By: Corey Zeller, MSEA, CPC
As seen in our 2023 EOY Newsletter: Click Here
To say that SECURE 2.0 added a large number of new retirement plan provisions is an understatement—it was the largest and most far-reaching retirement plan bill in many years! Some of the new provisions are clear wins for plan sponsors and participants. Others are mandatory, and plans will have to implement them whether they like it or not. However, a large number of the SECURE 2.0 provisions are optional. This article will review a number of the optional provisions, and make some suggestions about whether or not you might want to incorporate them into your plan.
Roth Match
What is it?
SECURE 2.0 added the ability for an employee to elect to have matching contributions (and other employer contributions, such as profit sharing or safe harbor contributions) made on a Roth basis. As with Roth 401(k) contributions, the amount of Roth employer contributions is included in the employee’s taxable income in the year in which the contributions are made, and both the contributions and earnings can be withdrawn tax-free if the requirements for a qualified Roth distribution are met.
To avoid a situation where the employee pays taxes on a contribution that is later forfeited, the law only permits the Roth election to be made on employer contributions that are 100% vested.
Should you do it?
This is an unequivocal no. There is a great deal that can go wrong when allowing Roth employer contributions, and virtually no benefit.
The tax treatment of Roth employer contributions is not yet clear. Are they required to be included in an employee’s wages for withholding purposes? If yes, then it is going to add complexity as they are not subject to FICA taxes. If no, then employees will have to be careful to adjust their withholding elections to avoid underpayment penalties.
Besides that, Roth employer contributions are completely redundant, since plans can already allow employees to elect an in-plan Roth conversion of all or part of their account—including employer contributions! The conversion results in a taxable event in the amount of the conversion, and the amount converted is treated as Roth thereafter.
The only scenario where Roth employer contributions might make sense would be for a defined contribution plan that is not a 401(k) plan—for example, a money purchase plan—that wishes to allow its participants to elect Roth treatment on their accounts. However, money purchase plans are rare these days and have been mostly replaced by profit sharing and 401(k) plans.
Student Loan Matching
What is it?
Many younger employees in the workforce are carrying a substantial amount of student loan debt. With limited income, they may be forced to make a decision between paying down those loans, or contributing to the 401(k) plan offered by their employer. While paying down the debt may be the right choice, it could mean giving up any matching contributions offered by their employer if they can not contribute to the 401(k) plan.
Student loan matching programs are designed to make it easier for employees to pay down their student loans, by allowing employers to make 401(k) matching contributions based on qualified student loan repayments. In other words, the employer may treat the student loan payment as if it were a 401(k) plan contribution when calculating their match. The employee must certify to the employer each year that they made the student loan payments.
Should you do it?
While it’s admirable to encourage employees to pay back their student loans, and any assistance the employer can provide is welcome, this may not be the best way to approach it. Adding student loan matching would require the employer to obtain information on all of their employees’ student loans, and how much they have repaid on those loans, and keep that information up-to-date each year. This is not normally information an employer would need to have, and payroll systems are unlikely to have a spot to enter this information, which means the employer would now need to calculate the matching contributions manually.
Furthermore, there is likely a disconnect between the matching contribution deposit and student loan repayment frequency. If matching contributions are made every two weeks, but the employee makes their loan payments once a month, what amount is used for the matching contribution calculation?
Ultimately, adding this provision is an incentive to not contribute to the 401(k) plan, and therefore we feel that most employers would be better off not including it in their plans.
Military Spouse Credit
What is it?
This is a new tax credit available to small employers who cover military spouses in their retirement plans. The credit is up to $500 for each military spouse per year, for up to 3 years starting when the military spouse first becomes eligible to participate in the plan.
In order for the employer to be eligible for the credit, the military spouse must be eligible for the plan no later than 2 months after their date of hire. In addition, they must immediately be eligible for the same level of employer contributions that a similarly-situated employee who is not a military spouse would be eligible for after 2 years of service. The military spouse must also be immediately vested in the employer contributions.
