401k Plans

January 14, 2025

3757.1 / What auto-enrollment rules apply to 401(k) plans starting in 2025?

Starting with the 2025 tax year, the SECURE Act 2.0 requires employers that establish new 401(k) or 403(b) plans to auto-enroll employees in the savings plans. The minimum auto-enrollment contribution rate will range from 3% to 10%. Each year, the minimum contribution rate will then increase by 1% until the rate reaches 15%. The IRS has released proposed regs confirming that there is no delay--meaning that new plans are currently subject to the auto-enrollment rule starting in 2025. The rules contained in the proposed regulations will be effective six months after the date that final regulations are published. In the meantime, a reasonable, good faith interpretation of the law is required. The regulations clarify that there is no provision that excludes any class of participant from auto-enrollment, meaning that long-term part-time employees must also be automatically enrolled if they are otherwise eligible and the plan is subject to the rule. Participants with an affirmative election to opt out of auto-enrollment on file do not have to be automatically enrolled in the plan. The preamble to the proposed regulations clarifies that when plans did not automatically enroll participants who were already participating in the plan, yet did not make an affirmative election, they must automatically enroll the participant by the first plan year when final regulations are effective (presumably, 2027). The participant's default deferral rate must be calculated as though they had been auto-enrolled since 2025. Under the law, small business employers who normally employ 10 or fewer employees and new businesses are exempt from the auto-enrollment requirement. The proposed regulations clarify that self-employed individuals, independent contractors and corporate directors do not count toward the 10-employee threshold (only common law employees must be included).

March 13, 2024

3757 / What participation and coverage requirements apply to 401(k) plans?

