Automatic enrollment in 401k and 403b Plans has been promoted in various ways by Congress, and the IRS and U.S. Department of Labor, since the mid-1990s. For example, to encourage eligible “small” employers to auto-enroll eligible employees, the law change known as the “original” SECURE legislation in December 2019 included a Federal Tax Credit of $500 per year for three years for starting a Plan with auto-enrollment or adding auto-enrollment to an existing Plan (for more details, please see https://acsi-ny.com/federal-tax-credit-available-for-a-small-business-that-adds-or-maybe-added-401k-plan-auto-enrollment/ and https://acsi-ny.com/supercharged-tax-incentives-for-a-small-employer-that-starts-a-retirement-plan/).
However, there was no Federal mandate that 401k and 403b Plans must have auto-enrollment – until now. The Retirement Plan law changes in December 2022 known as SECURE 2.0 include a somewhat complicated mandatory auto-enrollment requirement, with certain exceptions.
What 401k and 403b Plans are covered by mandatory auto-enrollment?
- Plans of private employers, including tax-exempt (non-profit) entities (but not SIMPLE 401k Plans), “established” after December 28, 2022, except as provided below. In other words, Plans “established” before December 29, 2022 are not covered. Note that we need clarification from the IRS regarding what constitutes a Plan being “established”.
- However, if the employer is new, mandatory auto-enrollment does not apply until the business has been “in existence” for three (3) years. Guidance regarding what is meant by “in existence” will be necessary, for this new business exception.
- Also, the employer is not required to have auto-enrollment until one (1) year after the first tax year in which the employer “normally” employed more than 10 employees. Note that we need guidance about the word “normally”, for this small business exception.
When is auto-enrollment mandatory?
For a covered Plan, auto-enrollment will be required by the Plan Year that begins in 2025. Of course, for Plans that meet the new business or small business exception in 2025, the effective date will be delayed until the exception no longer is applicable.
What are the mandatory conditions?
- Automatic enrollment must begin with an employee payroll deduction at 3% of eligible pay, or a larger percentage up to 10% at the employer’s discretion. The employee can opt-out, or choose a different percentage, before the auto-enrollment occurs. We need clarification whether this only applies to employees who are newly eligible after the 2025 effective date, or any eligible employee who has not made an election as of the effective date.
- The employee’s contribution rate must automatically increase by 1% per year to a maximum of 10% of pay, or at the discretion of the employer, up to 15% (i.e., “auto-escalation”).
- Employees who are automatically enrolled may retroactively opt-out within the first 90 days, and receive a refund from the Plan (including earnings).
- Automatic contributions must be invested in a “qualified default investment alternative” (QDIA).
- IRS-required notices about auto-enrollment need to be given to employees at various times.
If your Plan will be subject to the mandate, you should work with your payroll provider to determine how you will implement automatic enrollment and auto-escalation. Also, it will be necessary to have the automatic enrollment terms and conditions included in your Plan Documents.
ACSI is available to help clients learn more about how the automatic enrollment changes of SECURE 2.0 may impact your 401k or 403 Plan beginning in 2025.
