




GAO/HEHS-98-5
      United States
GAO   General Accounting Office
      Washington, D.C. 20548

      Health, Education, and
      Human Services Division

      B-277050

      October 1, 1997

      The Honorable Charles E. Grassley
      Chairman
      Special Committee on Aging
      United States Senate

      The Honorable Judd Gregg
      United States Senate

      Since they were established in 1978, 401(k) pension plans have grown
      rapidly and now account for about one quarter of all pension plans and
      pension assets.1 Through 401(k) plans, workers can affect their retirement
      savings, depending on the contribution level they choose and the
      investment decisions they make. Most 401(k) pension plans also allow
      participants to borrow against their pension accounts at relatively low
      interest rates. Pension-plan borrowing is not limited to 401(k) plans. For
      example, to encourage saving in individual retirement accounts (IRA),
      recent legislation allows early withdrawal from these accounts for certain
      purposes, such as for a first-time home purchase.

      Proponents of pension-plan borrowing argue that allowing such access to
      retirement savings before retirement increases participation in pension
      plans where participation is voluntary. They also argue that pension-plan
      borrowing increases contributions to plans where participants determine
      their contribution levels. However, critics argue that pension-plan
      borrowing often results in lower pension income at retirement. In
      addition, opponents to the creation of individual Social Security accounts
      fear that if borrowing from such accounts were allowed, Social Security
      income could be jeopardized.

      Given the importance of pension-plan borrowing and possible implications
      for Social Security reform and individual retirement accounts (IRA), you
      asked us to (1) determine the effects of pension-plan borrowing on
      participation in and contributions to 401(k) pension plans, (2) describe the
      demographic and economic characteristics of workers who borrow from
      their pension accounts, and (3) identify the potential consequences for
      participants who borrow from their pension accounts.

      1
       There are two basic types of pension plans: defined benefit and defined contribution. Pension benefits
      in defined-benefit plans are generally calculated with a formula based on years with the firm, age at
      retirement, and salary averaged over some number of years. In defined-contribution plans, employers
      generally promise to make guaranteed periodic contributions to workers’ accounts, but retirement
      benefits are not specified. Many employers also match workers’ contributions to these accounts. A
      401(k) plan is a defined-contribution plan.



      Page 1                                                       GAO/HEHS-98-5 401(k) Pension Plans
                   B-277050




                   To conduct our work, we analyzed two databases. The first is a nationally
                   representative sample containing detailed demographic and employment
                   information about American workers in 1992; the second contains pension
                   plan information for plans with 100 or more participants in 1992. These
                   data were the most recent available at the start of our study, and we have
                   no reason to believe that worker characteristics have significantly
                   changed. We also reviewed the economic and pension literature and
                   solicited comments from outside pension analysts. We did our work
                   between October 1996 and August 1997 in accordance with generally
                   accepted government auditing standards. (For further details on our scope
                   and methodology, see app. I.)


                   Plans that allow borrowing have a somewhat higher proportion of
Results in Brief   employees participating than other plans, all other factors being equal. In
                   addition to employer matching, allowing borrowing increases participation
                   among eligible employees, especially lower-income employees. Allowing
                   pension-plan borrowing also significantly affects how much employees
                   contribute. Participants in plans that allow borrowing contribute, on
                   average, 35 percent more to their pension accounts than participants in
                   plans that do not allow borrowing.

                   Based on individual financial data we examined, relatively few plan
                   participants—less than 8 percent—have one or more loans from their
                   pension accounts. This, of course, is true at a point in time and would not
                   include those who had repaid a past loan or who might borrow in the
                   future. Blacks and Hispanics, lower-income individuals, participants who
                   have recently been turned down for a loan, and workers who also are
                   covered by other pension plans are more likely to borrow from their
                   pension account than other participants. Plan borrowers, on average, have
                   fewer assets than nonborrowers and have more nonhousing debt relative
                   to income than nonborrowers.

                   While borrowing provisions may reduce retirement income, they also can
                   encourage workers to save for their retirement. Loan provisions of many
                   pension plans provide for repaying the loan at favorable interest rates,
                   which may be lower than the investment yield that could have been earned
                   had the money been left in the pension account. Consequently, the
                   borrower will have a smaller pension balance at retirement, since the
                   interest paid to the account is less than what the account balance could
                   have earned from investing in equities. However, other potential effects of
                   borrowing could outweigh these disadvantages. For example, borrowing



                   Page 2                                      GAO/HEHS-98-5 401(k) Pension Plans
             B-277050




             for purposes such as education or training could increase lifetime family
             income and, hence, retirement income. In addition, if loan provisions
             influenced the employee’s decision to participate in the pension plan, the
             employee’s retirement income would likely have been even less had there
             not been such provisions.

             Allowing participants to borrow from their defined-contribution pension
             plan, therefore, may be a double-edged sword. Our results also suggest
             that there are both advantages and disadvantages to borrowing from other
             voluntary retirement savings accounts, such as IRAs. However, few of the
             positive effects of pension-plan borrowing would be realized in mandatory
             retirement programs like Social Security.


             The number of defined-contribution pension plans, especially 401(k)s, has
Background   been growing, and by 1993, they accounted for 88 percent of all pension
             plans and 61 percent of all active pension-plan participants. Many
             participants’ defined-contribution plans supplement another pension plan.

             A 401(k) pension, or salary-reduction, plan is a defined-contribution plan
             that allows participants to contribute, before taxes, a portion of their
             salary to a qualified retirement account. Investment income earned on
             401(k) account balances accumulates tax-free until the individual
             withdraws the funds at retirement. However, participation in 401(k) is
             voluntary, and contribution levels are determined by the individual but can
             be no larger than $9,500 per year.

             About 85 percent of 401(k) pension plans are the only pension plan
             sponsored by the employer, although the majority of 401(k) plan
             participants are covered by another pension plan. A recent study of
             selected 401(k) plans shows that worker participation rates for these plans
             varies from about 50 percent to over 90 percent.2 Participant contributions
             to 401(k) accounts, on average, are about 7 percent of earnings. To
             encourage participation in and contributions to these pension plans, plan
             sponsors may wholly or partially match employee contributions and
             provide education on the importance of retirement saving. In addition,
             over half of all 401(k) pension plans allow participants to borrow from
             their pension accounts.




             2
              Robert L. Clark and Sylvester J. Schieber, Factors Affecting Participation Rates and Contribution
             Levels in 401(k) Plans (Washington, D.C.: Watson Wyatt Worldwide, May 1996).



             Page 3                                                       GAO/HEHS-98-5 401(k) Pension Plans
B-277050




Borrowing from 401(k) pension plans is legally permissible and allows
plan participants to borrow the lesser of $50,000 or one half of their vested
account balance. The term of the loan cannot exceed 5 years, unless the
loan is used to purchase a primary home. Furthermore, the loans are
generally offered at very favorable interest rates. A recent survey of 401(k)
plans found that about 70 percent of the plans that allow borrowing charge
an interest rate equal to or less than the prime rate plus one percentage
point, while less than 10 percent charge an interest rate equal to the local
bank’s lending rate.3 The repayment of loan principal and, unless the
primary residence is used to secure the loan, interest payments are not
tax-deductible. Failure to repay the loan results in the outstanding loan
balance being considered a taxable pension distribution. The borrower is
then responsible for paying all taxes on the distribution plus a 10-percent
early withdrawal penalty if the borrower is under 59-1/2 years old.

