SECURE Act changes a LOT about 401k plans!

Today we’re going to talk about the SECURE Act. It changes a lot about 401k plans, so we’re going to go through it in depth, make sure you’re prepared, but before we go too deep, I want to ask you to please subscribe to our podcast. You can find us on iTunes, Google podcasts, Spotify, Stitcher, any pod catcher of your choice. You can also subscribe @peopleprocesses.com which will give you exclusive subscriber only content.

All right, let’s dive into the SECURE Act. The centerpiece of the new tax legislation is the Setting Every Community Up for Retirement Enhancement (SECURE) Act of 2019. The SECURE Act, it’s chock full of new rules for employers that sponsor qualified retirement plans and for the employees who participate. For example, the new law expands the opportunities for groups of employers to form multiple-employer plans (MEPs). On the employee side, the new law increases the age for required mandatory retirement plan distributions from 70 ½ to 72. 

Now there are a lot of things going on with the SECURE act, especially around what happens after you die with a 401k. That’s an individual planning topic and it’s really beyond the scope of what we’re gonna talk about today. Instead, we’re going to talk about those that are of particular interest to employers. That’s what we’re focusing on.

So part-timer participation, under current rules, employer-sponsored 401(k) plans can exclude an employee from participation if he or she has not worked for the employer for at least 1,000 hours in a 12-month period. Effective for plans beginning after 2020, the new law requires employers to allow long-term part-timers to make elective deferrals to a 401(k) plan if they’ve worked at least 500 hours in three consecutive 12-month periods. It does not require you to make matching or other employment contributions for these long-term part-timers. Key points are just focusing on this. You won’t need to pour through your past payroll records to identify eligible part-timers. For purposes of counting hours under the 500-hour rule, only service performed after 2020 is required to be taken into account. Nevertheless, you need to update your payroll system to pinpoint eligible part-timers going forward. It’s a new test. You got to do not just the thousand hour test, but also 500 over three years starting in 2020. Okay. That’s a big change. It adds a big layer of compliance and regulation. Hopefully you have a good CPA that’ll take care of that for you, but make sure to poke them.

Alright. Automatic enrollment. Another big change. Employers that sponsor a 401(k) plan or a SIMPLE IRA for that matter can automatically enroll eligible employees in a plan unless the employee is locked out. The SECURE Act creates a new tax credit for employers that establish new 401(k) plans that include automatic enrollment or that convert an existing plan to an automatic enrollment design. The amount of the credit is $500 per year for each of the three tax years beginning with the first year that the employer adopts automatic enrollment feature.

New tax credit applies for tax years beginning after 2019, so employers can begin to cash in on the credit this year. For a new plan, the credit applies in addition to the small employer pension plan startup credit for small employers that adopt a new qualified retirement plan. Moreover, for tax years beginning after 2019, the maximum amount of that credit is increased from $500 to as much as $5,000 per year for three years. So there’s two big credits at play there. One, well, a small $500 bucks. But if you look at your cost of setting up an IRA, a retirement plan, and you put in an automatic deferral right where they can opt out, instead of doing the traditional way, you’re gonna get $500 bucks from the government. Pretty cool. If you’re a brand new plan, truly new, and you’re not just making a change and you’re a small business, you could actually get an additional tax credit on top of that. Talk to your CPA.

Okay. There’s also a little bit of a change with “safe harbor 401(k) plans” that include automatic enrollment in order to meet nondiscrimination requirements. These plans, safe harbor plans, must provide for automatic enrollment at a default percentage of compensation that increases each year (e.g., 3% for first year at least to 6% in the fourth year). A plan can provide for higher default rates. However, under prior law, the default rate could not exceed 10% for any year. The new law increases the default percentage cap to 15% for any year after the first year of automatic enrollment. So that’s basically not the first year, but if you want to continue to step up people’s investment by 1% a year, unless they opt out, you can now go up to 15%.