<div class="Section1"> Editor’s Note: The SECURE Act has changed the law on mandatory eligibility to include long-term part-time employees. Under prior law, employers were permitted to exclude employees who performed fewer than 1,000 hours of service per year from participation in the employer-sponsored 401(k). The SECURE Act modified this rule in order to expand access for certain part-time employees. Under the new law, nonunion employees who perform at least 500 hours of service for at least three consecutive years (and are at least 21 years old) must be allowed to participate in the employer-sponsored 401(k). The SECURE Act 2.0 reduces the three-year period to two years for tax years beginning after 2024. These long-term, part-time employees may be excluded from coverage and nondiscrimination testing requirements. This SECURE Act provision became effective for plan years beginning after December 31, 2020. However, 12-month periods beginning before January 1, 2021 were not taken into account for purposes of determining whether an employee qualifies.<a href="#_ftn1" name="_ftnref1">1</a> Therefore, an employer was only required to track part time employees on a going forward basis. However, the same is not true for tracking the vesting of employer contributions, based upon Notice 2020-68. <hr> Planning Point: Post-SECURE Act, employers are still permitted to impose certain job-based restrictions on eligibility as long as those restrictions are reasonable and non-discriminatory (i.e., exclusions based on job function or location).  Because the new changes have increased scrutiny on the classifications used by employers, employers should be extra cautious to ensure that any classifications are not a backdoor way to circumvent the service requirements. <hr> Section 401(k)(15)(B)(iii) provides special vesting rules for an employee who becomes eligible to participate in a CODA solely by reason of having completed three consecutive 12-month periods during each of which the employee completed at least 500 hours of service (long-term, part-time employee). A long-term, part-time employee must be credited with a year of service for purposes of determining whether the employee has a nonforfeitable right to employer contributions (other than elective deferrals) for each 12-month period during which the employee completes at least 500 hours of service.<a href="#_ftn2" name="_ftnref2">2</a> In addition, Section 401(k)(15)(B)(iii) modifies the break-in-service rules of Section 411(a)(6) for a long-term, part-time employee. The special vesting rules of Section 401(k)(15)(B)(iii) continue to apply to a long-term, part-time employee even if the long-term, part-time employee subsequently completes a 12-month period during which the employee completes at least 1,000 hours of service.<a href="#_ftn3" name="_ftnref3">3</a> The IRS has clarified that the rule providing that 12-month periods beginning before January 1, 2021 are not taken into account does not apply for purposes of the vesting rules. Generally, all years of service with the employer maintaining the plan must be taken into account for purposes of determining a long-term, part-time employee’s nonforfeitable right to employer contributions under the special vesting rules. For purposes of determining whether a long-term, part-time employee has a nonforfeitable right to employer contributions (other than elective deferrals), each 12-month period for which the employee has at least 500 hours of service is treated as a year of service. All years of service with the employer maintaining the plan are taken into account for purposes of determining an employee’s nonforfeitable right to employer contributions, subject to certain exceptions. Those exceptions include, for example, years of service before the employee attains age 18.<a href="#_ftn4" name="_ftnref4">4</a> A plan may not require, as a condition of participation in the cash or deferred arrangement, that an employee complete a period of service beyond the later of age 21 or the completion of one year of service.<a href="#_ftn5" name="_ftnref5">5</a> A cash or deferred arrangement must satisfy a nondiscriminatory coverage test ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3842">3842</a>).<a href="#_ftn6" name="_ftnref6">6</a> For purposes of applying those tests, all eligible employees are treated as benefiting under the arrangement, regardless of whether they actually make elective deferrals.<a href="#_ftn7" name="_ftnref7">7</a> An eligible employee is any employee who is directly or indirectly eligible to make a cash or deferred election under the plan for all or a portion of the plan year. An employee is not ineligible merely because he or she elects not to participate, is suspended from making an election under the hardship withdrawal rules, is unable to make an election because his or her compensation is less than a specified dollar amount, or because he or she may receive no additional annual additions under the IRC Section 415 limits ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3728">3728</a>, Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3868">3868</a>).<a href="#_ftn8" name="_ftnref8">8</a> Employers may apply an early participation test for certain younger or newer employees permitted to participate in a plan. If a plan separately satisfies the minimum coverage rules of IRC Section 410(b), taking into account only those employees who have not completed one year of service or are under age 21, an employer may elect to exclude any eligible nonhighly compensated employees who have not satisfied the age and service requirements for purposes of the ADP test ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3802">3802</a>).<a href="#_ftn9" name="_ftnref9">9</a> This provision is designed to encourage employers to allow newer and younger employees to participate in a plan without having the plan’s ADP results “pulled down” by their often-lower rates of deferral. By making this election, an employer will be able to apply a single ADP test comparing the highly compensated employees who are eligible to participate in the plan to the nonhighly compensated who have completed one year of service and reached age 21. If an employer includes a tax-exempt 501(c)(3) organization and sponsors both a 401(k) (or 401(m)) plan and a Section 403(b) plan, employees eligible to participate in the Section 403(b) plan generally can be treated as excludable employees for purposes of the 401(k) plan if (1) no employee of the 501(c)(3) organization is eligible to participate in the 401(k) (or 401(m)) plan and (2) at least 95 percent of the employees who are not 501(c)(3) employees are eligible to participate in the 401(k) or 401(m) plan.<a href="#_ftn10" name="_ftnref10">10</a> Guidelines and transition rules for satisfying the coverage requirement during a merger or acquisition are set forth at Revenue Ruling 2004-11.<a href="#_ftn11" name="_ftnref11">11</a> <div class="refs"> <hr align="left" size="1" width="33%"> <a href="#_ftnref1" name="_ftn1">1</a>.  P.L. 116-94, 133 Stat. 2534 (Dec. 20, 2019), § 112 <a href="#_ftnref2" name="_ftn2">2</a>.  IRC § 401(k)(15)(B)(iii). <a href="#_ftnref3" name="_ftn3">3</a>.  IRC § 401(k)(15)(B)(iv). <a href="#_ftnref4" name="_ftn4">4</a>.  Notice 2020-68. <a href="#_ftnref5" name="_ftn5">5</a>.  IRC § 401(k)(2)(D). <a href="#_ftnref6" name="_ftn6">6</a>.  IRC § 401(k)(3)(A)(i). <a href="#_ftnref7" name="_ftn7">7</a>.  Treas. Reg. § 1.410(b)-3(a)(2)(i). <a href="#_ftnref8" name="_ftn8">8</a>.  Treas. Reg. § 1.401(k)-6. <a href="#_ftnref9" name="_ftn9">9</a>.  IRC § 401(k)(3)(F); Treas. Reg. § 1.401(k)-2(a)(1)(iii). <a href="#_ftnref10" name="_ftn10">10</a>.  Treas. Reg. § 1.410(b)-6(g). <a href="#_ftnref11" name="_ftn11">11</a>.  2004-7 IRB 480. </div></div>

March 13, 2024

3760 / What is the limit on elective deferrals to employer-sponsored plans?

