Unfortunately, there are a good number of people who do not participate in their company 401k plans, despite matching dollars that could help them tremendously in preparing for retirement. As a small business owner, you want to encourage your employees to take advantage of any benefit plans available.
Do you want a retirement plan that provides a high level of participation and makes it easy for you to withhold employee contributions and select the investments for those contributions? Then you may want to consider an automatic enrollment 401(k) plan.
Approximately one-third of eligible workers do not participate in their employer’s 401(k) plan. Studies suggest that automatic enrollment plans could reduce this rate to less than 10 percent, significantly increasing retirement savings. Whether you already have a 401(k) plan or are considering starting one, automatic enrollment 401(k) plans offer many advantages.
An automatic enrollment 401(k) plan:
- Helps attract and keep talented employees.
- Increases plan participation among both rank-and-file employees and owner/managers.
- Allows for salary deferrals into certain plan investments if employees do not select their own investments.
- Simplifies selection of investments appropriate for long-term retirement savings for participants.
- Helps employees to begin saving for their future.
- Offers significant tax advantages (including deduction of employer contributions and deferred taxation on contributions and earnings until distribution).
- Permits distributions to employees who opt out of participation in the plan within the first 90 days.
This tutorial provides an overview of automatic enrollment 401(k) plans.
Establishing An Automatic Enrollment 401(k) Plan
When you establish an automatic enrollment 401(k) plan you must take certain basic actions. One of your first decisions will be whether to set up the plan yourself or to consult a professional or financial institution – such as a bank, mutual fund provider, or insurance company – for help with establishing and maintaining the plan. In addition, there are four initial steps for setting up a tax-advantaged automatic enrollment 401(k) plan:
- Adopt a written plan document
- Arrange a trust fund for the plan’s assets
- Develop a recordkeeping system
- Provide plan information to employees eligible to participate
Adopt a written plan document – Plans begin with a written document that serves as the foundation for day-to-day plan operations. If you have hired someone to help with your plan, that person likely will provide it. If not, consider obtaining assistance from a financial institution or retirement plan professional. In either case, you will be bound by the terms of the plan document. Before adopting a plan document, you will need to decide on the type of automatic enrollment 401(k) plan that is best for you.
A basic automatic enrollment 401(k) plan must state that employees will be automatically enrolled in the plan unless they elect otherwise and must specify the percentage of an employee’s wages that will be automatically deducted from each paycheck for contribution to the plan. The document must also explain that employees have the right to elect not to have salary deferrals withheld or to elect a different percentage to be withheld.
An eligible automatic contribution arrangement (EACA) is similar to the basic automatic enrollment plan but has specific notice requirements. An EACA can allow automatically enrolled participants to withdraw their contributions within 30 to 90 days of the first contribution.
A qualified automatic contribution arrangement (QACA) is a type of automatic enrollment 401(k) plan that automatically passes certain kinds of annual IRS testing. The plan must include certain required features, such as automatic employee contributions (including annual increases), employer contributions, a special vesting schedule, and specific notice requirements.
While this booklet focuses on automatic enrollment 401(k) plans, the automatic enrollment feature can be used in 403(b) and 457(b) plans.
Arrange a trust fund for the plan’s assets – A plan’s assets must be held in trust to assure that they are used solely to benefit the participants and their beneficiaries. The trust must have at least one trustee to handle contributions, plan investments, and distributions. Since the financial integrity of the plan depends on the trustee, selecting a trustee is one of the most important decisions you will make in establishing an automatic enrollment 401(k) plan.
Develop a recordkeeping system – An accurate recordkeeping system will track and properly attribute contributions, earnings and losses, plan investments, expenses, and benefit distributions. It will also provide a record of employees who elect not to participate as well as participant contribution and investment decisions. If a contract administrator or financial institution assists in managing the plan, that entity typically will help keep the required records. In addition, a recordkeeping system will help you, your plan administrator, or financial provider prepare the plan’s annual return/report that must be filed with the Federal government.
Provide plan information to employees eligible to participate – You must notify employees who are eligible to participate in the plan about certain benefits, rights, and features under the plan. Employees must receive an initial notice prior to automatic enrollment in the plan and receive a similar notice each year.
In addition, a summary plan description (SPD) must be provided to all participants. The SPD is a more comprehensive document that informs participants and beneficiaries about the plan and how it operates. The SPD typically is created with the plan document. (For more information on the required contents of the SPD, see Disclosing Plan Information to Participants.) You also may want to provide your employees with information that discusses the advantages of your automatic enrollment 401(k) plan. The benefits to employees – such as pre-tax contributions to a 401(k) plan, employer contributions and compounded tax-deferred earnings – help highlight the advantages of participating in the plan.