All right. Last big change. Retirement plan, distributions and loans. Distributions from quality qualified retirement plans, 401(k) are generally included in income for the year of the distribution before the plan participant has reached 59 and a half is generally subject to a 10% penalty tax. 

There are a number of exemptions to the 10% penalty though, but there’s a new one created by the SECURE Act for distributions made on account of birth or adoption of child. Effective for distributions after 2019, the penalty tax does not apply to a distribution made during the one-year period beginning on the date that the participant’s child is born or that the legal adoption of an adoptee is finalized and shall put it either adoption date of birth date. You got one year around there. 

Provided certain requirements or met, loans from qualified retirement plan are not treated as taxable distributions from the plan and are not subject to the 10% tax penalty. Assuming again that if you turn it into a distribution, the SECURE Act cracks down on arrangements that allow employees to access plan loans using credit cards or similar mechanisms. Effective for loans made after just December 20, 2019, plan loans distributed through credit cards or similar arrangements will not meet the requirements for plan loan treatment and will be treated as taxable distributions. It’s not a common thing, but a lot of weird companies were kind of doing some stuff like being able to access your 401(k) balance through a credit card and it matches up to a loan. They basically disallowed those. If you do it, it’s just a distribution now.

Okay. All right. That’s the key stuff. A general rule, taxable retirement plan distributions are subject to income tax withholding, right? We talked about that and that extra 10%. However, in most cases, plan participants can elect not to have withholding applied. Tell them that this role participants must be provided with a notice of the right to elect no withholding. Under prior law, the penalty for failure to provide that required notice was $10 bucks for each failure, up to a maximum of $5,000 effective for notices after December 31, 2019, the penalties increased for $100 for each failure up to a maximum of $50,000 for the calendar year. So that’s the one other kind of little compliancy change. Make sure that they’re getting their notice of the right to elect no withholding if they are doing a distribution.

Not most people don’t do distributions of course, unless they’re leaving your employment. Anyway, let’s recap real fast. The retirement plan changed the part-time participation rules to add long-term part-timers. It gave credit for automatic enrollment and for safe harbor plans. You can now by default, when you do a safe harbor plan with automatic enrollment, you actually increase by 1% per year automatically and you can now go up to 15% instead of 10, and they added a qualified distribution. You can take money out of your retirement plan without paying income tax, but you don’t pay the extra 10% penalty in the year that you have a child or adopt one. Finally, there’s a bunch of penalty increases, especially around not providing that notice of no withholding.

I hope that was helpful for you. Again, my name is Rhamy Alejeal. People Processes work on things like this all the time. We work on the systems and operations around keeping, attracting training, finding the best people in your industry, and I hope this sort of information is helpful to you. If it is, drop me a line, Twitter, Facebook, LinkedIn, we are available on all of them. Instagram, I’d love to hear from you. Feel free to ask questions there. In the meantime, my name is Rhamy Alejeal and I appreciate you tuning in. Time for you to go out there, get your work done, and have a great day.

Reference links here: 

I.R.C. §§401(k)(2)(D), I.R.C. §45T, I.R.C. §45E(b)(1), I.R.C. §401(k)(13)(C), I.R.C. §72, I.R.C. §72(p)(2)(D), I.R.C. §6652(h) 

About the author, Rhamy

Rhamy grew up watching and working with his mother and grandmother in the senior insurance market. This familiarity with the struggles faced by people trying to navigate the incredibly complicated and heavily regulated healthcare market led him to start Poplar Financial while working on his degree at the University of Memphis. After completing his MBA and Bachelors in Finance and Economics, Rhamy guided Poplar Financial through the disruptive opportunity that is the Affordable Care Act. Since then Poplar Financial has received numerous awards from major insurance carriers and has completed its fourth year in a row of doubling in size. Now his team focuses on the processes around human resources and specializes in providing companies with between 20 and 1000 employees with the payroll, benefits, and HR needs.