<div class="Section1"> Editor’s Note: Late deposits of participant deferrals are one of the most common errors made by employer plans.  The Department of Labor (DOL) has announced plans to revise its Voluntary Fiduciary Correction (VFC) Program and prohibited transaction exemption (PTE) 2002-51. Under the proposal, employers would be allowed to self-correct certain late deposits of participant deferrals or loan repayments using the VFC Program. Under the new proposal, self-corrections would be permitted if (1) total lost earnings for the failure do not exceed $1,000 per correction, (2) delinquent contributions were remitted to the plan within 180 days after the date of withholding or receipt, (3) the lost earnings correction amount is computed using the DOL VFC Program calculator, using the actual date of withholding or receipt as the loss date, (4) the company completes an “SCC Retention Record Checklist,” prepares or collects certain documents, and provides the checklist and documentation to the plan administrator (to be treated as plan records for ERISA purposes), and (5) the company files an electronic notice with the DOL providing information about the correction. <div class="Section1"> The IRC limits the total amount of “elective deferrals” any individual can exclude from income in a year. Elective deferrals, for this purpose, generally include all salary deferral contributions to all 401(k) plans ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3752">3752</a> through Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3779">3779</a>), 403(b) tax sheltered annuities ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="4047">4047</a>), SAR-SEPs ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3705">3705</a>), and SIMPLE IRAs ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3706">3706</a>).<a href="#_ftn1" name="_ftnref1">1</a> Contributions under a Roth 401(k) feature ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3779">3779</a>) are subject to the same elective deferral limit as other 401(k) contributions.<a href="#_ftn2" name="_ftnref2">2</a> The elective deferral limit for traditional and safe harbor 401(k) plans and for Section 403(b) tax sheltered annuities is $23,500 in 2025 ($23,000 in 2024, $22,500 in 2023, $20,500 in 2022, $19,500 in 2020-2021, as indexed).<a href="#_ftn3" name="_ftnref3">3</a> Elective deferral contributions to SIMPLE IRAs ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3706">3706</a>) and SIMPLE 401(k) plans ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3778">3778</a>) are subject to a limit of $16,500 in 2025 ($16,000 in 2024, $15,500 in 2023, $14,000 in 2022, $13,500 in 2020-2021).<a href="#_ftn4" name="_ftnref4">4</a> The limit on elective deferrals to tax sheltered annuity plans may be further increased in the case of certain long term employees of certain organizations ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="4047">4047</a>).<a href="#_ftn5" name="_ftnref5">5</a> The IRC Section 402(g)(1)(B) elective deferral limit is not required to be coordinated with the limit on Section 457 plans. As a result, an individual participating in both a 401(k) plan (or 403(b) plan) and a Section 457 plan in 2025 may defer as much as $47,500 ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3584">3584</a>).<a href="#_ftn6" name="_ftnref6">6</a> Matching contributions made on behalf of self-employed individuals generally are not treated as elective deferrals for purposes of IRC Section 402(g)(1)(B). This treatment does not apply to qualified matching contributions that are treated as elective contributions for purposes of the ADP test ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3802">3802</a>).<a href="#_ftn7" name="_ftnref7">7</a> Excess deferrals. Amounts deferred in excess of the ceiling (i.e., excess deferrals) are not excludable and, therefore, must be included in the individual’s gross income for the taxable year.