401(K)S And The Enron Mess

Now is the time for congress to clean up the mess in 401(k)s. I'm speaking specifically of the plans that offer you company stock. You tend to load up on this stock, especially when employers use it to match part or all of the money you yourself put in. At some gut level, you think of your company stock as safe.

But you might as well be holding a lottery ticket. Some stocks do gloriously well while others could wipe you out. A 401(k) should diversify. Why would anyone call "one stock" plans a good idea?

The Enron affair should give you night sweats. The company matched workers' 401(k) contributions with company stock. But no one could sell it until the age of 50.The rah-rah workplace and high-flying stock price lured people into investing even more. Enron shares accounted for almost 60 percent of the total plan.

Then the company unraveled. In just 14 months its price plunged from $90 a share to 26 cents, in bankruptcy. At one point, Enron "locked down" its 401(k) for a change in plan administration--thus stopping participants from selling out. Employees lost hundreds of thousands of dollars, which they'll never get back. Top executives, by contrast--who had other types of compensation--were able to unload more than $1 billion in Enron shares.

Enron is only the worst of an irresponsible crew. Lucent Technologies, whose 401(k) once felt like a lucky charm, lost 92 percent of its value in just 18 months--wrecking many dreams. Texas Instruments, down 46 percent over the past two years, still has 76 percent of its 401(k) in TI stock. Of 105 large public plans surveyed by the newsletter DC Plan Investing, 40 are more than half invested in their own shares.

It's easy to blame the employees--tut-tut, what a stupid, greedy bunch. But why should corporations expect the average Sam and Joan to practice disciplined, diversified investing? Few people truly understand the risk of owning so much of a single stock, especially the stock of a firm they believe they know.

These companies should be matching 401(k) contributions in cash, not stock. But stock matches are cheaper and many execs think it's fine for workers to hold big stakes. Talk about blame. These CEOs should take their blinders off. Letting employees hitch their futures to company stock is more than a financial flub, it's a moral wrong. It may lead to a lawsuit, too.

Unbalanced, one-stock 401(k)s violate every safety-and-soundness principle of investing, says Sen. Jon Corzine, a New Jersey Democrat and formerly cochair of the investment firm Goldman Sachs. Classic pension plans can't put any more than 10 percent of their money into a single stock. Institutional investors generally set a cap of 5 percent.

These standards of prudence are backed by both academic studies and common sense, Corzine says. Employees counting on company stock may get lucky for a few years. But, over time, you run a higher and higher risk of major loss. How do the so-called trustees of 401(k)s--responsible for the workers' welfare--get away with thumbing their noses at this basic, financial fact?

We've seen ugly, Enronish sights before. Two companies that failed in the 1990s, Color Tile and Carter Hawley Hale, ran their own 401(k)s and invested almost entirely in company real estate or stock. Naturally, the employees lost. Sen. Barbara Boxer, a California Democrat, proposed legislation to end such concentration in company assets. But the 401(k) lobby beat her back. She got one tiny change, which affects few plans today.

Boxer and Corzine have introduced a new retirement-security bill. It would cap the amount of company stock in your 401(k) at 20 percent (which is still pretty high!). It would also let you diversify out of stock you got in a company match, after waiting 90 days. That way, companies couldn't stick you with shares you didn't want.

But it's not enough to reform only 401(k)s. Companies can readily switch the matching-stock portion of a 401(k) into something called an Employee Stock Ownership Plan (ESOP). In fact, they're doing so already, says attorney David Powell of the Groom Law Group in Washington, D.C. Once in an ESOP, you might not be able to sell any stock from a company match until you're 55 (and other limits). Boxer and Corzine want to lower that age to 35 to let you diversify.

From the industry side, I heard a lot about the potential bad effects of retirement-plan reform. James Klein, head of the American Benefits Council, warns that companies might reduce or eliminate the company match if they couldn't give it in stock. Small companies might not do ESOPs at all.

In some cases, maybe so. But companies that do ESOPs get a ton of tax breaks. And when job hunting, top employees expect stellar 401(k)s. So the incentives are still there. Many public companies already match in cash, letting you decide how much stock to own.

Lawsuits are piling up against Enron and Lucent, too. Without reform, "what we have is a company stock-promotion law, not a retirement-security law," says attorney Eli Gottesdiener in Washington, D.C. Corey Rosen of the National Center for Employee Ownership in Oakland, Calif., says that cases have been won against ESOP trustees who knowingly put failing stocks into a plan.

What makes all retirement plans work are the tax breaks that workers and companies get. It's not in the public interest to maintain a tax system that encourages risky plans, says Mark Iwry, a former U.S. Treasury official. Now, more than ever, 401(k)s need prudent, well-diversified designs.

OK, some of you got rich by owning huge amounts of company stock. I say you were lucky, not smart. Congress should limit your "right" to risk everything you have. That's paternalism at its best.