Overall, about half of all firms with 100 or more employees that offer
savings and thrift plans permit participant loans.4 Previously, GAO reported
that 57 percent of the firms with 100 to 499 employees that offer a 401(k)
plan permit participant loans.5 Similarly, 80 percent of firms with 500 to
4,999 employees and 46 percent of firms with 5,000 or more employees
permit loans against 401(k) accounts. In addition, over 95 percent of
401(k) plans that offer loans have at least one plan participant with an
outstanding loan.

Pension-plan loan provisions, however, are controversial. Advocates argue
that loan provisions are an incentive to lower-income workers to
participate in pension plans where participation is voluntary. Furthermore,
many 401(k) plan administrators think loan provisions also have a
somewhat positive impact on participants’ contribution rates to pension
accounts. A survey conducted by the Employee Benefit Research Institute
(EBRI) suggests that most workers think that participants should be able to
withdraw retirement funds to pay for financial emergencies, to buy a
house, or to pay for a child’s education.6 Workers may be more willing to
save for retirement if they can have access to their savings for
emergencies before retirement.

3
  Buck Consultants, 401(k) Plans: Employer Practices and Policies (New York: Buck Consultants, Sept.
1996). The report does not indicate the bank lending rate used.
4
Department of Labor, Bureau of Labor Statistics, Employee Benefits in Medium and Large Private
Establishments, 1993, Bulletin No. 2456 (Nov. 1994).
5
 401(k) Plans: Incidence, Provisions, and Benefits (GAO/PEMD-88-15BR, Mar. 29, 1988).
6
  EBRI, Public Attitudes on Investment Preferences, EBRI Report No. G-44 (Washington, D.C.: EBRI,
May 1993).



Page 4                                                     GAO/HEHS-98-5 401(k) Pension Plans
                       B-277050




                       Opponents of loan provisions argue that permitting participants to borrow
                       from their retirement accounts works against the policy objective of
                       enhancing retirement income. Almost half of the companies that do not
                       permit 401(k) loans surveyed by William M. Mercer say that loan programs
                       are contrary to plan philosophy.7 Almost 60 percent of employed
                       respondents to a recent EBRI survey think about using their own retirement
                       funds only at the time of retirement.8


                       Our analysis of the two databases on worker characteristics and
Loan Provisions,       pension-account activity shows that pension-plan borrowing increases
Among Other Factors,   participation in 401(k) plans (see app. II). However, a number of other
Encourage              factors, such as employer matching and size of firm, also influence
                       participation and contribution amounts.
Participation in and
Larger Contributions   Participation rates in plans with loan provisions are about 6 percentage
                       points higher than plans with no loan provisions (see fig. 1). Employer
to 401(k) Plans        matching also increases participation rates by about 20 percentage points
                       depending on the match rate. These findings are consistent with the
                       results of other research.9 Under the typical situation—where the
                       employer contributes about half of what participants
                       contribute—borrowing provisions plus employer matching increases
                       participation by about 28 percentage points—from 55 percent to
                       83 percent.10




                       7
                         William M. Mercer, Inc., Fax Facts Survey Results: Savings Plan Loans (New York: William M. Mercer,
                       Inc., Aug. 9, 1995).
                       8
                         EBRI, Public Attitudes on Investment Preferences, EBRI Report No. G-61 (Washington, D.C.: EBRI,
                       Nov. 1994).
                       9
                        Clark and Schieber, Factors Affecting Participation Rates and Contribution Levels in 401(k) Plans,
                       and William E. Even and David A. Macpherson, Factors Influencing Employee Participation in 401(k)
                       Plans (Oxford, OH: Miami University, Dec. 1996).
                       10
                        Some research suggests that employer matching does not play a critical role in increasing
                       participation in 401(k) plans. It may be that the match-rate variable in our analysis is reflecting plan
                       characteristics that are not reported in the database. See Leslie E. Papke, “Participation in and
                       Contributions to 401(k) Pension Plans,” Journal of Human Resources, Vol. 30, No. 2 (1995), pp.
                       311-325, and Andrea L. Kusko, James M. Poterba, and David W. Wilcox, Employee Decisions with
                       Respect to 401(k) Plans: Evidence From Individual-Level Data, Working Paper No. 4635 (Cambridge,
                       MA: National Bureau of Economic Research, Feb. 1994).



                       Page 5                                                         GAO/HEHS-98-5 401(k) Pension Plans
                                          B-277050




Figure 1: Predicted Participation Rates
in a Firm With a 401(k) Plan              90         Percentage

                                          80

                                          70

                                          60

                                          50

                                          40

                                          30

                                          20

                                          10

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                                          Note: Participation rates are for a firm offering no other pension plan.




                                          Our analysis also indicates that smaller firms tend to have slightly higher
                                          participation rates than larger firms. This may be due to smaller firms
                                          more effectively targeting benefits to employee needs. In addition, a recent
                                          study found that the type and quality of information provided to
                                          employees on 401(k) plans may also be an important factor in encouraging
                                          employee participation in 401(k) pension plans.11 The impact of providing
                                          high-quality information appears to be greatest on workers with lower
                                          earnings.

                                          In our analysis of 401(k) plans, we also found that average annual
                                          employee contribution amounts are 35 percent higher in 401(k) plans with
                                          loan provisions than in 401(k) plans with no loan provisions. Employer
                                          matching also increases average contribution amounts in 401(k) plans but
                                          not to the same extent as loan provisions. Depending on the employer

                                          11
                                            Clark and Schieber, Factors Affecting Participation Rates and Contribution Levels in 401(k) Plans.



                                          Page 6                                                        GAO/HEHS-98-5 401(k) Pension Plans
                                        B-277050




                                        match rate, we estimate that average annual employee contribution
                                        amounts are typically 10- to 24-percent higher than with no employer
                                        matching. The effect of both loan provisions and employer matching can
                                        be dramatic—an increase in average contribution amounts of over $600
                                        per year (see fig. 2). Furthermore, one study suggests that providing
                                        high-quality pension-plan information to plan participants may also
                                        increase contribution levels to 401(k) plans.12


Figure 2: Predicted Average Employee
Contribution Amounts to a 401(k) Plan   2000        Dollars




                                        1500




                                        1000




                                         500




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                                        Note: Average contribution amounts are for a firm offering no other pension plan.




                                        These results are further corroborated when we examined individual
                                        participant contributions to 401(k) pension accounts. We estimate that a



                                        12
                                          Clark and Schieber, Factors Affecting Participation Rates and Contribution Levels in 401(k) Plans.
                                        However, it may also be true that workers who are more likely to contribute to a 401(k) plan are more
                                        likely to attend pension-plan training sessions.



                                        Page 7                                                      GAO/HEHS-98-5 401(k) Pension Plans
                                         B-277050




                                         typical 401(k) participant13 covered by a pension with loan provisions and
                                         receiving an average employer match rate will contribute a higher
                                         proportion of earnings to his or her 401(k) account than an identical
                                         participant covered by a plan with no loan provision or employer
                                         matching—8.6 percent versus 4.9 percent (see fig. 3).