<a href="#_ftn8" name="_ftnref8">8</a> In the case of participants age 50 or over, catch-up contributions permitted under IRC Section 414(v) are not treated as excess elective deferrals under IRC Section 402(g)(1)(C) ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3761">3761</a>).<a href="#_ftn9" name="_ftnref9">9</a> If any amount is included in an individual’s income under these rules and plan language permits distributions of excess deferrals, the individual, prior to the first April 15 following the close of the individual’s taxable year, may allocate the excess deferrals among the plans under which the deferrals were made and the plans may distribute the excess deferrals (including any income allocated thereto, provided the plan uses a reasonable method of allocating income) not later than the first April 15 after the close of the plan’s taxable year (the April 15 deadline is not extended even if the taxpayer takes advantage of an automatic filing extension).<a href="#_ftn10" name="_ftnref10">10</a> The amount of excess deferrals distributed under these rules is not included in income a second time as a distribution, but any income on the excess deferral is treated as earned and received, and includable in income in the taxable year in which distributed.<a href="#_ftn11" name="_ftnref11">11</a> If the plan so provides, distributions of excess deferrals may be made during the taxable year of the deferral if the individual and the plan designate the distribution as an excess deferral and the correcting distribution is made after the date on which the plan received the excess deferral.<a href="#_ftn12" name="_ftnref12">12</a> Excess amounts that are not timely distributed are not included in the cost basis of plan distributions, even though they have previously been included in income.<a href="#_ftn13" name="_ftnref13">13</a> Thus, such amounts will be subjected to a second tax when distributed in the future. Any corrective distribution of less than the entire amount of the excess deferral is treated as a pro rata distribution of excess deferrals and income.<a href="#_ftn14" name="_ftnref14">14</a> See Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3808">3808</a> for rules on coordinating distributions of excess contributions and excess deferrals.<a href="#_ftn15" name="_ftnref15">15</a> </div> <div class="refs"> <hr align="left" size="1" width="33%"> <a href="#_ftnref1" name="_ftn1">1</a>.  IRC § 402(g)(3); Treas. Reg. § 1.402(g)-1(b). <a href="#_ftnref2" name="_ftn2">2</a>.  IRC § 402A(a)(1). Similar rules have recently been adopted with respect to the federal Thrift Savings Plan. 77 Fed. Reg. 26417 (May 4, 2012). <a href="#_ftnref3" name="_ftn3">3</a>.  IRC § 402(g)(1); Notice 2019-59, Notice 2020-79, Notice 2021-61, Notice 2022-55, Notice 2023-75, Notice 2024-80. <a href="#_ftnref4" name="_ftn4">4</a>.  Notice 2019-59, Notice 2020-79, Notice 2021-61, Notice 2022-55, Notice 2023-75, Notice 2024-80. <a href="#_ftnref5" name="_ftn5">5</a>.  Treas. Reg. § 1.402(g)-1(c). <a href="#_ftnref6" name="_ftn6">6</a>.  See IRC § 457(c). <a href="#_ftnref7" name="_ftn7">7</a>.  See IRC § 402(g)(8). <a href="#_ftnref8" name="_ftn8">8</a>.  IRC § 402(g)(1); Treas. Reg. § 1.402(g)-1(a). <a href="#_ftnref9" name="_ftn9">9</a>.  Treas. Reg. § 1.414(v)-1(g). <a href="#_ftnref10" name="_ftn10">10</a>.  Treas. Reg. §§ 1.402(g)-1(e)(2), 1.402(g)-1(e)(5). <a href="#_ftnref11" name="_ftn11">11</a>.  IRC § 402(g)(2)(C); Treas. Reg. § 1.402(g)-1(e)(8). <a href="#_ftnref12" name="_ftn12">12</a>.  Treas. Reg. § 1.402(g)-1(e)(3). <a href="#_ftnref13" name="_ftn13">13</a>.  IRC § 402(g)(2); Treas. Reg. § 1.402(g)-1(e)(8). <a href="#_ftnref14" name="_ftn14">14</a>.  IRC § 402(g)(2)(D); Treas. Reg. § 1.402(g)-1(e)(10). <a href="#_ftnref15" name="_ftn15">15</a>.  Treas. Reg. § 1.401(k)-1(f)(5)(i). </div> </div>

