SECURE 2.0 – How it Will Affect Your Retirement Plan
Metro Bulletin 23-01
SECURE 2.0 – How it will affect your Retirement Plan
February 24, 2023
On 12/29/22, President Biden signed the SECURE 2.0 Act. This was included in the 2022 Budget Bill, to fund the government through 9/30/23. There are significant provisions that will affect every retirement plan. The main purposes of SECURE 2.0 are to (a) expand retirement coverage, (b) encourage more retirement savings, and (c) ease some administrative concerns. While there are 92 provisions, we’ve chosen some that may have the greatest impact upon your plan.
Be aware that most of these provisions will take effect in 2024 (1/1/24 for a calendar year plan.) However, some provisions have different effective dates, and, if so, we have specified them below.
Also, some of the provisions are mandatory, while others are optional. We have specified the optional ones. We hope that this Bulletin is helpful. Let us know if you have any questions.
1. Two big changes to the 401(k) Catch-Up limit
Effective Date: The mandate that all catch-ups be done after-tax (“Roth”) is effective 1/1/24, while the higher limits apply as of 1/1/25.
Background: The highest amount that employees can contribute to a 401(k) Plan in 2023 is $22,500. However, if they are age 50 or older, they can have an additional salary deferral of $7,500. This is called a “catch-up contribution”.
SECURE 2.0 change: The catch-up limit is increased to $10,000, but only for those employees between ages 60 and 63. This higher limit will then be compared to 150% of the regular catch-up limit for 2024, and an employee can get the greater of these two limits. (tricky!). Then, at age 64 and later, this extra “bubble” disappears, and the normal catch-up limit returns. Note that the 150% amount (150% of $ 7,500 = $ 11,250) will be greater than the $ 10,000 figure.
Further, all catch-up provisions for highly-paid plan participants (compensation over $ 145K in the prior year) must be done as Roth, after-tax contributions. This gets tax revenue in the door more quickly (due to the after-tax nature), and this added revenue helped to pay for the rest of the Bill.
One nuance – While these “mandatory Roth catch-up” provisions apply to the highly-paid group, as noted just above, this is not quite the same as the “HCE group”, since (a) it doesn’t apply to those who make less than $ 145,000 who are owners, and (b) it doesn’t automatically apply to spouses of owners.
As you can imagine, if these catch-up contributions must be done as Roth, then the 401(k) Plan itself must allow for Roth contributions (not all do), in order to have any catch-up at all. We will need a plan amendment to accomplish this. It would seem counterproductive to not allow for Roth at this point.
One other issue to consider is for 401(k) Plans that are invested through either (i) individual brokerage accounts, or (ii) a pooled, commingled fund. It is important that we be able to track Roth funds separately from pre-tax funds. So, for example, it will be helpful to set up a separate brokerage account for this purpose. Similarly, some type of workaround will be needed for pooled plans.
2. Changes to Long-Term Part-Time employees (“LTPT”)
Effective Date – 1/1/25
Background: An employer may require that an employee work 1,000 hours to join a plan. This worked well in the old days, but now many employees have multiple jobs/gigs, or no longer work full-time for a variety of reasons. As a result, more people are being kept out of the system due to the 1,000-hour rule. Congress wanted to cover them and addressed this concern in the first SECURE Act (“1.0”), by allowing these employees to join the plan after they worked 500 or more hours for 3 consecutive years. However, they only needed to participate in the “employee salary deferral” portion of the 401(k) plan, and did not need to get any Employer contributions. This was going to have become effective as of 1/1/24, according to SECURE 1.0.
SECURE 2.0 Change: The 3-year requirement has been reduced to 2 years. Note that “Eligibility Service” before 1/1/23 is ignored for this purpose; thus, the soonest that any LTPT employee can enter this way is 1/1/25. Note, too, that there are different rules for “Vesting Service”, but these rules would only apply to LTPT employees if Employer contributions are involved. This rule has also now been extended to 403(b) Plans, as well.