Should you do it?
If your plan already meets the eligibility, vesting, and contribution requirements, then go ahead—it’s an easy tax credit to claim! You will just need the employee to certify the name, rank, and service branch of their spouse who is on active duty. However, if your plan does not already meet the requirements, it does not seem worthwhile to change those requirements just for the tax credit. However, that analysis may change if you have a large number of employees who are military spouses and you could be entitled to a substantial credit.
Emergency Expense Distributions
What is it?
Plans may permit participants to take a distribution of up to $1,000 per year in the event of unforeseeable or immediate financial needs relating to necessary personal or family emergency expenses. This distribution is exempt from the 10% penalty tax on early withdrawals. After taking an emergency expense distribution, the employee may not take another one for 3 years, unless they first repay the amount of the earlier distribution.
Should you do it?
We recommend against allowing these distributions. Plans may already permit hardship distributions, which do not have the $1,000 limit or the once-every-3-years restriction. Allowing emergency expense distributions in addition to hardships is likely to lead to confusion and improper plan administration.
Pension-Linked Emergency Savings Accounts (PLESA)
What is it?
A PLESA is a sidecar account attached to an employee’s 401(k) account. This account may only receive employee contributions, and those contributions may only be Roth. There is a maximum account balance of $2,500; once the account goes over $2,500, no further contributions may be made until the account goes under that amount. The account must be invested in a vehicle designed to preserve principal and provide a reasonable rate of return.
The account is intended to be used for the participant’s emergency savings. To that end, the plan is required to allow the participant to withdraw from this account no less frequently than once per month, in any amount that the participant chooses. No fees may be charged for the first four withdrawals from this account each year.
Should you do it?
With all of the special requirements that apply to PLESAs, plus the prohibition on charging a fee for up to 4 distributions a year, we recommend that you do not allow PLESAs in your plan.
Unenrolled Participant Notice
What is it?
There are a number of notices that are required to be provided to all participants in a plan. The definition of “participant” usually includes everyone who has satisfied the plan’s requirements, regardless of whether they are actually contributing to the plan. SECURE 2.0 allows plans to provide a simplified notice to participants who have no balance in the plan, reminding them that the plan exists and of the benefits of contributing to the plan.
Should you do it?
While less paperwork sounds nice in theory, in this case we recommend against the simplified notice. From an employer’s perspective, this is actually more paperwork, since now they have another special notice that needs to go to a certain subset of their employees, in addition to the other notices that have to go to different employees. It is simpler for the employer to provide the same set of notices to everyone, and not have to worry about who needs which notice.
Qualified Disaster Distributions
What is it?
In recent years, Congress has regularly passed laws in the aftermath of a major disaster to allow affected individuals to access funds in their retirement plans. The rules added for each of these incidents were largely similar.
With SECURE 2.0, there is no longer any need for Congress to act on a case-by-case basis in the event of disasters; there is now a standing provision allowing plans to offer expanded distributions and loans in the event of a federally-declared disaster.
Participants who lived in the disaster area and who suffered an economic loss due to the disaster may now be able to take a distribution of $22,000 per disaster. This amount is not subject to the 10% penalty tax on early distributions, and the income tax on the distribution may be spread out over 3 years. The amount of the distribution may also be repaid to the plan over up to 3 years.
In addition, participants may be able to take a loan from the plan in an amount of up to $100,000, or 100% of their vested account balance—twice the normal limits. The loan payments are permitted to be delayed by up to 1 year, and the normal loan term of 5 years may also be extended by a year.
Should you do it?
We’ve seen these sorts of distributions work well for recent disasters when Congress stepped in to provide some relief. It can be good for participants to know that they will have access to their retirement savings in the event of a disaster, so sponsors may want to offer this option. It should also be possible for plans to only offer the special distributions or the increased loan limits, if one option is more palatable than the other.