Figure 3: Predicted Contribution Rates
to a 401(k) Plan                         10         Percentage

                                           9

                                           8

                                           7

                                           6

                                           5

                                           4

                                           3

                                           2

                                           1

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                                         Plan participants with no outstanding plan loans are in a better financial
Borrowers May Be                         position than borrowers. Plan borrowers, on average, have less family
Less Economically                        income, lower net worth, and more nonhousing debt than nonborrowers.
Secure Than                              Total family income of borrowers is 83 percent of that of nonborrowers
                                         (see table 1). The total net worth and nonhousing net worth of borrowers
Nonborrowers                             is also considerably lower than that of nonborrowers. In addition,
                                         retirement-account borrowers have about $1,500 more in nonhousing debt
                                         and have much higher nonhousing-debt-to-income ratios than
                                         nonborrowers.

                                         13
                                           The typical 401(k) participant is married, college educated, white, 45 years old, and male; has an
                                         annual family income of $61,469 and a net worth of $146,182; and has participated in the pension plan
                                         for 4 years. The relative impacts of pension-plan borrowing and employer matching, however, do not
                                         depend on the demographic characteristics of the participant.



                                         Page 8                                                      GAO/HEHS-98-5 401(k) Pension Plans
                                      B-277050




Table 1: Average Assets, Debts, and
Income of Defined-Contribution Plan                                                                                       Outstanding
Participants Who Can Borrow From                                                        No pension-plan loan        pension-plan loana
Retirement Accounts, 1992             Loan balance from defined-contribution
                                      account                                                                   0                 $2,963
                                      Nonhousing debt                                                     $16,911               $18,509
                                      Nonhousing net worth                                              $113,021                $77,672
                                      Net worth                                                         $161,827               $119,304
                                      Total family income                                                 $62,139               $51,422
                                      Ratio of nonhousing debt to total family
                                      income                                                        25.2 percent           42.5 percent
                                      a
                                       Significantly different from the no-loan group at the 1-percent level.

                                      Source: GAO analysis of the 1992 Survey of Consumer Finances database.



                                      Nevertheless, our analysis indicates that 401(k) plan participants who also
                                      are covered by another pension plan are 50-percent more likely to have an
                                      outstanding loan than other participants (see app. II). Those with only a
                                      401(k) pension plan—and, thus, with the most to lose by borrowing from
                                      their pension accounts—are less likely to do so. But participants who have
                                      recently been turned down for a loan from another source are almost
                                      40-percent more likely to borrow against their pension account than other
                                      plan participants, holding all else equal.

                                      Black and Hispanic pension-plan participants are almost twice as likely as
                                      white participants to borrow against their pension account (see app. II),
                                      after controlling for income and assets. Minorities may have more
                                      difficulties obtaining commercial loans, including mortgages.14 Our results
                                      also indicate that other characteristics of an individual, such as age,
                                      gender, and marital status, do not significantly affect pension-plan
                                      borrowing.

                                      Pension-plan borrowers may use their pension-plan loan for living
                                      expenses, an automobile purchase, or housing (rather than borrowing
                                      from a commercial source to finance a home purchase), all of which could
                                      be considered necessities.15 A smaller proportion of pension-plan
                                      borrowers report having housing debt than nonborrowers, but a larger
                                      proportion report having education loans (see table 2).

                                      14
                                        Alicia H. Munnell, Geoffrey M. B. Tootell, Lynn E. Browne, and James McEneany, “Mortgage Lending
                                      in Boston: Interpreting HMDA Data,” American Economic Review, Vol. 86, No. 1 (1996), pp. 25-53, and
                                      Geoffrey M. B. Tootell, “Redlining in Boston: Do Mortgage Lenders Discriminate Against
                                      Neighborhoods?” Quarterly Journal of Economics, Vol. 111, No. 4 (1996), pp. 1049-79.
                                      15
                                          The Survey of Consumer Finances does not ask how pension-plan loans are used.



                                      Page 9                                                        GAO/HEHS-98-5 401(k) Pension Plans
                                      B-277050




Table 2: Proportion With Specific
Types of Loans and Attitudes Toward                                                                                          Outstanding
Borrowing for Specific Reasons                                                          No pension-plan loan           pension-plan loana
                                      Outstanding housing debt                                               70.0%                       64.7%
                                      Outstanding education loans                                            13.2%                       19.7%
                                      All right to borrow for
                                           education expenses                                                91.2%                       89.4%
                                           automobile                                                        86.7%                       95.8%
                                           living expenses                                                   35.3%                       49.2%
                                           vacation                                                          13.8%                            8.4%
                                           luxury goods                                                        9.0%                           7.6%
                                      a
                                       In all cases, the difference in proportions between the no-loan and the loan groups is statistically
                                      significant at the 1-percent level.

                                      Source: GAO analysis of the 1992 Survey of Consumer Finances database.



                                      Attitudes toward borrowing money also differ between plan borrowers
                                      and nonborrowers.16 A larger proportion of plan borrowers think it is all
                                      right to borrow to finance an automobile, but a slightly smaller proportion
                                      think it is all right to borrow to finance education expenses. Almost half of
                                      the plan borrowers say it is all right to borrow money to cover living
                                      expenses compared to about a third of nonborrowers. Less than
                                      10 percent of each group think it is all right to borrow to finance luxury
                                      goods, such as jewelry, and less than 10 percent of plan borrowers think it
                                      is all right to borrow to cover the expenses of a vacation. This suggests
                                      that relatively few participants—whether borrowers or
                                      nonborrowers—would elect to borrow against their pension accounts to
                                      finance the purchase of nonnecessities.


                                      Pension-plan participants who borrow from their pension accounts risk
Borrowing From                        having substantially lower pension balances at retirement. Under
Pension Account May                   reasonable assumptions about pension-plan savings and borrowing
Reduce Retirement                     behavior, a borrower could have 2- to 28-percent less pension income at
                                      retirement (see app. II). Many 401(k) participants have a substantial
Income                                amount of their pension balances invested in the stock market and earn a
                                      relatively high rate of return. Pension-plan loans, however, generally have
                                      a favorable interest rate, which may be much lower than the return on the
                                      pension-account investments. Consequently, a borrower may earn less on

                                      16
                                        The question on the Survey of Consumer Finances that is asked by interviewers reads, “People have
                                      many different reasons for borrowing money which they pay back over a period of time. For each of
                                      the reasons I read, please tell me whether you feel it is all right for someone like yourself to borrow
                                      money...”



                                      Page 10                                                       GAO/HEHS-98-5 401(k) Pension Plans
               B-277050




               the loan balance because he or she is making interest payments to the
               account at the relatively low interest rate rather than earning higher
               returns from investments, such as equities.

               How much pension income is lost depends on the size of the loan, the
               interest rate of the loan, the rate of return of pension account investments,
               and whether or not the borrower continues to make pension contributions
               while repaying the loan. For example, if a borrower decides to forgo
               making pension-plan contributions during loan repayment, he or she could
               have over 20-percent less retirement income. Continuing pension-plan
               contributions while repaying the loan, on the other hand, could lead to a
               relatively small retirement income loss of less than 7 percent.


