Studies show that auto-enrollment increases plan participation, and soon it will not be optional for some plans. Among the many changes enacted in SECURE 2.0 is a requirement that new 401(k) and 403(b) plans have auto-enrollment and auto-escalation beginning in 2025. As with most of the SECURE 2.0 changes, there were many questions about how the rules would work in practice. Part of the “grab bag” guidance issued in recent Notice 2024-02 fills in some of the blanks, but leaves important questions unanswered.
Mandatory Provisions.
Beginning in 2025, new plans as defined in SECURE 2.0 will be required to have auto-enrollment and auto-escalation provisions. The initial automatic deferral must be at least 3% and no more than 10% of compensation. The annual increase required is 1% each year up to a cap of 15%. (prior to 2025, a lower cap of 10% applies to plans other than certain safe harbor 401(k) plans. See Notice 2020-86.) The plan must have an eligible automatic contribution arrangement (EACA), which means that automatically enrolled participants must have a right to withdraw their contributions plus earnings 30- 90 days after being auto-enrolled and reverse the auto-enrollment. Automatic contributions must be invested in a qualified default investment alternative (QDIA). EACAs are also subject to uniformity and notice requirements.
New Plan Defined. These requirements will apply to 401(k) and 403(b) plans adopted in 2023 and 2024, since SECURE 2.0 applies the requirements to plans adopted on or after the date SECURE 2.0 became law, which was December 29, 2022. Plans in existence on that date are grandfathered and not required to apply the new rules. For 401(k) plans only, a plan is deemed adopted when the terms governing the cash or deferred elections are adopted even if the effective date is later. If plan terms were set on November 30, 2022, for example, but the plan had a January 1 effective date, the plan would be treated as grandfathered. If a plan without a CODA provision was converted to a 401(k) plan on or after December 29,2022, that plan would not be grandfathered no matter how long the profit sharing plan was in existence. A 403(b) plan is treated as grandfathered if it was established before December 29, 2022 even if it didn’t have a CODA.
What Are the Exceptions? Exceptions apply to companies in business for fewer than 3 years and businesses with fewer than 10 employees. SIMPLE plans described in Code Section 401(k)(11) and governmental plans are not subject to the new requirements. However, they will apply to deferral-only starter 401(k) and 403(b) plans created by SECURE 2.0.
Mergers, Spinoffs and MEPs. It was unclear how the new requirements apply to plans involved in mergers and spinoffs. Employers also asked if they could “buy in” to grandfathered status if they became a new adopting employer in a PEP or other multiple employer plan that was grandfathered.
Notice 2024-02 sets out some basic rules. If part of a grandfathered single employer plan is spun off to create a new plan, the transferee plan is treated as grandfathered. This rule does not apply to multiple employer plans. If two grandfathered plans merge, the surviving plan will be treated as grandfathered. If a new plan and a grandfathered plan are merged, the continuing plan is generally not grandfathered, unless the merger occurs as part of an m&a transaction during the period the m&a transition rule in Code Section 410(b)(6) applies. This provides an option to remain grandfathered if the plan designated as the surviving plan is grandfathered. In addition, each employer in a multiple employer plan is evaluated separately. An employer adopting a grandfathered multiple employer plan after December 29, 2022 is treated as adopting a new plan for purposes of the requirements. However, the status of the other adopting employers who joined the plan pre-enactment is not affected.
Unanswered Business-Related Questions . How long is the relief for a plan merged into a grandfathered plan during the m&a transition period available? Transition period relief is generally available only until the end of the plan year following the year in which the sale of the business occurs, but Notice 2024-02 does not state that the relief is temporary. In applying the requirements for the exceptions, presumably controlled group rules will apply. However, who is a predecessor employer or successor employer for purposes of determining whether the business is 3 years old? What if a new company receives assets from a pre-existing business but there is no plan spinoff? Should a newly adopted buyer plan be treated as new or excepted, assuming the seller of the assets satisfied the three year rule?
What about Excluded Classes and Universal Availability? Can employees still be excluded from eligibility by classification if the plan is a 401(k) plan? Nothing in this section of SECURE 2.0 suggests otherwise so long as minimum coverage testing is passed. 403(b) plans are instead subject to a universal availability requirement and may exclude employees only if they are listed in the statute. The universal availability requirement is satisfied if all non-excludible eligible employees are permitted to make deferrals. Permissible exclusions are non-resident aliens with no U.S. income, certain students, employees working less than 20 hours per week, and employees permitted to defer under other similar plans of the employer. The long-term part-time employee rules will be effective for 403(b) plans in 2025 and do not permit excluding employees under the 20 hour per week rule. It appears that new 403(b) plans will be required to apply auto-enrollment and auto-escalation to almost everybody.
How Do We Count Employees? Presumably whether there are “normally”more than 10 employees will be determined on a controlled group basis. Will any exclusions be allowed even though none are set out in SECURE 2.0? Can employees earning below a minimum amount be excluded? What about temporary employees? Leased employees? This needs clarification.
Further Guidance is Needed. Notice 2024-02 doesn’t purport to be comprehensive guidance, and existing regulations on auto-enrollment permit more flexibility than SECURE 2.0. However, the EACA requirements, including uniformity and employee notices, are in existing Treas. Reg. 1.414(w)-1. Additional guidance should come sooner rather than later to avoid a situation similar to the recent rush to implement the long-term part-time employee rules by January 1. Even though the SECURE 2.0 amendment deadlines have been extended by Notice 2024-02, the compliance deadline remains the same, and operational compliance and communications require planning.