Category Archives: Defined contribution

Five ways your retirement plan may change in 2017

dey-elizabethThe start of a new year brings with it reflection on the year that has passed and anticipation for the changes that may be coming. For retirement plans, this often means a look at new federal regulations, new technology, and new industry trends. The annual contribution limit to 401(k) plans is holding steady at $18,000 and employees age 50 and older able to save an additional $6,000. But, here are five ways your retirement plan may change in 2017.

1. Focus will start to shift to financial wellness
By now, it’s common knowledge that many Americans aren’t adequately prepared for retirement. But rising costs in healthcare, student loan debt, and other areas make it difficult to plan for retirement expenses when people are struggling to pay for their current expenses. The use of creative tools and incentives may serve as ways to help improve overall financial wellness.

Beyond just offering access to educational programs for employees, covering topics such as how to set and stick to a budget or how to manage and pay down existing debt, employers may offer an additional incentive like cash or gift cards to entice their employees to participate in financial wellness programs.

2. Financial advice must now be in your best interest
Effective in April and phased in through the remainder of 2017, all financial professionals who provide investment advice to a retirement plan will be considered fiduciaries, and bound by the legal and ethical standards set forth in ERISA. This means that the funds financial professionals recommend must be in the plan’s best interest, instead of funds that would be most profitable for the advisor.

3. You may see a shift in investment options
Gone are the days of dozens of investment options in retirement plans. Instead, plan sponsors are now choosing to streamline their investment lineups to make investing decisions less complex. There’s also a greater emphasis being placed on investment products that offer target date or risk-based options, taking much of the guesswork out of choosing allocations.

The development of robo-advisors for employer-sponsored plans (subscription required) will also help participants with portfolio allocation. These programs use complex algorithms to deliver investment solutions that were previously only available in the retail investment market, but are now making their way to employer-sponsored plans, offering personalized investment advice at lower costs than traditional human advisors.

4. You may be enrolled in your plan even if you don’t take action yourself
Research has shown that when new hires are automatically enrolled in their 401(k) plans, 91% participated, compared with only 42% voluntary participation in plans that don’t offer this feature. Many employers have already taken advantage of this type of plan design, and more are considering adding this feature to their plans. If a plan already implements auto-enroll, adding an annual auto-increase feature may be another way to improve overall retirement savings.

There has also been an increased interest in reenrollment, where employees hired prior to the adoption of the auto-enrollment provision are automatically increased to match the new auto-enrollment level. Any combination of auto-enrollment, auto-increase, or reenrollment can be useful in encouraging retirement savings for participants who may not otherwise contribute.

5. Your plan may be going mobile
Most employer-sponsored retirement plans have some sort of online portal where employees can check balances, view performance, and initiate transactions. However, people are often on the go and may not have access to a laptop or computer—but most usually have access to a smartphone. Development and enhancement of mobile apps will be a focus of many retirement plan providers as the demand for mobile access increases.

There will also be an increased focus on offering a comprehensive overview of retirement readiness. Many retirement plan providers will continue working on offering tools that allow participants to link external accounts for a big-picture view of their overall financial positions.

An executive survival guide for tax-exempt employers sentenced to Section 457

Pizzano-DominickThis blog is part of a 12-part series entitled “The nonqualified deferred compensation plan (NDCP) dirty dozen: An administrative guide to avoiding 12 traps.” To read the introduction to the series, click here.

By the time executives of the corporate world-at-large experienced the first full-fledged legislative lockdown of their nonqualified deferred compensations, when the American Jobs Creation Act of 2004 instituted Internal Revenue Code (IRC) Section 409A, most of their counterparts in the tax-exempt sector had already been long used to having such benefits confined. Many years earlier, the Tax Reform Act of 1986 (TRA 86) sentenced these benefits to the custody of IRC Section 457, generally effective for taxable years beginning after December 31, 1986. The problem is that even as we approach the 30th anniversary of this sentence, Section 457 applicability and compliance still remain sources of confusion and frustration for many not-for-profit employers as they seek to provide significant executive compensation programs.

Tax-exempt employers, not employees
When not-for-profit organizations hire key decision-makers from the “for-profit” world, these organizations frequently find individuals desiring deferred compensation benefits similar to those offered by their former employers. Unfortunately, too often the tax-exempt organization complies and implements a plan that, while perfectly in compliance with the tax laws governing similar plans sponsored by corporations in the for-profit sector, does not comply with the more restrictive limitations applicable to most not-for-profit entities. If the Internal Revenue Service (IRS) discovers such a plan during an audit of the individual or the organization, the employer’s good intentions could result in extremely adverse tax consequences for the executive.

