A Double-Edged Sword: Automatic Enrollment Features
Amy Sac, CPA | July 09, 2018
Have you recently thought about adding auto-enrollment to your company’s 401(k) plan? If so, there are a few things to be aware of before deciding. First, what does auto-enrollment mean to the U.S. Department of Labor (DOL)? According to the DOL, automatic enrollment permits you to act on your employees’ behalf by helping them build their retirement savings with pre-tax employee contributions, and matching contributions from you, the employer. Automatic enrollment can take different forms:
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 a type of automatic contribution arrangement that must uniformly apply the plan's default percentage to all employees after providing them with a required notice. It may allow employees to withdraw automatic enrollment contributions, with earnings, by making a withdrawal election as required by the terms of the plan, no earlier than 30 days prior to or later than 90 days after the employee's first automatic enrollment contribution was withheld from the employee's wages. Employees are 100 percent vested in their automatic enrollment contributions
A qualified automatic contribution arrangement (QACA) is an automatic contribution arrangement with special "safe harbor" provisions that exempt a 401(k) plan from annual actual deferral percentage (ADP) and actual contribution percentage (ACP) nondiscrimination testing requirements. A QACA must specify a schedule of uniform minimum default percentages starting at three percent and gradually increasing with each year that an employee participates. Under a QACA, an employer must make a minimum of either:
- A matching contribution of 100 percent of an employee's contribution up to one percent of compensation, and a 50 percent matching contribution for the employee's contributions above one percent of compensation and up to six percent of compensation; or
- A non-elective contribution of three percent of compensation to all participants, including those who choose not to contribute any amount to the plan.
- Your employees will be able to save "automatically"
When employees are enrolled automatically, participation rate will naturally increase. This can create a couple positives in itself:
- With higher participation rates and increasing contributions, the employer may be able to negotiate a reduction on plan administration fees over time, especially if they can move into higher total investment tiers quickly.
- As a business owner, do you contribute the maximum plus catchup ($24,000) only to then receive a refund of $8,000? Well higher participation rates can minimize, and even eradicate, excess contributions and allow you to contribute more into your 401(k) account
- A QACA plan can be an impressive tool to retain good talent, because it shows that the company is committed to investing in their employees' future.
- For companies with a steady rate of new hires, an auto enrollment feature can mitigate enrollment non-compliance. There have been many times when we discover that the HR department has not enrolled new participants on a timely basis. By automating the enrollment, HR doesn't have to worry about manually enrolling every new participant during the enrollment period. This can not only save time, but penalties as well.
Some argue that an opt-out program increases employee complacency about the plan, making it less likely to be changed in the future. This may mean
- The employee may not change defaults, even if he or she would have preferred to contribute more or invest in different plan options.
- Employees may not take other proactive steps to ensure they have enough saved for retirement. Though this may be true without automatic 401(k) enrollment as well.
- Some employees will opt-out if they don't understand, or think the savings rate is too high, rather than just changing the amount.
- The default investment option may not account for any given employee's risk tolerance. This can create potential lawsuits from employees claiming that the plan sponsor is neglecting their fiduciary responsibility of providing adequate investments.
Is auto-enrollment right for your company?
This may not be a quick and easy question to answer, however, auto-enrollment is almost always a good idea for companies. Before adding an auto-enrollment feature, take the time to revisit the payroll processes and controls set in place to determine if any changes need to be made to ensure that the new feature is adequately implemented. At PriceKubecka, we get the chance to see multiple plans, so feel free to contact us today to see how auto-enrollment in a 401(k) might affect your organization.