               People save for many reasons, including retirement, emergencies, home
Observations   purchase, and a college education. Saving for retirement receives
               favorable tax treatment, but in the past, it was at the cost of being virtually
               inaccessible until late in life. Since retirement savings could not be used
               for other purposes, people were reluctant to save in retirement accounts.
               Allowing participants to borrow against their 401(k) pension accounts for
               reasons unrelated to retirement can increase both participation in these
               plans and participant contributions. However, pension-plan borrowing is a
               two-edged sword: Individuals who were prompted to participate because
               of the borrowing provision increase their retirement savings, but
               individuals who opt to borrow lose some of the tax advantages to
               retirement savings and risk having less income at retirement.

               Our findings have implications for other sources of retirement income.
               Since participation in IRAs is voluntary,17 our results suggest that early
               access to IRA funds may increase both participation in and contributions to
               these accounts but at the risk of lower retirement income. On the other
               hand, individual Social Security accounts—if created—would require
               participation, and contribution levels would be set by law. Consequently,
               individual Social Security accounts would not benefit from the positive
               aspects of borrowing provisions, but the borrowing provisions would
               increase the risk of reduced retirement income.




               17
                 While participation in IRAs and 401(k) plans is voluntary, different rules apply to these two
               retirement savings accounts. Maximum contribution limits for IRAs are much lower than for 401(k)
               plans, spouses are allowed to make contributions to IRAs but not to 401(k) plans, and IRA
               contributions for some people are made with before-tax dollars.



               Page 11                                                   GAO/HEHS-98-5 401(k) Pension Plans
           B-277050




           We asked pension plan experts to comment on a draft of this report. They
Comments   generally agreed with the study approach and results. They made a few
           technical suggestions, which we incorporated where appropriate.


           We are sending copies of this report to the Secretary of Labor, relevant
           congressional committees, and other interested parties. We will make
           copies available to others on request.

           This report was prepared under my direction. Please contact Francis P.
           Mulvey, Assistant Director, at (202) 512-3592 or Thomas L. Hungerford,
           Senior Economist, at (202) 512-7028 if you or your staff have any questions
           concerning this report.




           Jane L. Ross
           Director, Income Security Issues




           Page 12                                      GAO/HEHS-98-5 401(k) Pension Plans
Page 13   GAO/HEHS-98-5 401(k) Pension Plans
Contents



Letter                                                                                     1


Appendix I                                                                                16
                Survey of Consumer Finances, 1992                                         16
Scope and       IRS Form 5500 Research Database, 1992                                     20
Methodology     Simulation Model                                                          22

Appendix II                                                                               24
                Participation Rates in 401(k) Plans                                       24
Supplementary   Contributions to 401(k) Plans                                             26
Analysis        Characteristics of Pension-Plan Borrowers                                 29
                Consequences of Borrowing From Retirement Accounts                        31

Tables          Table 1: Average Assets, Debts, and Income of                              9
                  Defined-Contribution Plan Participants Who Can Borrow From
                  Retirement Accounts, 1992
                Table 2: Proportion With Specific Types of Loans and Attitudes            10
                  Toward Borrowing for Specific Reasons
                Table I.1: Variables Used in the Multivariate Regression Analysis         19
                  of the 1992 Survey of Consumer Finances Sample
                Table I.2: Variables Used in the Multivariate Regression Analysis         22
                  of the 1992 IRS Form 5500 Research Database
                Table II.1: Regression Results for Participation Rates (Dependent         25
                  Variable: Participation Rate)
                Table II.2: Regression Results for Average Employee                       27
                  Contribution Levels (Dependent Variable: Natural Logarithm of
                  Average Employee Contribution)
                Table II.3: Tobit-Model Results for the Contribution Rate                 28
                  (Dependent Variable: Contribution Rate)
                Table II.4: Logit-Model Results for Whether or Not Participants           30
                  Have Outstanding Loans From Their Pension Account
                Table II.5: Simulation Results                                            32

Figures         Figure 1: Predicted Participation Rates in a Firm With a 401(k)            6
                  Plan
                Figure 2: Predicted Average Employee Contribution Amounts to a             7
                  401(k) Plan
                Figure 3: Predicted Contribution Rates to a 401(k) Plan                    8




                Page 14                                    GAO/HEHS-98-5 401(k) Pension Plans
Contents




Abbreviations

IRA        individual retirement account
IRS        Internal Revenue Service
EBRI       Employee Benefit Research Institute


Page 15                                   GAO/HEHS-98-5 401(k) Pension Plans
Appendix I

Scope and Methodology


                         To determine how pension-plan borrowing affects workers’ participation
                         in and contributions to a pension plan and retirement income, we
                         addressed the following questions:

                     •   Does the ability to borrow from defined contribution pension accounts
                         increase participation in and contributions to 401(k) pension plans?
                     •   What are the demographic and economic characteristics of workers who
                         borrow from their pension accounts?
                     •   What are the potential consequences for participants who borrow from
                         their retirement accounts?

                         To conduct our work, we analyzed two data sources. The first, the 1992
                         Survey of Consumer Finances prepared by the Federal Reserve, provided a
                         nationally representative individual-level sample. The second, the 1992
                         research database of Internal Revenue Service (IRS) Form 5500 reports,
                         which are maintained by the Pension and Welfare Benefits Administration
                         of the Department of Labor, provided a nationally representative plan-level
                         sample. We also reviewed the relevant technical literature and talked to
                         pension experts.


                         The Survey of Consumer Finances randomly sampled 3,906 households
Survey of Consumer       regarding current and past employment by family members, assets and
Finances, 1992           debts, and demographic information. Included in the current employment
                         portion of the survey were detailed questions about pension participation.
                         From the survey, we created a database containing information on
                         respondents and their spouses who were working and between the ages of
                         18 and 64 at the time of the survey. We did not independently verify the
                         accuracy of the Survey of Consumer Finances database because it is
                         commonly used by researchers. We used the Survey of Consumer
                         Finances to determine the effects of pension-plan borrowing on
                         participation in and contributions to 401(k) pension plans and to describe
                         the demographic and economic characteristics of workers who borrow
                         from their pension accounts.

                         For the analysis of the impact of borrowing on contributions to pension
                         accounts, the subsample of the survey contained information on 477
                         workers who participate in a 401(k) pension plan. Since the dependent
                         variable is a continuous variable, which can be no less than zero, the
                         multivariate regression estimation technique used is a tobit model. A tobit
                         model takes into account the fact that the participation rate can be no less
                         than 0 percent, and the results from this model will not predict a



                         Page 16                                      GAO/HEHS-98-5 401(k) Pension Plans
Appendix I
Scope and Methodology




participation rate of less than 0 percent.18 Let C* be an individual’s desired
contribution rate, which is affected by the individual’s characteristics. If
the desired contribution rate is greater than zero, then the individual
contributes to his or her pension account. If it is less than or equal to zero,
then the individual does not contribute to his or her account. Formally, the
model is written as

C* = β’X+∈,

where the X vector contains the variables, the β vector contains the
parameters to be estimated, and the last term is the random error that
captures the unobserved factors affecting the desired contribution rate.
The dependent variable—that is, the observed contribution rate—is

C = C* if C*>0
C = 0 if C*≤0.

