On December 20th, President Trump signed the Setting Every Community Up for Retirement Enhancement (SECURE) Act into law. Enactment of the SECURE Act is the most significant retirement policy legislation since the Pension Protection Act in 2006. The goal of the legislation is to enhance the retirement income security of Americans by making retirement plans more attractive to employees and employers who sponsor them.
In total, the legislation includes nearly 30 provisions with different effective dates – some are effective on the date of enactment, while others are effective January 1, 2020 and thereafter. The legislation also provides for a remedial plan amendment period until the 2022 plan year (or later if the Treasury Department provides) for plan document purposes.
Here is a select summary of what we consider some of the most pertinent provisions for our clients:
Safe Harbor 401(k) Plans
This provision takes effect for plan years beginning after December 31, 2019.
Plan sponsors can provide a specified level of fully vested matching or non-elective contributions in order to avoid nondiscrimination testing under a safe harbor 401(k) plan. In doing so, plan sponsors must also abide by certain other rules including the furnishing of a safe harbor employee notice 30 days before the start of the plan year (the notice informs employees of their rights under the Plan).
Currently, a plan that wants to add this safe harbor provision, must generally be amended prior to the applicable plan year. However, in the case of a nonelective 401(k) safe harbor plan, the plan may be amended after the first day of the plan year to provide for the 3% safe harbor nonelective contribution as long as the plan is amended no later than 30 days before the end of the plan year.
Under the new regulations, the above safe harbor employee notice requirement would be eliminated for plans seeking to satisfy the safe harbor by using nonelective contributions. Also, retirement plans could be now be amended to become a nonelective safe harbor plan for a plan year (1) any time before the 30th day before the close of the plan year or (2) on or after the 30th day before the end of the year, as long as the amendment is made by the close of the following plan year, and the nonelective contribution is at least 4%.
[What it means: This is very good news for employers who might want to amend their plan to become a non-elective safe harbor plan but are unsure of their cash flow and their plan’s non-discrimination results until after the close of the year.]
Safe Harbor Cap on Automatic Enrollment and Automatic Escalation
This provision takes effect for plan years beginning after December 31, 2019.
Plans that use a qualified automatic contribution arrangement (QACA) to satisfy the safe harbor rules for non-discrimination, may allow for auto escalation up to 15% of pay after the first plan year in which the employee is automatically enrolled. The former limit was 10%. In the first plan year, the cap on the default deferral rate remains unchanged – it may not exceed 10%.
[What it means: Those employees not inclined to actively enroll will have more money at retirement when a plan’s auto escalation rate is increased beyond 10%. This benefit comes without the added cost of employer contributions since deferrals beyond 6% are not subject to matching contribution.]
Long Term Part-Time Workers
This provision would apply to plan years beginning after December 31, 2020, except that, for purposes of the new eligibility criteria cited below, 12-month periods beginning before January 1, 2021 will not be taken into account.
Currently a retirement plan may require that an employee earn a year of service (and/or attain age 21) before becoming eligible for a qualified plan (a plan may require two years of service, but only for purposes of employer contributions and only if those contributions are immediately vested). A plan may not impose any service condition that is longer than these rules.
A year of service is generally defined as a 12-month period in which a participant has completed 1,000 hours. This definition is applied for purposes of both eligibility and vesting.
Except in the case of union plans, the Act would require employers maintaining a 401(k) plan to have a dual eligibility requirement under which an employee must complete either: (a) one year of service (with the 1,000-hour rule); or (b) three consecutive years of service where the employee completes at least 500 hours of service each year.
In the case of employees who are eligible solely by reason of the latter new rule, each 12-month period for which the employee has at least 500 hours of service would be treated as a year of service for vesting purposes.
[What it means: The new rule generally benefits part-time employees who may not otherwise become eligible for retirement plans. On its surface it appears to be costly and onerous for employers.
However, an employer would not be required to make matching or nonelective contributions on behalf of such employees (for example by maintaining a 1,000 hour condition for receiving an annual allocation) and could continue to impose a requirement that the employees attain age 21 before participating in the plan. In essence, part-time employees might end up with a balance of only their own 401(k) deferrals. In addition, such part-time employees may be excluded from testing under the non-discrimination and coverage rules, and from the application of the top-heavy testing and minimum benefit rules.]