The deliberations that led to the 457 sentence
Why are tax-exempt employers subject to stricter limits than their for-profit counterparts? Because the IRS gives these organizations a pass come tax time, they cannot afford to offer the same charity to their employees. The IRS does not mind if executives of taxable entities defer as much as 100% of their compensation because, while the opportunity to tax this pay is generally deferred until the funds are distributed, the plan sponsor’s ability to take a tax deduction on such amounts is similarly delayed, thereby creating a vital trade-off that enables the U.S. Department of the Treasury to view these arrangements as tax-neutral. In contrast, tax-exempt employers have no tax deductions that can be deferred and thus no trade-off to offset the Treasury’s loss of current tax revenue incurred by their employees’ deferrals of compensation. Because tax-exempt entities as non-taxpayers are not concerned with deductibility of compensation, unless it involves unrelated trade or business income, there would be no incentive for them to limit their employees’ deferrals on their own if Section 457 did not exist.

Applicability of Section 457: Not all tax-exempts are treated equally

Free from Section 457: No separation of Church and the Feds: Originally sentenced to Section 457 by TRA 86 with the other tax-exempts, NDCPs maintained by churches and qualified church-controlled organizations (QCCOs) were paroled in 1988, when the Technical and Miscellaneous Revenue Act exempted this congregation of plans from the application of Section 457 (however, a nursing home or hospital that is associated with a church, but which is not itself a church or a QCCO, would be covered by Section 457 if it is a tax-exempt entity). The only other NDCPs granted Section 457 immunity are those established by the federal government or any agency or instrumentality thereof; although this should not be too surprising given that the creation of these rules as well as determining who must comply with them is, after all, a federal function.

Those sentenced to Section 457: The states, cities, towns, and the rest of the tax-exempts: If an employer is an entity that is a state or local government or a tax-exempt entity other than those described in the preceding paragraph, any NDCP it establishes must comply with Section 457. Plans of states and local governments have been subject to Section 457 from its creation in 1978; however, because the rules governing these arrangements are more similar to those covering qualified plans (e.g., all employees—not just executives—participate, and plan assets must be held in a separate trust for the exclusive benefit of participants), the remainder of this blog will focus on the rules applicable to the nongovernmental tax-exempts sentenced to 457.

What are the terms of a Section 457 sentence?
While a 457 sentence is mandatory, in the sense that it is levied based on the employer’s status, tax-exempt employers do have considerable discretion over the manner in which they choose to serve this sentence: a 457(b) plan (aka an eligible 457 plan), a 457(f) plan (aka an ineligible plan), or concurrently using both. The following chart reveals their major differences:

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Observing the 409A speed limit on payment accelerations after an NDCP termination

Pizzano-DominickThis blog is part of a 12-part series entitled “The nonqualified deferred compensation plan (NDCP) dirty dozen: An administrative guide to avoiding 12 traps.” To read the introduction to the series, click here.

Nonqualified deferred compensation plans (NDCPs) are designed to run their course at the usual payment pace with the only designated distribution pit stops made along the way being those specifically prescribed by the plan’s provisions. Internal Revenue Code Section 409A (409A) serves as an ever waving yellow caution flag warning NDCP sponsors of the consequences of accelerating distributions (see the “Timing is Everything” blog entry from this series for description). So the question arises, what is an NDCP sponsor to do when it concludes that its vehicle for high-performance executives is now no longer running smoothly and/or too costly to maintain on a per participant basis?

Prior to 409A going into effect, many NDCPs contained provisions permitting the sponsor to terminate the plan at its discretion and distribute benefits as soon as possible after such termination. This unlimited distribution discretion upon termination created the potential for the following two suspect scenarios under which sponsors and participants could violate the spirit (if not technically the rules in effect at that time) of how the Internal Revenue Service (IRS) intended NDCPs to be administered:

Pre-409A suspect scenario #1: Until distributed, NDCPs’ benefits are required to remain subject to the creditors of the sponsor in the event of the sponsor’s insolvency, in which case the participants have no greater rights than such creditors. There were cases where, because the plan sponsor was on shaky financial ground with the prospect of insolvency looming, the decision was made to terminate the NDCP so that the participants could “take their money and run” before the sponsor’s insolvency became official and the fate of any NDCP assets were left to the judgment of a bankruptcy court.

Pre-409A suspect scenario #2: Even before 409A, NDCPs were governed by the general tax principle of “constructive receipt,” which generally provides that participants should be taxed on benefits if they could potentially have access to such benefits even if they did not actually access them. Consequently, NDCPs could not contain provisions that would allow participants to withdraw funds while still employed. However, prior to 409A, there were no statutory restrictions preventing sponsors from terminating plans, distributing benefits to the participants, and then immediately creating new programs to provide future benefits, thereby in effect creating a loophole around the prohibition against “no withdrawals while employed” rule.

Recognizing there may still be legitimate reasons for an NDCP sponsor to want or need to terminate its plan(s) and distribute benefits, 409A does allow for an exception to its general prohibition against accelerations of payments. However, in an effort to prevent future occurrences of the past abuses described in scenarios #1 and #2, the 409A rules mandate that such payments will only be permissible upon certain specified circumstances. The remainder of this blog entry will review those cases where 409A raises the green flag for such early payments upon a plan’s termination.