March 13, 2024

3762 / What is a solo 401(k) plan?

<div class="Section1"> Editor’s Note: The original SECURE Act extended the deadline to allow qualified retirement plans to be adopted as late as the sponsoring employer’s tax filing deadline, including extensions. However, employers could only make elective deferrals to the plan on a prospective basis (meaning that contributions for any given tax year still had to be made before year-end).  The SECURE Act 2.0 modified this rule to allow sole proprietors and owners of single member LLCs to make elective deferrals to their solo 401(k) plans up until their tax filing deadline, including extensions, even for the first year the plan is in place. This new rule is effective for plan years beginning after December 29, 2022. A solo 401(k) plan refers to any 401(k) plan that covers only the business owner or the business owner and his or her spouse. These plans are subject to the same rules and requirements as any other 401(k) plan. Nondiscrimination testing is not required since the business does not have any common law employees who could have received disparate benefits. Solo 401(k) plans are a product of qualified plan reforms implemented by EGTRRA 2001, which substantially improved the tax favored treatment for employers sponsoring 401(k) plans. These changes were designed to encourage greater savings for retirement and to provide more incentive to businesses funding 401(k) plans. The first of these changes increased the deduction limit for profit sharing and stock bonus plans (which includes 401(k) plans) to 25 percent of compensation.<a href="#_ftn1" name="_ftnref1">1</a> Before 2002, profit sharing and stock bonus plans were subject to a deduction limit of 15 percent of compensation. <hr> Planning Point: For self-employed individuals, compensation is defined as net earnings less a deduction of 50 percent of self-employment tax and employee contributions. The IRS publishes a separate deduction and rate worksheet for self-employed individuals in Publication 560. <hr> Second, the definition of compensation for purposes of the 25 percent limit includes elective deferrals to a qualified plan, Section 403(b) plan, Section 457 plan, SEP, SIMPLE, or Section 125 FSA plan.<a href="#_ftn2" name="_ftnref2">2</a> This means that the payroll on which the 25 percent is based became higher than it was in earlier years, resulting in a higher deduction limit for employer contributions to the plan. <hr> Planning Point: If a self-employed individual also participates as an employee in another 401(k) plan, the limits on elective contributions are per individual, not per plan, so the aggregate contributions into all the plans cannot exceed the limit. <hr> After the EGTRRA 2001 amendments, elective deferrals no longer reduce the amount of employer contributions for purposes of calculating the 25 percent deduction limit.<a href="#_ftn3" name="_ftnref3">3</a> This means that a higher amount could be attributable to matching contributions, nonelective contributions or other amounts paid by the employer. The elective deferral limits increased as well: the limit is $23,500 for 2025, up from $23,000 for 2024, $22,500 for 2023, $22,000 in 2022 and $19,500 for 2020-2021 ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3760">3760</a>), and, for individuals age 50 or older, catch-up contributions are permitted ($7,500 for 2023-2025 and $6,500 in 2020-2022 ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3761">3761</a>)).<a href="#_ftn4" name="_ftnref4">4</a> <hr> Planning Point: These changes to the calculation of the employer deduction for all profit sharing plans, including 401(k) plans, led to a proliferation of solo 401(k) plans. Although the advantages to a sole proprietor or one person corporation can be significant, it is important to note that the plan is subject to the same minimum participation, coverage, nondiscrimination, and other requirements that apply to any other qualified defined contribution plan, in the event one or more employees are later added to the sponsoring employer. <hr> Third, total contributions to an employee’s account (excluding catch-up contributions) cannot exceed $70,000 in 2025, $69,000 in 2024, $66,000 in 2023, $61,000 in 2022, $58,000 in 2021 and $57,000 in 2020.<a href="#_ftn5" name="_ftnref5">5</a> <div class="refs"> <hr align="left" size="1" width="33%"> <a href="#_ftnref1" name="_ftn1">1</a>.  IRC § 404(a)(3)(A). <a href="#_ftnref2" name="_ftn2">2</a>.  IRC § 404(a)(12). <a href="#_ftnref3" name="_ftn3">3</a>.  IRC § 404(n). <a href="#_ftnref4" name="_ftn4">4</a>.  IRC §§ 402(g)(1), 414(v)(2)(B); Notice 2019-59, Notice 2020-79, Notice 2021-61, Notice 2022-55, Notice 2023-75, Notice 2024-80. <a href="#_ftnref5" name="_ftn5">5</a>.  Notice 2019-59, Notice 2020-79, Notice 2021-61, Notice 2022-55, Notice 2023-75, Notice 2024-80. </div></div>

