That’s according to a study from the Center for Retirement Research at Boston College, which also finds that, despite their apparent preference, individuals put a lot more money into front-loaded plans than they do back-loaded ones.
The apparent contradiction between preferences and actions can likely be partly explained by people’s lack of awareness and understanding of how their choices affect expected tax-rate changes.
In spite of the fact that these tax-rate changes are the primary factor driving the relative after-tax returns of front- and back-loaded plans, the report says, evidence is mixed on whether people appropriately weight those tax-rate changes when deciding which type of plan to use—or rely on other factors that aren’t as relevant.
And apparently the latter is true.
The study offers evidence that “plan attributes related to individuals’ noneconomic attitudes and preferences consistently influence plan choice.”
In fact, although saving levels and investment risk are tough to predict, given their idiosyncratic nature, they’re both “negatively associated with preference for back-loaded plans.” In addition, both could play a role in how the plans are perceived by people saving for retirement.
The study’s results suggest that on average, people don’t respond “rationally” to the relative economic incentives associated with alternatively structured plans.
And even though the mistakes they make can be reduced if they have tax-related guidance, the study’s findings indicate that people systematically incorporate noneconomic factors into their retirement plan choices.
That can push them into a preference for back-loaded plans even when going for a back-loaded plan will have an adverse economic effect.
Archival data show that people use front-loaded plans far more than they use back-loaded Roth plans (70.6 percent, compared with 23.1 percent of defined contribution retirement accounts).
But in experiments run by the researchers, it appears that front-loaded plans are simply easier to use, thanks to “artificial barriers” to using back-loaded plans: income limitations, employer plan offerings and other factors.