Performing a 401(k) retirement plan self-checkup (authored by RSM US LLP)

Sep 24, 2021

INSIGHT ARTICLE  | 

Authored by RSM US LLP

 

When an employer sponsors a retirement plan for its employees, it must carefully consider, and continually monitor, the plan provisions. Employers need to step back periodically, perform a plan checkup and ask if the plan is accomplishing their goals while maintaining compliance with all regulations. Is the plan working for the employer as plan sponsor, as well as for the participants?

Is your plan healthy?

Evaluation of several areas can help determine the health of the plan:

  • Average participation rate: Are the majority of eligible employees actively engaged in the retirement plan?
  • Average deferral rate: How much of their compensation are eligible employees deferring into the plan for their retirement?
  • Industry averages: How does the plan compare to the industry averages for employee participation and contribution amounts?

If the answers to these questions are less than optimal, a variety of options can help boost participation and savings levels:

Auto-enrollment and auto-escalation: With this option the plan automatically enrolls newly eligible participants at a stated rate for deferring compensation, then automatically escalates that rate at a specific interval—for example, by one percentage point at an anniversary. Participants may also opt out of these features.

Strategic use of technology: Utilizing current technology can help employees enroll, readily access information, communicate with the plan sponsor and stay informed about the plan’s benefits.

Tools for financial literacy and wellness: Providing employees with tools for budgeting, saving for emergencies and education expenses, basic financial planning, etc., can increase interest in the retirement plan as well.

Higher employer match threshold: A plan sponsor can motivate eligible employees to increase their participation and deferral rate by offering a higher employer match contribution. An employer match may also be a tool to boost employee retention and hiring.

Simplified investment options: For employees uncertain about how to invest, there is value in simplicity. Simplified investment options, like target date funds, can help participants feel more comfortable with a retirement plan.

Diversification: Target date funds are also popular because they enable participants to determine the appropriate mix of investment options. An increasing number of contributions and elective deferrals are going into these funds, which can be a great way to diversify plan assets and provide adjustability as participants move closer to retirement.

Enhanced plan design:  Utilizing plan limits to maximize benefits for targeted personnel can be an effective tool for rewarding key staff and attracting talent. Benefits might include advanced profit sharing options and coordination with defined benefit and executive compensation plans.

Highly compensated vs. non-highly compensated employees

The IRS uses compliance tests to make sure a plan does not favor highly compensated employees (HCEs) over non-highly compensated employees (NHCEs).

One example is the coverage test, which looks at how many HCEs are benefiting under the plan compared to NHCEs. Does the plan cover enough of the latter group?

The plan can exclude certain classifications, such as union (collective bargaining) employees and non-U.S. residents, without affecting its coverage test results. However, if the plan excludes other classifications of otherwise-eligible participants, the plan sponsor must show that it still passes the coverage test. The actual deferral percentage test and actual contribution percentage test are additional annual compliance tests that may apply as well.

Among the options that can satisfy the nondiscrimination requirement, while also motivating individuals to participate, is the safe harbor contribution. This contribution can take the form of either a mandatory employer match or a nonelective contribution, in which the employer contributes at least 3% of an employee’s compensation regardless of whether the employee makes contributions.

Is your plan in compliance?

Three regulatory agencies provide oversight of retirement plans: the IRS, the U.S. Department of Labor and the Pension Benefit Guaranty Corporation. Because retirement plans must comply with a long list of rules under these agencies, administrative errors sometimes occur.

Types of errors commonly discovered in retirement plans include:

  • Document format or execution: In this type of error, a plan document does not comply with IRS or DOL requirements—e.g., by failing to execute legislative amendments in a timely manner or by containing errors or omissions—resulting in a plan document failure.
  • Operational: Plan terms are not followed on an operational or administrative level. For example, if a plan document provides for auto-enrollment, but the plan is not set up to auto-enroll eligible employees on a timely basis, an operational failure has occurred. A plan must pass annual tests every year to show it operated in compliance with the terms of the plan document and with IRS and DOL rules.
  • Fiduciary: The plan fails to operate exclusively for the benefit of participants, or the plan sponsor fails to perform duties at the level of a “prudent expert.” A sponsor is a fiduciary to the plan, and must maintain a certain level of compliance with applicable rules.
  • Nonexempt transaction: One or more transactions between the plan and a party-in-interest take place without an applicable exemption.  Again, a retirement plan is required to operate for the exclusive benefit of plan participants.