Comment: It is imperative that Employers start to accumulate this “hours data” now, since we’re going to need it pretty soon. Again, there is no requirement that Employers contribute to these LTPT people; just let them defer their own funds. (But you may contribute for them, of course.)
3. Automatic Enrollment
Effective Date: 1/1/25
Background: Currently, employees do not join the 401(k) plan unless they “opt in”. Congress did create an “auto-enroll” option a few years ago, where the plan could be set up to automatically bring them in (unless they opted out). Automatic enrollment has been proven to increase participation. This provision was optional, however, and many plans chose to not adopt it. As explained above, one of Congress’ goals was to increase retirement plan “coverage”, so having this as an optional provision wasn’t a strong enough idea.
SECURE 2.0 Change: The auto-enroll provision will now be mandatory for all new 401(k) plans. Existing Plans need not include it. There are a few exceptions, however, as small firms (10 or fewer employees) and new firms (3 years or less) need not adopt it. There are also exceptions for certain other plans.
Note, too, that there are several variations of auto-enroll. A plan will need to initially enroll employees to have them contribute at least 3% of their own pay (up to 10% for this initial contribution). This will increase by 1% per year, until an employee has reached a level of 10% of pay (up to 15%, based on what provision the Employer selects.)
There remains a 90-day window where the employee (who is already enrolled in the plan) can opt out and get their funds returned.
Beware! This is probably the provision that causes the most errors in 401(k) plan administration, since there are (i) Notice requirements (to tell the employee that they are about to be auto-enrolled), and (ii) each contribution level will need to be ratcheted up every year (by 1%) in a timely way. If these functions aren’t done perfectly, you will have a compliance problem. Further, missed contributions for employees who are not timely enrolled (both the Employee and Employer portions) will typically be made up by the Employer. Be careful here.
4. Employer Contributions can now be After-Tax
Effective Date: Immediate
Optional Provision.
Background: Until now, all Employer contributions have been done on a pre-tax basis. The employees pay the tax when they receive the funds.
SECURE 2.0 Change: If the Employer chooses to adopt this provision, the employee can then elect whether to have their Employer contributions made on an after-tax (“Roth”) basis. This tax option will only apply to contributions that are fully vested at the time that they are made. (This only makes sense as the employee will be paying taxes on the contribution right away).
Comment: An Employer who is considering whether to adopt this provision should check their payroll and recordkeeping systems to ensure that they are flexible enough to accommodate this feature. This may take some time.
5. Match Can be made on Student Loan repayments
Optional Provision
Background: While an Employer may offer a match in their 401(k) plan, in reality many younger employees are paying off student loans when they start their career. They can’t afford to participate in the 401(k) plan. Several large Employers had already desired to offer a matching contribution with respect to these loan repayments, and had obtained “private letter rulings” from the IRS that allowed them to do so. But these rulings only applied to those Employers who sought them.
SECURE 2.0 Change: Again, Congress had a desire to expand 401(k) coverage, so the new Act allows Employers to offer the match (if the plan provides one) on these repayments, as if they had gone into the 401(k) plan.
6. Force-Out limit increased
Optional Provision
Background: One hassle of administering a 401(k) plan is keeping track of terminated employees after they leave. Currently, a terminated employee can be forced out if their balance is less than $ 5,000. This is done by rolling the funds to an IRA for that person. If the account balance is less than $ 1,000, however, a check will be sent, instead of the IRA rollover. (Fun fact – the original 1974 version of ERISA had a limit of $ 1,750). While this is optional, we would expect that most plans would want to adopt it.
SECURE 2.0 Change: The $ 5,000 limit is increased to $ 7,000.
7. Changes to the Required Minimum Distribution (“RMD”) rules
Effective Dates: 1/1/23 and 1/1/33 (yes, that is correct!)
Background: Remember the old age 70 ½ rule? The first Secure Act changed that age to 72. However, Congress wanted to provide even more relief in this area. This helps retirees by leaving more money in the retirement system.
