Retirement Plan Industry Update – Q3 2019
November 4, 2019
Written by Dave Westra, Partner, CFP®, AIF®, CPFA and John Brimhall, Client Advisor, CFA, CPA, CFP®
Retirement Plan Participant Sues Plan Sponsor for Cybersecurity Breach
A former employee of Estee Lauder, Naomi Berman, claims that someone made three unauthorized distributions, totaling $99,000, from her 401(k) plan account. Berman is suing Estee Lauder and plan service providers for failing to safeguard her retirement account and breaching their fiduciary duties. The plaintiff claims that by the time she received a notification, the distributions had already been processed.
The lawsuit claims that the unauthorized distributions took place in late 2016. Between October 24, 2016, and January 2, 2017, Berman “made at least 23 calls” to Hewitt Associates, the plan’s recordkeeper. Upon completing its review, Hewitt Associates notified Berman that “no money had been recovered and added that her plan account would not be made whole for the losses".
The lawsuit seeks to restore her account balance and lost earnings.
Safe Harbors Available to Retirement Plan Sponsors
A safe harbor is a provision in law that provides protection from liability under specific situations or if certain conditions are met. In an effort to encourage companies to offer retirement plans to their employees, the Internal Revenue Service (IRS) and Department of Labor (DOL) offer a number of safe harbor provisions to protect plan sponsors.
The following is an overview of the most common retirement plan safe harbor provisions:
Section 404(c): Allows plan sponsors to shift the responsibility of investment management decisions to their plan participants.
While there are a number of requirements to obtain 404(c) protection, the following is a summary of the basic pillars:
- Offer a broad range of at least three diversified investment options
- Provide participants access to sufficient information to make informed decisions, including
- Annual fee disclosure notice
- Investment option prospectuses, financial statements, and reports
- Provide written confirmation for participant decisions (e.g., investment election change)
- Allow participants the ability to make investment changes regularly (at least quarterly)
Qualified Default Investment Alternative (QDIA): Protects plan sponsors from liability for investing a participant’s assets in a default fund.
- The participant fails to make an investment election
- The default investment meets certain criteria, including
- Target date fund
- Balanced or lifecycle fund
- Managed account
Mandatory Cash-Outs: Protects plan sponsors from liability for initiating a distribution of a “small” account balance for a terminated employee. For balances greater than $5,000, the plan administrator cannot initiate a distribution without the participant’s consent.
- The plan sponsor must provide written notification to the terminated employee that describes his or her distribution options, explains the force out provision, and provides the participant sufficient time to initiate a distribution or rollover.
- Less than $1,000 – send the terminated participant a check
- Between $1,000 and $5,000 – roll over the account balance to an IRA
Employer Contributions: When a plan sponsor makes either an eligible matching contribution or nonelective contribution, it can automatically pass annual nondiscrimination tests (such as the ADP/ACP and top-heavy tests).
- Matching contribution options
- Basic Match - 100% match on the first 3% of deferred compensation, plus a 50% match on deferrals between 3% and 5% (4% total).
- Enhanced Match – must be at least as much as the basic match at each tier of the match formula. A common formula is 100% match on the first 4% of deferred compensation.
- Nonelective contribution
- 3% (or more) of compensation, regardless of the participant's deferral amount.
- Employer matching and nonelective contributions must be 100% immediately vested.
Qualified Automatic Contribution Arrangement (QACA): A newer type of safe harbor, the QACA provision combines automatic enrollment, automatic escalation, and QDIA mapping. QACA allows plan sponsors to automatically pass annual ADP/ACP and top-heavy tests.
Basic requirements include:
- Automatic enrollment at 3% or more
- Automatic escalation at 1% or more annually, up to at least 6% (maximum 10%)
- Matching contribution of 100% on the first 1% of compensation deferred and 50% on deferrals between 1% and 6% (3½% total)
- Default participant balances into the plan’s QDIA
- Vest participants with a two-year cliff
Electronic Delivery of Required Disclosures (PROPOSED): The DOL recently proposed a new Electronic Disclosure Rule which would give plan sponsors safe harbor protection for providing required disclosures online. The DOL estimates that this change could save plan sponsors $2.4 billion in printing and mailing costs over the next ten years.
Common Mistakes That Arise During Retirement Plan Audits
It is important to understand, recognize, and avoid these common mistakes when administering your retirement plan(s):
Definition of Compensation
This continues to be one of the biggest issues found during plan audits. Compensation is not black and white, as it may capture some types of benefits not as easily identified as cash compensation. Not only is it important to understand how eligible compensation is defined in the plan document, but plan administrators need to verify that the payroll codes are set up properly to include or exclude various types of compensation.
