3797.1 / Can a 401(k) plan sponsor distribute a former participant’s account balance without consent after the participant separates from service?

Under SECURE 2.0, employer-sponsored plans can elect to include an automatic cash-out provision to distribute small retirement plan balances when the employee separates from service.

Qualified plans are not required to contain cash-out provisions that provide for immediate distribution of a participant's benefits without the participant's consent upon termination of participation if the value of the benefit is less than the statutory limit (under SECURE 2.0, $7,000 starting in 2024). Plans do have the option of adding a cash-out threshold if the threshold is not more than $7,000. If the threshold established is less than $1,000, the plan can merely cut a check for the participant's balance.

If the account balance threshold established by the employer is $1,000 or higher, the plan must automatically roll the amounts over into an IRA in the former employee's name (unless the former employee makes an affirmative election to receive the amount directly or have the amounts rolled over into another eligible retirement plan).

These transfers, known as "auto-portability," involve three elements: (1) the original 401(k) plan that mandates these distributions (the "transfer out" plan), (2) a default IRA (in the participant's name) that receives the distributed amount as a rollover and (3) a "transfer-in" plan sponsored by a new employer, which receives the rollover from the default IRA (only if it is determined that the participant has a new account with a new employer).

Under the DOL’s proposed regulations, plan sponsors will be required to search recordkeepers' systems to determine whether the participant has established a new retirement account with a new employer.

The proposal would also impose regulations on any service providers associated with the auto-portability rules. While these service providers can rely on a new prohibited transaction exemption, they must also acknowledge their fiduciary status with respect to the IRA receiving the rollover distribution (in writing). Further, their fees must be reasonable and approved in writing by the employer-sponsored plan fiduciary.

Relatedly, the Department of Labor has begun efforts to collect information to create the “missing participant database” mandated by the 2022 SECURE Act.  As of November 2024, the DOL is requesting that plans provide the name and social security number of participants who separated from service, are owed a benefit from a plan, and are age 65 or older. They are also requesting current contact information for the plan administrator so that individuals meeting these characteristics may contact the plan administrator.  The information collection completely voluntary.

The DOL has announced that a retirement plan sponsor will not violate their fiduciary responsibilities with respect to transfers of small retirement balances of missing plan participants if certain conditions are met.  The plan can transfer retirement benefit payments owed to a missing participant to a state unclaimed property fund if the present value of the participant’s or beneficiary's vested benefit (including rollover contributions but excluding outstanding loan balances) does not exceed $1,000.  The plan sponsor must also determine that the state unclaimed property fund is a prudent destination for the funds and that the plan itself has implemented a prudent program to locate missing participants (consistent with DOL best practices guidance) yet has still been unable to locate the participant.  The transfer must be made to the unclaimed property fund in the state of the individual's last known address and the unclaimed property fund must qualify as an eligible state fund (based on DOL criteria).  The plan must also include in its summary plan description disclosures of the fact that the funds will be transferred to an eligible state fund and the unclaimed property fund's name, address, and phone number for further contact.¹