SECURE 2.0 Change and Effective Dates: The age has been increased. As of 1/1/23, the new required beginning age is 73. This increases to age 75 as of 1/1/33. Remember, the RMD provision does not apply to non-owner employees who continue to work beyond these ages. They need not get an RMD, so there is no change on that.
Further, the excise tax on missed RMD’s has been drastically reduced, from 50% of the missed payout to either 25% or 10%. The lower rate applies if you correct the problem within a two-year window.
While the 50% current tax rate has always applied until now, many participants have been able to avoid it by filing a Form with the IRS and asking for relief. By making the tax rate more reasonable, it would appear that this back-door solution may no longer be available.
Comment: If they really want to provide meaningful relief, Congress will reconsider a provision first proposed in 2017 – creating a minimum level of account balance where we aren’t going to worry about an RMD, perhaps in the $ 100 K range. This would eliminate a nuisance for so many people, and would not cost that much, since the amounts are small. This will apparently be considered in SECURE 3.0 and we will keep track of this for you.
8. Tax Credits for new 401(k) plans
Effective Date – 1/1/23
As an encouragement to set up plans, the Act includes a tax credit of up to $5,000 to pay for the expense of creating a new plan. This applies to Employers with 50 or fewer employees. Note that a pro-rata credit is also available to Employers with between 50 and 100 employees.
Further, these Employers can also get a tax credit of up to $1,000 per year per employee to defray the cost of an Employer contribution. This credit only applies to certain employees (comp < $ 100K/yr.) , and is phased out over 5 years. This is a generous provision, although it doesn’t extend to Defined Benefit or Cash Balance plans.
9. Self-Certification of Hardship Distributions
Effective Date: Immediate
One of the problems in dealing with a hardship distribution is the “Certification” that the reason for the hardship actually falls within the 7 allowable reasons that an employee can withdraw these funds while still employed. It puts the Employer in a potentially uncomfortable situation, as a financially stressed-out employee may not want to hear that their reason or documentation isn’t good enough.
Secure 2.0 now allows the employee to “self-certify” that their hardship is valid. This will make things easier. Note, however, that there will still be problems if the employee isn’t truthful, or if the Employer is aware that the rules aren’t being followed.
10. Quick Updates on some other Provisions
This legislation is big and detailed. This quick summary is not intended to be comprehensive, as there are other resources available if you want that.
Here are some of the other provisions included in SECURE 2.0. Let us know if you’d like to learn more or discuss them:
A. Access to 401(k) funds while still employed – Congress originally made it difficult to access a 401(k) account while still employed. It was supposed to be a “retirement plan”, and not a “savings account”. The two main avenues to access these funds today are via (i) loans or (ii) hardship distributions. The new Act will now expand these options, to cover distributions for “Disaster recovery”, “Terminally ill participants”, “Emergency personal situations”, “Victims of domestic abuse”, and “Premiums for long-term care”. I have put these categories in quotes to remind you that they are all terms that are defined in the Act, with various effective dates. The main concept is that the 10% early distribution excise tax is waived, and in some cases there is no mandatory tax withholding.
B. Lost and Found – There will be an on-line, searchable data base for employees to find benefits from prior jobs that may be due.
C. Back to Paper – There has been a recent trend to delivering everything electronically. The Act requires an annual paper statement, as of 1/1/26, unless the participant opts out. This feels like we are going backwards in time, although, in fairness, there are groups that believe that some people are being deprived of essential information without the paper version.
11. Plan Amendment required
The plan document will need to be amended by 12/31/25, assuming a calendar year plan. This will be tricky, given the various options and effective dates. Each Employer decision on the optional provisions will need to be carefully recorded in this updated plan document. Further, communicating these changes to plan participants will be necessary. While an updated “Plan Summary” is typically provided when the actual document is restated, some of these changes will need to be communicated more quickly than the plan document deadline.
Questions?
Let your Analyst or Managing Consultant know and we will assist you. This will be tricky, but we’ve all lived through this before. We look forward to working with you to optimize your plan design and minimize your hassles.