Hear me out. 401(k)s may well be playing a role in the enthusiasm in executive suites for thinning the ranks of employees by either turning them into contractors or moving activities over to outsourcers.
We’ve regularly pointed out that the economic case for outsourcing is often weak to non-existent, and in practice, outsourcing often merely serves to transfer income from lower-level workers to managers and the top brass. As we discussed long-form last week, in “The End of Employees,” corporate claims that outsourcing made them more agile didn’t hold up to scrutiny.
A reader mentioned a few additional factors he had seen play into decisions to outsource jobs. One, surprisingly is 401(k)s. He didn’t unpack the reasons but a tax maven gave a high level overview, and I hope any experts in the readership will provide further details.
401(k)s were never designed to be a substitute for pensions. They were intended to serve as a supplemental retirement savings plan.
However, now that the gap between top executives and rank and file pay has grown enormously, the members of the C suite can and do sock away huge amounts of money in their 401(k) plans. By contrast, lower level workers may not put away very much, particularly since 63% of Americans don’t have the cash on hand to manage a $1000 unexpected expense.
If a 401(k) plan becomes “top heavy,” as its benefits are unduly skewed towards towards top executives or owners, it will “fail,” meaning no longer be qualified as a 401(k) plan, unless stipulated corrective measures are taken. Details from the IRS website:
The top-heavy rules generally ensure that the lower paid employees receive a minimum benefit if the plan is top-heavy. A plan is top-heavy when, as of the last day of the prior plan year, the total value of the plan accounts of key employees is more than 60% of the total value of the plan assets.
If a 401(k) plan is top-heavy, the employer must contribute up to 3% of compensation for all non-key employees still employed on the last day of the plan year. This contribution is subject to a vesting schedule requiring participants to be 100% vested after three years; or 20% after 2 years, 40% after 3, 60% after 4, 80% after 5 and 100% after 6 years…
It’s common for a 401(k) plan to be top-heavy, especially for smaller plans and plans with high turnover.
The same page defines “key employee”.
As the tax maven explained, “The usual way to deal with this problem is to bribe employees to pay in with employer matches. But that gets expensive.”
So another way is to really thin the ranks of lower level employees, so you have to have somewhat fewer execs, and the remainder of employees on average higher paid (they have to manage all those outsourcers!) so they are more likely to pay into a 401(k). Mind you, the math doesn’t necessarily work (in fact it could easily become worse if the guys at the top pay put the same amount into their 401(k)s as before and the cutting and reworking of lower level positions results in lower 401(k) contributions). But the key issue is that the source and the tax maven both indicated that there is a belief in Corporate America that getting rid of bottom-of-the-food-chain workers can be done in such a way as to ameliorate incipient or actual 401(k) “top heavy” problems.
The reader pointed out two other seldom-mentioned-in-public issues that contributed to more and more temp and outsourced work. One was class, that upper/upper middle class people increasingly see it as beneath them to manage employees from blue collar backgrounds.
Our source had been in a senior role at a small money management firm. Its main outside law firm was Simpson Thatcher. Their partner had Blackstone as his major client.
One day, the Simpson Thatcher partner suggested that the money management firm might want to consider outsourcing its back office, as most of his clients did. The head of the firm was skeptical and said he doubted that it would save any money.
The Simpson Thatcher partner not only agreed, but he said that in most cases that wasn’t what was motivating them. “They find it easier to manage a business where everyone is from the same socio-economic background.”
A final not-officially mentioned contributor is employee stock grants. Unlike 401(k)s, there are no complicated government rules, plus they are a staple only in the tech industry. However, careful students of the Wall Street Journal story that gave rise to our post would have noticed that Google and Amazon were particularly keen about using contract workers and outsourcers. Microsoft has also long used contractors. At least one of the reasons is that public shareholders aren’t terribly keen about their positions being diluted by grants to employees. Or to put it anther way, the capitalists aren’t too keen about sharing with ordinary workers, even when the point is to motivate better results. I’m told that the coders at Microsoft, who are employees, sit in close proximity to the quality assurance types, meaning the staff that checks for bugs, who aren’t. Is it any wonder why Microsoft’s software is so crash prone?