Timely Remittance of Employee Deferrals
Ensuring consistency when remitting employee deferrals is imperative. Once a plan sponsor has established that they can process deferral remittances within a certain number of days, this becomes the standard going forward.
It is important to understand how eligibility for participant deferrals and company contributions are defined in the plan document. The plan administrator is required to verify that an employee has met the eligibility requirements before being enrolled in the plan and/or permitting deferrals and funding company contributions.
While plan sponsors often rely on their recordkeeper to track vesting, the ultimate responsibility falls on the company to ensure the calculation is correct.
Plan sponsors need to use plan forfeitures in a timely manner and in accordance with the plan document (e.g., plan expenses, matching contributions).
It is important that distributions are processed in accordance with the plan document and made to the eligible participant. If the plan administrator is responsible for approving distributions, the company should have a documented process for reviewing and authorizing distributions.
When a plan participant initiates a deferral rate change, the plan sponsor must process the change in a timely manner. It is prudent to have a documented process for receiving change notices from the recordkeeper and updating the payroll system in a timely manner.
Health Savings Accounts (HSA) – Still Evolving
Since 2004 (when HSAs were established), we have seen exponential growth in the number of HSA accounts and assets. According to Devenir’s 2018 Year-End Research Report, there were more than 25 million HSA accounts, with $53.8 billion in assets, as of December 31, 2018. There are several factors that have contributed to the rapid growth of HSAs, including lower health care spending by companies and a desire for their employees to take on greater decision making in how their health care dollars are spent.
HSAs are tax-free savings and investment accounts that allow taxpayers to save and pay for eligible medical expenses with pre-tax dollars. These accounts empower individuals to make affordable healthcare choices that best fit their needs. Due to the triple tax advantage that they offer, pre-tax contributions, tax-free growth, and tax-free distributions for qualified medical expenses, many professionals in the industry have called HSAs the “heavyweights of tax-advantaged accounts”.
To assist plan sponsors and consumers in understanding and evaluating the HSA provider landscape, several organizations, including Devenir, Morningstar, and PLANSPONSOR magazine, have issued research reports and provider rankings.
While most recognize that the industry has evolved, there is consensus that there is still room for improvement.
Opportunities for Improvement:
- Fees vary widely by provider
- Most providers require participants to maintain a cash balance before being able to invest excess funds
- While investment menus have improved, there is an opportunity to lower fees and simplify options
- Transparency is inconsistent for relevant information (e.g., fees, yield on checking account)
- Yields on checking accounts remain low
- Fees continue to decrease
- The quality of investment options remains strong and is improving
(Morningstar, Devenir, 2019)
Preventative Care Services Expanded for HSA Participants
On July 17, 2019, the IRS provided guidance that expanded the types of treatments and services that constitute preventive care. Certain preventative care, including the Affordable Care Act’s required preventative services, can be provided at low or no cost without requiring the participant’s annual deductible to be satisfied. The new IRS guidance provides additional treatment and services for chronic conditions.
The following chart lists some of the treatments and services that are covered for chronic conditions.
Steyer, R (October 16, 2019). Participant sues Estee Lauder over 401(k) security breach. Retrieved on October 21, 2019 from https://www.pionline.com/courts/participant-sues-estee-lauder-over-401k-security-breach
Umpierrez, A (September 18, 2019). What Safe Harbors Are Available to Retirement Plan Sponsors?. Retrieved October 21, 2019 from https://www.plansponsor.com/in-depth/safe-harbors-available-retirement-plan-sponsors/
Morris, A (September 26, 2019). 10 issues that can land you in hot water during an employee benefit plan audit. Retrieved on October 21, 2019 from https://www.benefitspro.com/2019/09/26/10-issues-that-can-land-you-in-hot-water-during-an-employee-benefit-plan-audit/
Devenir Research. (2018) 2018. Year-End HSA Market Statistics & Trends Executive Summary. Retrieved on October 23, 2019 from https://www.devenir.com/wp-content/uploads/2018-Year-End-Devenir-HSA-Research-Report-Executive-Summary.pdf
Morningstar. (2019) Health Savings Account Landscape. Retrieved on October 23, 2019 from https://www.morningstar.com/lp/hsa-landscape
IR-2019-129 (July 17, 2019). IRS expands list of preventative care for HSA participants to include certain care for chronic conditions. Retrieved on October 22, 2019 from https://www.irs.gov/newsroom/irs-expands-list-of-preventive-care-for-hsa-participants-to-include-certain-care-for-chronic-conditions
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