Lifetime Income Disclosures
Twelve-months after the DOL provides guidance.
Defined contribution plan benefit statements would be required to include a lifetime income disclosure. For benefit statements that are required to be provided at least quarterly (plans that allow for participant direction), the lifetime income disclosure must be included in one benefit statement during any one 12-month period.
The lifetime income disclosure would illustrate the amount of monthly payments a participant would receive if the participant’s balance is converted to provide lifetime monthly income through both a qualified joint and survivor annuity and a single life annuity.
Recordkeepers will need to comply with the assumptions, formulas and rules promulgated by DOL in calculating lifetime income illustrations.
[What it means: Lifetime income disclosures are critical for participants to understand how their current savings equate to monthly cash flow in retirement and could motivate them to save more when they’re falling short of what is needed. Although many recordkeepers currently provide lifetime income disclosures on participant websites and/or benefit statements, the new regulation aims to achieve across the board uniformity in how lifetime income disclosures are displayed. In addition, plan fiduciaries would have no ERISA liability for lifetime income disclosures that meet the DOL rules and assumptions.]
Minimum Required Contributions: Increase in age when distributions must begin
This provision takes effect for plan years beginning after December 31, 2019 with respect to individuals who attain age 70 ½ after such date.
Under the former rules, required minimum distributions (RMDs) must be paid no later than April 1st following the calendar year in which the individual reaches age 70 ½, or if later, the year in which he or she retires. If the retirement plan account owner is a 5% owner of the business sponsoring the retirement plan, the RMDs must begin once the account holder is age 70 ½ regardless of whether he or she is retired.
The new rule increases the age for triggering the RMD to 72. Note that individuals who obtained age 70½ in 2019 must still take their first RMD by April 1, 2020.
[What it means: This mandate allows all affected individuals to leave more money tax deferred in their retirement plan accounts and is estimated to reduce government revenue by almost $9 billion over ten years as a result.]
Fiduciary Safe Harbor for Selection of Lifetime Income Provider
This provision takes effect on the date of enactment.
The provision would provide a safe harbor for plan fiduciaries with respect to the selection of an insurer provider that would offer a guaranteed retirement income contract to plan participants upon distribution from a defined contribution plan.
The safe harbor would apply if the plan fiduciary engages in a ‘thorough and analytical’ search for the purpose of identifying an insurer from which to purchase contracts, and concludes that at the time of selection (i) the insurer is financially capable of satisfying its obligations under the guaranteed income contract and (ii) the relative cost of the contract is reasonable.
For purposes of (i) above, a fiduciary can rely on written representation from the insurer that the insurer (a) is licensed under the management of its domiciliary state, (b) files financial statements, and (c) undergoes a financial examination at least every 5 years. In addition, the insurer must represent that it maintains adequate reserves which satisfy all the state laws in which the insurer does business.
For purposes of (ii) above, the regulation specifies that the fiduciary is not required to select the lowest-cost contract but may also consider the value of a contract including the features and benefits of the contract and attributes of the insurer (for example the insurer’s financial strength).
The safe harbor continues to apply after the time of selection if the fiduciary periodically reviews the continuing appropriateness of its selection of the insurer. In general, fiduciaries would be deemed to have conducted a periodic review if the fiduciary obtains the written representations (noted above) from the insurer on an annual basis.
It is important to note that the fiduciary is not required to review the appropriateness of a selection after the distribution of any benefit to a participant pursuant to the selected guaranteed contract (and is not liable for any losses resulting from an insurer’s inability to subsequently make payments under the terms of the contract).
[What it means: This is one of the most complex and thought-provoking provisions of the SECURE ACT. Initially, it might prove difficult to rely on written representations from an insurer that is regulated by both the laws of the state in which the insurer is domiciled and of the state(s) in which it does business. However, insurance companies who have a vested interest will find a solution. In the meantime, we feel that plan sponsors should tread lightly before availing guaranteed income providers to their defined contribution plans. Allowing time for developing litigation and for the industry to evolve in general would be a good practice.]