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Final fiduciary rules: Frustrations and the unknown

Tedesco-KaraOn June 8, 2016, the U.S. Department of Labor (DOL) final fiduciary rules became effective, but these new rules are not actually applicable until April 10, 2017. The final rules outline what advisers, financial institutions, and employers need to do to adhere to them. Daunting? Yes. Impossible? Maybe, but some believe the fiduciary rules have been a long time coming. The new rules require advisers and financial institutions to comply with and uphold the fiduciary standards surrounding ERISA when advising clients for a fee. This is significant, as it has the potential to impact how some advisers help their clients with retirement planning. Some advisers may decide to stop helping.

As participants become more and more responsible for their own retirement savings, employers are finding they need to turn to their retirement plan experts for help. A plan adviser who gives fiduciary advice receives compensation for the recommendation he or she makes, and usually the recommendation is based on the specific needs of the participant. The advice is given so that an action will be taken. The final rules clearly state this expert is a fiduciary and the recommendation made has to be in the best interest of the participant and not the pocketbook of the employer and or adviser.

Why is this so important? Because millions of participant dollars have been rolled into IRAs that have high fees and expenses associated with them. Participants don’t understand the fees, they don’t understand their investments, and often they lack the proper tools to help them make educated decisions. It bears asking the question, should an adviser make a recommendation to roll or transfer account balances to another plan or IRA, when a participant might be better off staying put? The answer could be yes, and employers may find that terminated employees are staying with them because it is a better financial decision.

How do advisers and employers feel about this? Many advisers are frustrated they will have to comply with the best interest contract exemption. It has several requirements, but it means advisers may need to modify or fine tune their current practices to satisfy the rules. Plan sponsors will have to take another look at their advisers and service providers and understand their fiduciary responsibilities. It’s important they confirm that any rollover assistance is administrative in nature and cannot be perceived as advice from non-fiduciary human resources (HR) staff or service providers. However, plan sponsors can now feel good knowing that the general education they offer to participants about plans and investments is acceptable; it does not mean they are providing investment advice or taking on additional fiduciary responsibility.

With all of this said, could the election results change, delay, or repeal the final fiduciary rules? There is speculation this could happen, which makes the financial services industry happy, but for those pushing for reform, very unhappy.

Administering a 401(k) plan termination

There are certain circumstances that can result in a company terminating its 401(k) plan. Milliman’s Ginny Boggs was quoted in a recent Employee Benefit Adviser article discussing the steps involved with a 401(k) plan termination during the American Society of Pension Professionals & Actuaries (ASPPA) annual conference.

Here’s an excerpt from the article:

Until all assets within the plan are finally distributed the plan still remains in effect and cannot be terminated. During this time, Boggs recommends that advisers work with their clients on:

• Testing
• Distribution requests due to many participants wanting their money immediately and to assist with loan repayments
• Governmental forms and filings
• QDROs

Advisers should remind their clients to use up their forfeiture accounts through expenses, allocating to participants or offsetting final contributions

“You can’t have any unallocated assets going into plan termination and you do have to liquidate,” Boggs said. “You want to make sure the plan termination amendment encompasses everything that the plan document doesn’t already provide.”

Nondiscrimination (Part 4): Time for employers to brush up again on nondiscrimination testing?

Many employers have modified their traditional defined benefit (DB) plans by moving to a “soft frozen” plan (or “closed” plan), where the existing participants continue to accrue benefits, but plan participation is closed to new employees. One common design is to maintain the DB plan for a closed group of employees and to establish or enhance a defined contribution (DC) plan for newer (and future) employees. In Part 2 of our earlier series on nondiscrimination testing, we explored the issues faced by a typical plan sponsor electing this route.

As an example of how circumstances change, many years ago Employer F permitted a “grandfathered” group of longer-service employees to continue accruals under its DB plan, and established a profit-sharing plan for all of the remaining employees. New employees joined the profit-sharing plan when eligible. At the time of the program change, the plans met the three main nondiscrimination tests, which are:

• Participation (only applicable to the DB plan)
• Coverage
• Benefits

A number of years have passed since the change, and the DB plan population has now declined and become more heavily weighted toward highly compensated employees (HCEs). The DB plan is no longer passing the 70% ratio percentage test, and is currently meeting the coverage requirement via the more complex average benefits test. Employer F is concerned that the average benefits test is in danger of failing in the near future, and is now looking for alternative ways to ensure that the DB plan continues to meet the coverage requirements.

In many circumstances, the nondiscrimination rules will currently allow plan sponsors to consider two or more plans to be a single combined (or “aggregated”) plan for purposes of meeting the coverage and benefit requirements (but not the participation requirements). If this is done for a DB plan and a DC plan, the combined plan is known as a “DB/DC” plan.

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