One possible caution is that putting a blanket option in the plan allowing qualified disaster distributions or qualified disaster loans could create a right to those special distributions or loans as soon as the disaster happens; if a plan sponsor wanted to limit them to certain disasters, that could cause a problem. It might be better in that case for the sponsor to amend their plan to make qualified disaster distributions and loans available on a case-by-case basis, and limit their availability to certain disasters, identified by name.
Domestic Abuse Distributions
What is it?
Plans may allow a distribution, limited to the lesser of $10,000 (indexed to inflation) or 50% of the vested account balance, to a participant who is a victim of domestic abuse. The plan administrator may rely upon the participant’s certification that they have been affected by domestic abuse within the last year. The distribution is exempt from the 10% excise tax on early withdrawals, and it may be repaid within 3 years.
Plans which are subject to the qualified joint and survivor annuity requirements (including all defined benefit plans, money purchase plans, and certain 401(k) or profit sharing plans) may not offer domestic abuse distributions.
Should you do it?
Individuals who are affected by domestic abuse often have very limited access to financial resources that could help them escape their situation. Allowing access to a distribution from their retirement plan could be invaluable in certain circumstances.
However, since the distribution requires that the employee certify their status as a victim of domestic abuse, it necessarily entails employees disclosing this sensitive information to their employer. Some employees may not feel comfortable providing this information, and some employers may not feel comfortable receiving it. Ultimately, the choice to offer domestic abuse distributions in a plan is going to depend on whether the employer wants to be involved with their employees’ personal affairs at this level.
Self-Certification for Hardship Distributions
What is it?
401(k) plans may offer distributions in the event of financial hardships, defined as a heavy and immediate financial need. The regulations define seven safe harbor criteria which are deemed to meet the “immediate and heavy” standard. Because of their safe harbor status in the regulations, many plans will allow participants to take a hardship withdrawal only if the distribution is on account of one of those seven reasons.
SECURE 2.0 provides that an employee may self-certify that they have a financial need of one of the types specified in the regulations, and that the amount of the distribution is no more than the amount necessary to satisfy the need. The employer may rely on the employee’s self-certification and does not need to investigate the matter further, or request documentation, unless they have actual knowledge to the contrary of the employee’s certification.
Should you do it?
Self-certification has already been an accepted practice for a number of years, based on standards published in the IRS audit guidelines. Those are merely guidelines published by the IRS which do not have the force of law; what’s changed with SECURE 2.0 is that self-certification is now the law and the IRS can not overrule it.
Self-certification is not only easier for employees and employers, it relieves the employer of responsibility for determining the veracity of the information submitted. We recommend that employers which offer hardship distributions in their plans allow employees to self-certify their hardship distributions.
Increased Catch-up Limit
What is it?
Participants who will have reached at least age 50 by the end of the year can be allowed to exceed the normal 401(k) contribution limit by making catch-up contributions. Starting in 2025, SECURE 2.0 increases the catch-up limit—but only for participants who will be exactly age 60, 61, 62 or 63 at the end of the year. In other words, the catch-up limit will go up in the year when the participant reaches age 60, and then go down in the year when the participant reaches age 64.
Should you do it?
It’s easy to recommend catch-up contributions in general. As long as catch-up contributions are offered to all eligible participants, there are no testing or top-heavy requirements attached to catch-up contributions, so it’s free extra contributions for a segment of the plan population.
The analysis for this special increased catch-up limit is largely the same, but with the caveat that administration will become somewhat more difficult. Employers are going to have to make sure that their payroll systems are programmed to accommodate the fact that certain employees will have different limits at different ages, and unlike other plan limits, the catch-up limit will go down once the employee reaches a certain age. As long as the employer is comfortable administering the changing limits, this is a good thing to include in your plan.
Conclusion
While the information provided in this article is a good starting point for evaluating whether or not to add a certain provision to your plan, it is impossible to analyze every situation in this format. Even if we recommend against a provision in general, it could still be the right choice under certain circumstances. Contact us to review your needs and analyze any of these or other optional plan provisions with an eye towards your individual situation.