To describe the demographic and economic characteristics of workers
who borrow from their pension accounts, the subsample we used for our
analysis contained information on 769 workers with defined-contribution
pension plans that allowing borrowing. We were interested in determining
how participant characteristics affect the likelihood or probability that an
individual has an outstanding loan against his or her pension account. The
dependent variable for this analysis is a variable that is equal to one if the
individual has an outstanding pension-account loan and equal to zero if he
or she does not have an outstanding loan. The multivariate estimation
technique used for the analysis is a logit model, which will prevent
predictions from being outside the probability range of 0 to 1. In the logit
model, the probability that an individual will have an outstanding pension
plan loan is a function of the individual’s characteristics:

P = f(β’X),

where P is the probability, the X vector contains the variables or
characteristics used in the estimation, the β vector contains the
parameters to be estimated, and f is the cumulative logistic probability




18
   William H. Greene, Econometric Analysis, 3rd ed. (Upper Saddle River, NJ: Prentice Hall, 1997), ch.
20.



Page 17                                                      GAO/HEHS-98-5 401(k) Pension Plans
                            Appendix I
                            Scope and Methodology




                            function. The parameter vector is estimated using maximum likelihood
                            techniques.19


Construction of Variables   The primary variables of interest are whether or not a worker can
                            withdraw funds from his or her pension account, the proportion of salary
                            contributed to the defined-contribution pension plan account, and whether
                            or not the worker has an outstanding pension-plan loan. The Survey of
                            Consumer Finances asks respondents who have defined-contribution
                            pension plans,20 “Can you borrow against that account?” and “If you
                            needed money in an emergency, could you withdraw some of the funds in
                            that account?” If the answer to either of these questions was “yes,” we
                            considered that plan as allowing participants to withdraw funds from their
                            account before retirement. Respondents to the survey also were asked
                            how much they contribute to their pension account. The contribution rate
                            is the ratio of the respondent’s contribution to his or her salary. Other
                            variables used in the analysis include sex, race, income, net worth,
                            education, recent loan experiences, and whether or not the individual is
                            covered by another pension plan (see table I.1).




                            19
                               The logit model can be stated in more formal terms. Let L* be an individual’s unobserved propensity
                            to borrow from his or her pension plan. An individual will borrow if L* is greater than zero and will not
                            borrow if L* is less than or equal to zero. The model can be written as

                            L* = β’X + ∈

                            where the X vector contains the variables used in the estimation, the β vector contains the parameters
                            to be estimated, and the last term is the random error that captures unobserved factors influencing the
                            borrowing propensity. The dependent variable is defined by

                            L = 1 if L*>0
                            L = 0 if L*≤0.

                            See Greene, Econometric Analysis, ch. 19, for the derivation of the likelihood function.
                            20
                             About 60 percent of the respondents who can borrow from their pension plans participate in a 401(k)
                            pension plan, and another 30 percent participate in either a thrift savings plan or a profit-sharing plan.



                            Page 18                                                       GAO/HEHS-98-5 401(k) Pension Plans
                                      Appendix I
                                      Scope and Methodology




Table I.1: Variables Used in the
Multivariate Regression Analysis of   Variable                                     Definition
the 1992 Survey of Consumer           Female                                       Indicates whether or not the worker is a
Finances Sample                                                                    female
                                      Age 35 to 44 years                           Indicates whether or not the worker is
                                                                                   between the ages of 35 and 44 years
                                      Age 45 to 54 years                           Indicates whether or not the worker is
                                                                                   between the ages of 45 and 54 years
                                      Age 55 to 64 years                           Indicates whether or not the worker is
                                                                                   between the ages of 55 and 64 years
                                      Married                                      Indicates whether or not the worker is
                                                                                   married
                                      Dropped out of school before the 12th grade Indicates whether or not the worker has
                                                                                  less than a high-school education
                                      1 to 4 years of college; no degree           Indicates whether or not the worker has
                                                                                   some college education
                                      4 or more years of college; college degree   Indicates whether or not the worker is a
                                                                                   college graduate
                                      Black                                        Indicates whether or not the worker is black
                                      Hispanic                                     Indicates whether or not the worker is
                                                                                   Hispanic
                                      Covered by another pension plan              Indicates whether or not the worker is
                                                                                   covered by another pension plan
                                      Natural logarithm of employer match rate     The natural logarithm of one plus the ratio
                                                                                   of the employer contribution to the worker’s
                                                                                   pension account to the worker’s salary
                                      Can withdraw funds from pension account      Indicates whether or not the worker is able
                                                                                   to borrow against his or her pension
                                                                                   account or withdraw funds in an
                                                                                   emergency
                                      Family income $25,000 to $34,999 per year    Indicates whether or not the worker’s
                                                                                   family income is between $25,000 and
                                                                                   $34,999 per year
                                      Family income $35,000 to $44,999 per year    Indicates whether or not the worker’s
                                                                                   family income is between $35,000 and
                                                                                   $44,999 per year
                                      Family income $45,000 to $59,999 per year    Indicates whether or not the worker’s
                                                                                   family income is between $45,000 and
                                                                                   $59,999 per year
                                      Family income $60,000 to $74,999 per year    Indicates whether or not the worker’s
                                                                                   family income is between $60,000 and
                                                                                   $74,999 per year
                                      Family income $75,000 or more per year       Indicates whether or not the worker’s
                                                                                   family is $75,000 or more per year
                                      Natural logarithm of number of years         The natural logarithm of the number of
                                      covered by this defined-contribution plan    years the worker has been covered by his
                                                                                   or her pension plan
                                                                                                                   (continued)



                                      Page 19                                            GAO/HEHS-98-5 401(k) Pension Plans
                     Appendix I
                     Scope and Methodology




                     Variable                                             Definition
                     Family net worth $50,001 to $100,000                 Indicates whether or not the worker’s
                                                                          family net worth is between $50,001 and
                                                                          $100,000
                     Family net worth $100,001 to $250,000                Indicates whether or not the worker’s
                                                                          family net worth is between $100,001 and
                                                                          $250,000
                     Family net worth $250,001 to $1,000,000              Indicates whether or not the worker’s
                                                                          family net worth is between $250,001 and
                                                                          $1,000,000
                     Family net worth over $1,000,000                     Indicates whether or not the worker’s
                                                                          family net worth is over $1,000,000
                     Outstanding loan                                     Indicates whether or not the worker has an
                                                                          outstanding loan against his or her pension
                                                                          account
                     Contribution rate                                    The ratio of the worker’s contribution to his
                                                                          or her pension account to the worker’s
                                                                          salary


                     We used IRS’ Form 5500 research database for 1992 to determine the
IRS Form 5500        effects of pension-plan borrowing on participation in and contributions to
Research Database,   401(k) pension plans. Under the Employee Retirement Income Security
1992                 Act of 1974, private employers must annually file a separate Form 5500
                     with the IRS for each employee’s pension plan. Each report contains
                     financial, participant, and actuarial information. We did not independently
                     verify the accuracy of the Form 5500 research database because this
                     database is commonly used by researchers. The 1992 Form 5500 research
                     database was obtained from the Pension and Welfare Benefits
                     Administration of the Department of Labor.