March 13, 2024

3752 / What is a 401(k) plan?

<div class="Section1"> A 401(k) plan generally is a profit sharing plan or stock bonus plan that provides for contributions to be made pursuant to a “cash or deferred arrangement” (“CODA,” see Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3755">3755</a>) under which individual participants elect to take either amounts in cash or to have the amounts deferred under the plan. With the availability of Roth contributions under 401(k) plans, the employee also may elect to have Roth deferrals made on an after-tax basis to the CODA. In addition to the general qualification requirements ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3838">3838</a> through Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3936">3936</a>), special qualification rules apply to 401(k) plans ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3753">3753</a> to Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3808">3808</a>). Certain nondiscrimination requirements can be met by satisfying the requirements for safe harbor plans ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3773">3773</a>). There are requirements for SIMPLE 401(k) plans ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3778">3778</a>) and there are automatic enrollment plans for plan years beginning after 2007 ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3762">3762</a>). The elective deferral limits apply to individuals participating in more than one salary reduction plan, such as a 401(k) plan and a Section 403(b) tax sheltered annuity or SIMPLE IRA ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3760">3760</a>). There also are requirements that pertain to catch-up contributions by participant’s age 50 or over ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3761">3761</a>). Amounts deferred under a 401(k) plan are referred to as elective deferrals ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3760">3760</a>). Elective deferrals generally are excluded from a participant’s gross income for the year of the deferral and are treated as employer contributions to the plan.<a href="#_ftn1" name="_ftnref1">1</a> In the case of contributions to a qualified Roth contribution program ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3779">3779</a>), deferrals are made on an after-tax basis (i.e., they are treated as includable in income for withholding purposes).<a href="#_ftn2" name="_ftnref2">2</a> A 401(k) plan may provide that all employer contributions are made pursuant to the election or may provide that the cash or deferred arrangement is in addition to ordinary employer contributions. Typically, the employer contributions are in the form of a percentage match for each dollar deferred by an employee. There are requirements that apply to matching contributions ( Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3804">3804</a>, Q <a href="javascript:void(0)" class="accordion-cross-reference" id="3808">3808</a>). Note: On December 16, 2019, the SECURE Act<a href="#_ftn3" name="_ftnref3">3</a> was enacted and made a number of significant changes (some effective immediately upon enactment) to retirement plan rules. Many of these changes impact 401(k) plans and their operations, like the need to annually communicate lifetime income to participants, expansion of mandatory participation to certain long-term part-time employees, and a change in the “required beginning date” and allowable distribution periods for required minimum distributions. Others reduce the burden and cost for an employer to adopt or maintain a plan. A number of legal and regulatory changes prior to the SECURE Act impact certain substantive 401(k) limitation rules regarding hardship, loans and other pre-59½ distributions, especially in the case of areas officially declared to be national disaster areas for hurricanes, floods, fires Q <a href="javascript:void(0)" class="accordion-cross-reference" id=""></a>), and the COVID-19 pandemic. Some changes, like extension of time to repay 401(k) loans, do not require a disaster justification. <div class="refs"> <hr align="left" size="1" width="33%"> <a href="#_ftnref1" name="_ftn1">1</a>.  Treas. Reg. § 1.401(k)-1(a). <a href="#_ftnref2" name="_ftn2">2</a>.  IRC § 402A. <a href="#_ftnref3" name="_ftn3">3</a>.  PL 116-94 </div></div>

January 23, 2024

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.

January 23, 2024

3798.1 / What rules govern the pension-linked emergency savings accounts (PLESAs) created by the SECURE Act 2.0?