What happens if a plan is not in compliance?

The IRS may disqualify a plan from tax-exempt status if it fails to comply with the rules. Plan disqualification results in all of the following:

  • The employer loses its tax deduction for its contributions to the plan.
  • Income from the plan’s trust is taxable.
  • Participants must include in taxable income any employer contributions made to the trust for their benefit to the extent they are vested in those contributions.
  • All or a portion of the fully vested account balance of participants is taxable.

The IRS may disqualify the plan retroactively from the plan’s inception or another specified date, or for a specific number of years.

How are plan errors corrected?

In general, correction of a plan error requires repositioning participants and the plan as they would have been had the error not occurred. The IRS Employee Plans Compliance Resolution System (EPCRS) allows plan sponsors to correct plan errors under the Self-Correction Program, the Voluntary Correction Program or the Audit Closing Agreement Program.

Best practices for a healthy plan

Best practices to follow include:

  • Review plan documents and compliance annually.
  • Ensure a sound risk mitigation process.
  • Benchmark periodically.
  • Understand and maintain an appropriate balance of plan service and participant fees.
  • Measure employee participation periodically and take action to increase it as needed.
  • Integrate education about retirement with other financial wellness topics such as debt management and emergency savings.
  • Leverage technology to enhance the user experience of plan participants.
  • Improve diversification through a plan refresh or a re-enrollment initiative.

By adopting these best practices and committing to regular plan checkups, an employer can comply with all regulations while optimizing plan benefits for employees. 

Questions or Want to Talk?

Call us directly at 972.221.2500 (Flower Mound) or 940.591.9300 (Denton),
or complete the form below and we’ll contact you to discuss your specific situation.


This article was written by Eric Carroll, Joe Mattia and originally appeared on 2021-09-17.
2021 RSM US LLP. All rights reserved.
https://rsmus.com/what-we-do/services/assurance/employee-benefit-plan-audit/performing-a-retirement-plan-self-checkup.html

RSM US Alliance provides its members with access to resources of RSM US LLP. RSM US Alliance member firms are separate and independent businesses and legal entities that are responsible for their own acts and omissions, and each are separate and independent from RSM US LLP. RSM US LLP is the U.S. member firm of RSM International, a global network of independent audit, tax, and consulting firms. Members of RSM US Alliance have access to RSM International resources through RSM US LLP but are not member firms of RSM International. Visit rsmus.com/aboutus for more information regarding RSM US LLP and RSM International. The RSM(tm) brandmark is used under license by RSM US LLP. RSM US Alliance products and services are proprietary to RSM US LLP.

 

RSM

KHA Accountants, PLLC is a proud member of RSM US Alliance, a premier affiliation of independent accounting and consulting firms in the United States. RSM US Alliance provides our firm with access to resources of RSM US LLP, the leading provider of audit, tax and consulting services focused on the middle market. RSM US LLP is a licensed CPA firm and the U.S. member of RSM International, a global network of independent audit, tax and consulting firms with more than 43,000 people in over 120 countries.

Our membership in RSM US Alliance has elevated our capabilities in the marketplace, helping to differentiate our firm from the competition while allowing us to maintain our independence and entrepreneurial culture. We have access to a valuable peer network of like-sized firms as well as a broad range of tools, expertise, and technical resources.

For more information on how KHA Accountants can assist you, please call 972.221.2500.

Part 20: Individual Processes and Procedures

By: Brian Ragan, Senior Strategic Management Consulting Services The following is part 20 of a multi-part series on The KHA Way, KHA Management Consulting’s Integrated Service Offering. This blog series includes the benefits of using KHA Management Consulting Services...

Part 19: Individual KPIs

By: Brian Ragan, Senior Strategic Management Consulting Services The following is part 19 of a multi-part series on The KHA Way, KHA Management Consulting’s Integrated Service Offering. This blog series includes the benefits of using KHA Management Consulting Services...