                     The plans selected for analysis are plans that had 100 or more participants
                     and offered defined-contribution plans with 401(k) features as the primary
                     plan. All plans that were terminated during the year or where there was a
                     resolution to terminate the plan are not included in the sample.
                     Furthermore, we selected only plans that had one or more active
                     participants, that is, those with pension accounts.21 The final sample used
                     in the analysis contains 7,245 plans with an average of 337 active
                     participants. The analysis consists of estimating two multivariate
                     statistical models.




                     21
                      Participants of a pension plan include all current employees who are covered by the plan (active
                     participants plus those eligible to participate but do not) plus retired and former employees who are
                     covered by the plan.



                     Page 20                                                      GAO/HEHS-98-5 401(k) Pension Plans
                            Appendix I
                            Scope and Methodology




                            The first model estimated examined the impacts of firm and plan
                            characteristics on participation in the plan. The dependent variable is the
                            percent of employees eligible to participate who participate in the plan.22
                            The second model examines average employee contributions to the plan.
                            Ordinary least squares regression techniques were used to estimate both
                            models. Formally, the models can be expressed as

                            Y = β’X+∈,

                            where Y is the dependent variable, which is either the participation rate or
                            the natural logarithm of average contribution amounts; the X vector
                            contains the independent variables; the β vector contains the parameters
                            to be estimated; and the last term is the random error that captures the
                            unobserved factors influencing the dependent variable.


Construction of Variables   The first dependent variable is the ratio of active participants to the
                            number of all employees eligible to participate in the plan.23 The second
                            dependent variable is the natural logarithm of the average contribution
                            rate. The average employee contribution variable is the ratio of total
                            contributions to the plan to the number of active participants. The
                            independent variables used in the analysis are variables used by other
                            researchers,24 such as employer matching and firm size, plus a variable
                            denoting if the plan participants had any outstanding loans (see table I.2).




                            22
                             Some pension plans mistakenly reported active participants on line 7a(4) of Form 5500, which should
                            contain the total number of workers eligible to participate in the plan. Consequently, we could not
                            determine which plans had 100-percent participation and which had made mistakes filling in the Form
                            5500. Therefore, all plans with a participation rate calculated to be 100 percent were deleted from the
                            sample for the regression analysis of the participation rate (about 45 percent of the sample). We did,
                            however, estimate the participation rate model with the full sample, and the results were quantitatively
                            and qualitatively the same.
                            23
                              The Pension and Welfare Benefits Administration adds a variable to the Form 5500 research database
                            that indicates the number of current employees participating in the plan and calls this variable “active
                            participants.”
                            24
                             See, for example, Leslie E. Papke, “Participation in and Contributions to 401(k) Pension Plans,”
                            Journal of Human Resources, Vol. 30, No. 2 (1995), pp. 311-25.



                            Page 21                                                      GAO/HEHS-98-5 401(k) Pension Plans
                                      Appendix I
                                      Scope and Methodology




Table I.2: Variables Used in the
Multivariate Regression Analysis of   Variable                    Definition
the 1992 IRS Form 5500 Research       Participation rate          Ratio of active participants in the pension plan to all employees
Database                                                          eligible to participate in the plan
                                      Natural logarithm of        Natural logarithm of the ratio of contributions to active
                                      average employee            participants
                                      contributions
                                      Firm size                   Number of employees of the firm divided by 1,000
                                      Firm size squared           Firm size squared
                                                  a
                                      Match rate 1                Indicates whether or not the employer match rate is greater
                                                                  than zero and less than or equal to 0.1
                                      Match rate 2                Indicates whether or not the employer match rate is greater
                                                                  than 0.1 and less than or equal to 0.2
                                      Match rate 3                Indicates whether or not the employer match rate is greater
                                                                  than 0.2 and less than or equal to 0.3
                                      Match rate 4                Indicates whether or not the employer match rate is greater
                                                                  than 0.3 and less than or equal to 0.4
                                      Match rate 5                Indicates whether or not the employer match rate is greater
                                                                  than 0.4 and less than or equal to 0.5
                                      Match rate 6                Indicates whether or not the employer match rate is greater
                                                                  than 0.5 and less than or equal to 0.6
                                      Match rate 7                Indicates whether or not the employer match rate is greater
                                                                  than 0.6 and less than or equal to 0.7
                                      Match rate 8                Indicates whether or not the employer match rate is greater
                                                                  than 0.7 and less than or equal to 0.8
                                      Match rate 9                Indicates whether or not the employer match rate is greater
                                                                  than 0.8 and less than or equal to 0.9
                                      Match rate 10               Indicates whether or not the employer match rate is greater
                                                                  than 0.9 and less than or equal to 1.0
                                      Match rate 11               Indicates whether or not the employer match rate is greater
                                                                  than 1.0 and less than or equal to 1.5
                                      Match rate 12               Indicates whether or not the employer match rate is greater
                                                                  than 1.5
                                      Can borrow                  Indicates whether or not there are outstanding loans from the
                                                                  plan
                                      Sole pension plan           Indicates whether or not employer has other qualified pension
                                                                  plans
                                      a
                                      The match rate is the ratio of employer contributions to participant contributions.




                                      To determine the potential consequences of borrowing from a 401(k)
Simulation Model                      account, we prepared a simulation model. We created a 35-year annual
                                      earnings series with a starting salary of $25,000. Annual earnings were




                                      Page 22                                                     GAO/HEHS-98-5 401(k) Pension Plans
Appendix I
Scope and Methodology




allowed to grow with age25 and with inflation (assumed to be 3 percent).
The contributions to the 401(k) account are 6.8 percent of annual
earnings.26 We assumed that the 401(k) account balance earns an annual
rate of return of 11 percent. The simulation involves a $40,000 loan against
the pension account made in the 15th year and paid back over a 10-year
period in equal installments. Pension account balances were determined
for several different loan interest rates. We created simulations under two
extreme scenarios: (1) the borrower continues to make contributions to
the 401(k) account while repaying the loan and (2) the borrower suspends
making contributions to the 401(k) account while repaying the loan.




25
 Thomas Hungerford and Gary Solon, “Sheepskin Effects in the Return to Education,” Review of
Economics and Statistics, Vol. 69, No. 1 (1987), pp. 175-77.
26
 This is the average contribution rate for 401(k) participants reported in 401(k) Pension Plans: Many
Take Advantage of Opportunity to Ensure Adequate Retirement Income (GAO/HEHS-96-176, Aug. 2,
1996).


Page 23                                                      GAO/HEHS-98-5 401(k) Pension Plans
Appendix II

Supplementary Analysis


                         This appendix contains supplementary tables of multivariate statistical
                         results from the two databases that we used to conduct our work.


                         The coefficient estimates from the regression model of the participation
Participation Rates in   rate are shown in table II.1. The coefficient estimates indicate the effect of
401(k) Plans             a change in an independent variable on a plan’s participation rate holding
                         the values of all other independent variables constant. For example, the
                         coefficient estimate of 0.0591 for the borrowing variable indicates that
                         plans that allow participant borrowing have participation rates that are
                         about 6 percentage points higher than plans that do not allow borrowing.