<div class="Section1"> Non-highly compensated employees may be entitled to contribute the lesser of (1) 3% of compensation or (2) $2,500 to pension-linked emergency savings accounts (PLESAs) using after-tax dollars if their employer elects to establish a PLESA. Initial IRS guidance<a href="#_ftn1" name="_ftnref1">1</a> addresses the anti-abuse rules under IRC Section 402A(e)(12). The IRS notes that PLESAs are optional, and plans may stop offering a PLESA option at any time. PLESAs are treated as Roth accounts (i.e., contributions are made with after-tax dollars and the contributions themselves are not taxable when withdrawn). Participants must be permitted to make withdrawals at least once a month. If an employer makes matching contributions to the related defined contribution plan, the employer must make matching contributions on behalf of an eligible participant based on their contributions to the PLESA at the same rate as any other matching contributions made based on the participant's elective contributions (the matching contribution will be made to the individual's retirement account, not the PLESA). The matching contributions cannot exceed the maximum account balance under Section 402A(e)(3)(A) for the plan year (matching contributions are first treated as being attributable to the individual's elective deferrals for purposes of determining the limit on the employer match). The DOL has also released a fact sheet<a href="#_ftn2" name="_ftnref2">2</a> to help clarify some of the newly released rules governing pension-linked emergency savings accounts (PLESAs). The guidance clarifies that the employer has discretion in whether to include or exclude earnings on employee contributions when applying the $2,500 contribution cap. For example, the employer can limit the employee's contributions to $2,500 (excluding earnings from the limit). Any earnings on the $2,500 employee contribution will not cause the PLESA to violate the limit. Conversely, the employer can cap the employee's entire account balance at $2,500, prohibiting contributions even if merely earnings on the balance cause the account to exceed $2,500. However, employers cannot impose an annual limit on employee contributions (for example, employees will be permitted to replenish the account if they deplete the balance throughout the year even if the annual contributions for the year exceed $2,500—the focus is on the account balance at any given time). Employers must transfer amounts withheld from employee wages as soon as reasonably possible, but no later than the 15th business day of the month immediately following the month in which the contribution is either withheld or received by the employer. <a href="#_ftn3" name="_ftnref3"></a> The IRS has published guidance on preventing employees from manipulating the employer matching requirements by funding the PLESA only to receive an employer match, taking a distribution and then re-funding the PLESA to get another match. Although employers can set lower limits on PLESA account balances and limit withdrawals to once per month, many employers remained concerned about employees manipulating the PLESA rules solely to get the employer match.<a href="#_ftn3" name="_ftnref3">3</a> <a href="#_ftn3" name="_ftnref3"></a> While reasonable anti-abuse procedures are permissible to limit the frequency or amount of employer matching contributions, the IRS did not offer many specifics on procedures that will be deemed “reasonable”. The guidance provides that a reasonable anti-abuse procedure balances the interests of participants in funding the PLESA for its intended purpose with the plan’s interest in preventing manipulation of the matching rules. <a href="#_ftn3" name="_ftnref3"></a> The IRS did offer examples of anti-abuse procedures that will be deemed unreasonable. Employers cannot provide that matching contributions are forfeited if the employee withdraws funds from the PLESA. Similarly, employers cannot suspend the employee’s right to fund the PLESA due to withdrawals and cannot suspend matching contributions made on account of participant elective deferrals to the underlying defined contribution plan. </div> <div class="refs"> <hr align="left" size="1" width="33%" /> <a href="#_ftnref1" name="_ftn1">1</a>. Notice 2024-22. <a href="#_ftnref2" name="_ftn2">2</a>. Available at <a href="https://www.dol.gov/agencies/ebsa/about-ebsa/our-activities/resource-center/faqs/pension-linked-emergency-savings-accounts">https://www.dol.gov/agencies/ebsa/about-ebsa/our-activities/resource-center/faqs/pension-linked-emergency-savings-accounts</a> <a href="#_ftnref3" name="_ftn3">3</a>. Notice 2024-22. </div>