                         Page 24                                       GAO/HEHS-98-5 401(k) Pension Plans
                                     Appendix II
                                     Supplementary Analysis




Table II.1: Regression Results for
Participation Rates (Dependent       Variable                                             Coefficient estimate (standard error)
Variable: Participation Rate)        Constant                                                                           0.5716
                                     Firm size                                                                         –0.0020a
                                                                                                                       (0.0006)
                                     Firm size squared (x1000)                                                          0.0050a
                                                                                                                       (0.0015)
                                     Can borrow                                                                         0.0591a
                                                                                                                       (0.0063)
                                     Sole pension plan                                                                 –0.0206b
                                                                                                                       (0.0090)
                                     Match rate 1                                                                       0.1035a
                                                                                                                       (0.0141)
                                     Match rate 2                                                                       0.1410a
                                                                                                                       (0.0101)
                                     Match rate 3                                                                       0.1759a
                                                                                                                       (0.0108)
                                     Match rate 4                                                                       0.1975a
                                                                                                                       (0.0112)
                                     Match rate 5                                                                       0.2226a
                                                                                                                       (0.0124)
                                     Match rate 6                                                                       0.2612a
                                                                                                                       (0.0164)
                                     Match rate 7                                                                       0.2600a
                                                                                                                       (0.0194)
                                     Match rate 8                                                                       0.2818a
                                                                                                                       (0.0206)
                                     Match rate 9                                                                       0.2943a
                                                                                                                       (0.0252)
                                     Match rate 10                                                                      0.3183a
                                                                                                                       (0.0256)
                                     Match rate 11                                                                      0.3341a
                                                                                                                       (0.0177)
                                     Match rate 12                                                                      0.3210a
                                                                                                                       (0.0256)
                                     Adjusted R2                                                                        0.2102
                                     Number of observations                                                              4,006
                                     a
                                     Significant at the 1-percent level.
                                     b
                                         Significant at the 5-percent level.

                                     Source: GAO analysis of IRS 1992 Form 5500 research database.




                                     Page 25                                                GAO/HEHS-98-5 401(k) Pension Plans
                   Appendix II
                   Supplementary Analysis




                   The regression results of the effects of pension-plan characteristics on
Contributions to   average employee contribution levels are reported in table II.2. The
401(k) Plans       coefficient estimates indicate the effect of a change in an independent
                   variable on average contribution levels holding the values of all other
                   independent variables constant. For example, the coefficient estimate of
                   0.3682 for the borrowing variable indicates that borrowing provisions
                   increase average employee contribution levels by 36.8 percent.




                   Page 26                                     GAO/HEHS-98-5 401(k) Pension Plans
                                       Appendix II
                                       Supplementary Analysis




Table II.2: Regression Results for
Average Employee Contribution Levels   Variable                                             Coefficient estimate (standard error)
(Dependent Variable: Natural           Constant                                                                           7.0208
Logarithm of Average Employee
                                       Firm size                                                                         –0.0043a
Contribution)
                                                                                                                         (0.0015)
                                       Firm size squared (x1000)                                                          0.0119a
                                                                                                                         (0.0044)
                                       Can borrow                                                                         0.3682a
                                                                                                                         (0.0167)
                                       Sole pension plan                                                                 –0.1300a
                                                                                                                         (0.0231)
                                       Match rate 1                                                                       0.1608a
                                                                                                                         (0.0410)
                                       Match rate 2                                                                       0.1042a
                                                                                                                         (0.0302)
                                       Match rate 3                                                                       0.1205a
                                                                                                                         (0.0313)
                                       Match rate 4                                                                       0.2427a
                                                                                                                         (0.0317)
                                       Match rate 5                                                                       0.1222a
                                                                                                                         (0.0343)
                                       Match rate 6                                                                       0.1779a
                                                                                                                         (0.0412)
                                       Match rate 7                                                                       0.1460a
                                                                                                                         (0.0446)
                                       Match rate 8                                                                       0.1838a
                                                                                                                         (0.0464)
                                       Match rate 9                                                                       0.1615a
                                                                                                                         (0.0529)
                                       Match rate 10                                                                      0.1211b
                                                                                                                         (0.0569)
                                       Match rate 11                                                                      0.0991a
                                                                                                                         (0.0374)
                                       Match rate 12                                                                      0.0551
                                                                                                                         (0.0493)
                                       Adjusted R2                                                                        0.0745
                                       Number of observations                                                              7,245
                                       a
                                       Significant at the 1-percent level.
                                       b
                                           Significant at the 5-percent level.

                                       Source: GAO analysis of IRS 1992 Form 5500 research database.




                                       Page 27                                                GAO/HEHS-98-5 401(k) Pension Plans
                                          Appendix II
                                          Supplementary Analysis




                                          The tobit-model results of individual pension-plan participants reported in
                                          table II.3 examine the influence of participant characteristics on
                                          contribution rates holding all other characteristics constant. When a
                                          variable changes, it will have two effects on the overall contribution rate.
                                          First, for individuals already making a contribution, an increase in a
                                          variable with a positive coefficient estimate will directly increase the
                                          contribution rate. Second, for individuals who are not making
                                          contributions to their 401(k) accounts, an increase in this variable will
                                          increase the likelihood that they contribute to their plan account. The
                                          marginal impacts of a variable change reported in table II.3 include both
                                          these impacts on the expected value of the contribution rate. For example,
                                          the marginal impact of 3.0247 for the borrowing variable indicates that, on
                                          average, contribution rates of participants in plans with borrowing
                                          provisions are about 3 percentage points higher than for participants in
                                          other plans.27

Table II.3: Tobit-Model Results for the
Contribution Rate (Dependent                                                                                Coefficient
Variable: Contribution Rate)                                                                                  estimate                   Marginal
                                          Variable                                                     (standard error)                   impact
                                          Constant                                                               –1.1724
                                          Female                                                                   0.2887                  0.2327
                                                                                                                  (0.3244)
                                          Age 35 to 44 years                                                     –0.8662b                 –0.6981
                                                                                                                 (0.4105)
                                          Age 45 to 54 years                                                       1.4346a                 1.1562
                                                                                                                  (0.4576)
                                          Age 55 to 64 years                                                       0.4641                  0.3741
                                                                                                                  (0.5946)
                                          Married                                                                –1.7866a                 –1.4399
                                                                                                                 (0.4298)
                                          Dropped out of school before the 12th grade                              0.8815                  0.7105
                                                                                                                  (1.1460)
                                          1 to 4 years of college; no degree                                     –0.6867                  –0.5534
                                                                                                                 (0.4776)
                                          4 or more years of college; college degree                             –1.5289a                 –1.2322
                                                                                                                 (0.4462)
                                          Black                                                                  –0.5284                  –0.4258
                                                                                                                 (0.7617)
                                                                                                                                      (continued)


                                          27
                                            Several specifications were tried that deleted the income variables and the wealth variables. The
                                          parameter estimates of the variables of interest were quantitatively the same in each case. In addition,
                                          the match rate was entered as a quadratic in one specification with very little change in the coefficient
                                          estimates of the other variables. Furthermore, the overall impact of matching is the same in both
                                          specifications.



                                          Page 28                                                       GAO/HEHS-98-5 401(k) Pension Plans
                     Appendix II
                     Supplementary Analysis




                                                                                Coefficient
                                                                                  estimate           Marginal
                     Variable                                              (standard error)           impact
                     Hispanic                                                        1.7746            1.4302
                                                                                    (1.0690)
                     Covered by another pension plan                                 1.3272a           1.0697
                                                                                    (0.3223)
                     Natural logarithm of employer match rate                        0.7589a           0.6116
                                                                                    (0.1620)
                     Can withdraw funds from pension account                         3.7530a           3.0247
                                                                                    (0.4430)
                     Family income $25,000 to $34,999 per year                       1.3454            1.0843
                                                                                    (0.7846)
                     Family income $35,000 to $44,999 per year                       4.8156a           3.8811
                                                                                    (0.8101)
                     Family income $45,000 to $59,999 per year                       2.9547a           2.3813
                                                                                    (0.7905)
                     Family income $60,000 to $74,999 per year                       4.1386a           3.3355
                                                                                    (0.8635)
                     Family income $75,000 or more per year                          4.5341a           3.6542
                                                                                    (0.8446)
                     Natural logarithm of number of years covered                   –0.3309           –0.2667
                     by this defined-contribution plan                              (0.1900)
                     Family net worth $50,001 to $100,000                            1.6156a           1.3021
                                                                                    (0.4819)
                     Family net worth $100,001 to $250,000                           2.2099a           1.7811
                                                                                    (0.5198)
                     Family net worth $250,001 to $1,000,000                         3.6329a           2.9279
                                                                                    (0.6248)
                     Family net worth over $1,000,000                                1.1595            0.9345
                                                                                    (0.6746)
                     σ                                                               7.0546a
                                                                                    (0.1142)
                     Logarithm of likelihood function                               –7016.1

                     a
                     Significant at the 1-percent level.
                     b
                         Significant at the 5-percent level.

                     Source: GAO analysis of the 1992 Survey of Consumer Finances database.




                     A logit model was estimated to determine the magnitude of the effects of
Characteristics of   participant characteristics on the likelihood of having an outstanding
Pension-Plan         pension-plan loan (see table II.4). The coefficient estimates do not indicate
Borrowers            the magnitude of the impacts on the likelihood of having an outstanding



                     Page 29                                                GAO/HEHS-98-5 401(k) Pension Plans
                                      Appendix II
                                      Supplementary Analysis




                                      loan due to changes in the variables. Consequently, the marginal impacts
                                      of changes in the variables on the likelihood were calculated and are
                                      reported in the third column of table II.4. For example, the marginal
                                      impact of 0.0578 for black participants indicates that the likelihood of
                                      blacks having an outstanding loan is 5.8 percentage points higher than for
                                      whites. Given that about 7.6 percent of plan participants have outstanding
                                      loans, then blacks are about 5.8/7.6 times 100—or 76 percent—more likely
                                      to have an outstanding pension-plan loan than whites.

Table II.4: Logit-Model Results for
Whether or Not Participants Have                                                         Parameter
Outstanding Loans From Their                                                               estimate
Pension Account                       Variable                                      (standard error)   Marginal impact
                                      Constant                                              –3.7994
                                      Female                                                –0.2854            –0.0145
                                                                                            (0.1550)
                                      Age 35 to 44 years                                     0.3341             0.0170
                                                                                            (0.1920)
                                      Age 45 to 54 years                                     0.2815             0.0143
                                                                                            (0.2184)
                                      Age 55 to 64 years                                    –0.1426            –0.0073
                                                                                            (0.3006)
                                      Married                                                0.3298             0.0168
                                                                                            (0.1976)
                                      Dropped out of school before the 12th grade            0.0874             0.0045
                                                                                            (0.3921)
                                      1 to 4 years of college; no degree                     0.1365             0.0070
                                                                                            (0.2291)
                                      4 or more years of college; college degree             0.7249a            0.0369
                                                                                            (0.2127)
                                      Black                                                  1.1337a            0.0578
                                                                                            (0.2068)
                                      Hispanic                                               1.7382a            0.0886
                                                                                            (0.2934)
                                      Covered by another pension plan                        0.7651a            0.0390
                                                                                            (0.1515)
                                      Recently turned down for loan                          0.5829a            0.0297
                                                                                            (0.1855)
                                      Family income $25,000 to $34,999 per year              0.0192             0.0010
                                                                                            (0.2937)
                                      Family income $35,000 to $44,999 per year              0.0094             0.0005
                                                                                            (0.2975)
                                      Family income $45,000 to $59,999 per year             –0.3429            –0.0175
                                                                                            (0.3128)
                                                                                                            (continued)




                                      Page 30                                        GAO/HEHS-98-5 401(k) Pension Plans
                      Appendix II
                      Supplementary Analysis




                                                                                 Parameter
                                                                                   estimate
                      Variable                                              (standard error)    Marginal impact
                      Family income $60,000 to $74,999 per year                      –0.4968           –0.0253
                                                                                     (0.3411)
                      Family income $75,000 or more per year                         –1.0754a          –0.0548
                                                                                     (0.3522)
                      Natural logarithm of number of years covered                    0.2608a           0.0133
                      by this defined-contribution plan                              (0.0900)
                      Family net worth $50,001 to $100,000                           –0.9459a          –0.0482
                                                                                     (0.2722)
                      Family net worth $100,001 to $250,000                          –0.0553           –0.0028
                                                                                     (0.2251)
                      Family net worth $250,001 to $1,000,000                        –0.3286           –0.0167
                                                                                     (0.2913)
                      Family net worth over $1,000,000                               –0.1263           –0.0064
                                                                                     (0.3226)
                      Logarithm of likelihood function                               –776.81

                      a
                      Significant at the 1-percent level.

                      Source: GAO analysis of the 1992 Survey of Consumer Finances database.




                      Our simulation results are presented in table II.5 and show the pension
Consequences of       account balance after 35 years for each scenario. The results show that as
Borrowing From        long as the interest rate of the loan is less than the rate of return of the
Retirement Accounts   pension account balance (assumed to be 11 percent), borrowers will have
                      a lower account balance at retirement. The actual reduction depends on
                      the gap between the account rate of return and the loan interest rate, and
                      whether or not pension contributions continue during the loan repayment
                      period. Furthermore, these results hold only if the loan is repaid.




                      Page 31                                                GAO/HEHS-98-5 401(k) Pension Plans
                                 Appendix II
                                 Supplementary Analysis




Table II.5: Simulation Results
                                                                                  Account balance           Percent of
                                                                                        in year 35    no-loan balance
                                 No loan                                                  $952,977
                                 Maintain contributions to pension account during loan repayment
                                 6.3 percent loan                                         $892,209        93.6 percent
                                 7.0 percent loan                                         $900,892        94.5 percent
                                 8.0 percent loan                                         $913,526        95.9 percent
                                 9.5 percent loan                                         $932,968        97.9 percent
                                 Suspend contributions to pension account during loan repayment
                                 6.3 percent loan                                         $687,863        72.2 percent
                                 7.0 percent loan                                         $696,546        73.1 percent
                                 8.0 percent loan                                         $709,180        74.4 percent
                                 9.5 percent loan                                         $728,622        76.5 percent




(207446)                         Page 32                                            GAO/HEHS-98-5 401(k) Pension Plans
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