Introduction
The Secure Act has ushered in several sweeping changes to the rules concerning retirement plans in the United States – with the overarching goal of addressing the looming retirement crisis and helping hard-working Americans prepare for a financially secure future post-retirement.
The updates under the Setting Every Community Up for Retirement Enhancement (SECURE) Act of 2019, which was signed into law on December 20, 2019, intends to increase participation and savings in retirement plans, make retirement distribution more flexible, simplify plan administration, and encourage small businesses to establish retirement plans for their employees, including part-time staff. The provisions under the legislation will increase access to tax-advantaged accounts and prevent senior citizens from outliving their assets.
The Secure Act is expected to have far-reaching effects on the retirement planning landscape in the United States.
What the Act means for various stakeholders?
Retirement planning cannot have a one-size-fits-all approach. It has to ensure that everyone has access to a plan that fits their individual needs. The amendments in the Secure Act aim to do this.
- Starting January 1, the Act pushes back the age at which retirement plan participants need to take required minimum distributions (RMDs) – from 70½ years to 72 years. This will enable individuals to keep money in their individual retirement accounts (IRAs) for longer and put off paying income taxes on withdrawals if they don’t need funds yet to pay for living expenses.
- Individuals can contribute to a traditional IRA even after the age of 70½. The Act removes the previous age limit of 70½ and allows traditional IRA owners to keep making contributions indefinitely. This could be beneficial for the growing number of people who are working past the age of 70, thus enhancing their long-term retirement financial security.
- The Act allows 401(k) plans to offer annuities as a pay-out option for a lifetime income.
- The Act mandates that most non-spouses inheriting IRAs must withdraw funds within ten years after the death of the account owner. This kills the ‘stretch IRA’, in which a beneficiary extends distributions from an inherited IRA over their lifetime.
- The new ten-year rule does not apply to the following beneficiaries: surviving spouse of the deceased account owner, minor children of the deceased account owner, Disabled beneficiaries, chronically ill beneficiaries, beneficiaries less than ten years younger than the deceased account owner
- The Act allows penalty-free withdrawals up to $5,000 from retirement plans for the birth or adoption of a child.
- Small business owners can come up with ‘safe harbor’ retirement plans, which are easier and less expensive to administer.
- Many part-time workers will be eligible to participate in an employer’s retirement plan. Starting next year, part-timers who have worked more than 500 hours a year, for at least three consecutive years, must be allowed to participate in their employer’s 401(k). Part-timers who worked 1,000 hours or more during the past year, too, must be granted access to the plan.
Other options under Secure Act: pooled plans
The Secure Act proposes new plan structures that allow, to varying extent, the employees of more than one employer to participate in a single retirement plan. These structures are called Pooled Employer Plans (PEPs) and Association Retirement Plans (ARPs). They take off from the years of discussion regarding the potential for multiple employer plans (MEPs) to expand access to and coverage under the retirement system. PEP and ARP are initiatives to open the access and availability of MEPs to employers who share less (or no) commonality, thus creating ‘open MEPs’.
Research from the Census Bureau in 2018 reported that just 45% of employees at companies with 1-49 employees had access to a work-sponsored retirement plan, compared with 76% at companies with 50-99 employees, and 90% for firms with more than 100 workers. An open pooled plan will rectify this anomaly by enabling small employers to join hands to provide 401(k) to their employees.
Multiple Employer Plan
Many small businesses were discouraged by excessive compliance mandates and high administrative costs while offering a retirement plan to their employees. The simple and cost-effective solution to this is the multiple employer plan (MEP) in which small firms join together to offer a plan, thus sharing a plan administrator and lowering costs and administrative obligations.
However, until recently, the Department of Labor (DOL) had consistently referred to the Employee Retirement Income Security Act (ERISA) to stress that employers participating in an MEP must have a connection above and beyond participation in the same plan. As a result, MEPs were confined mainly to affiliated employers and associated employers in the same industry or professional employer organization (PEO).
But starting next year, this rule will be relaxed, making it easy for unrelated businesses to form an MEP. This is especially good news for employees working in small firms, enabling them to participate in the 401(k).
Pooled Employer Plans
The Secure Act permits completely unrelated employers (i.e., those without any ‘commonality’) to pool their resources by participating in a new type of MEP, under certain conditions. The new plans – referred to as Pooled Employer Plans will be considered a single plan under ERISA of 1974.
Under this, each employer in the arrangement does not need to file their own Form 5500 because the PEP would file a single annual Form 5500, covering the entire arrangement.
PEPs would be managed by a ‘pooled plan provider’, registered with the DOL and Treasury Department. The new legislation also takes care of the ‘one bad apple rule’ – which means the failure of one participating employer to maintain the PEP’s qualified status would not affect the fortunes of other participating employers unless the pooled plan provider does not perform its administrative duties regarding tax qualification.
Association Retirement Plans
ARPs are a result of a recent DOL regulation permitting a group or association of employers or a PEO to sponsor a single plan if certain requirements are met.
Under an ARP, employers must share a commonality. They must be in the same trade, industry or line of business or profession or located in the same state or metropolitan area. The ARP must be sponsored by a PEO that performs ‘substantial’ employment functions on behalf of its client employers that adopt the ARP.
The second difference between PEP and ARP is that while the pooled plan provider of a PEP can be a retirement plan service provider, an ARP must be administered by a PEO or a group or association controlled by the employers participating in the plan.
The fiduciary and administrative responsibility of the plan rests with the group or association maintaining the ARP, but employers hold fiduciary responsibility for monitoring the arrangement.
Challenges presented by the Act
- Understanding the fine print
The Act has many dynamic parts that financial advisors, plan sponsors, employers, and organizations handling retirement plans need to explore to help their clients and employees. Financial advisors will get busy in the months ahead as they examine, weigh pros and cons, and re-evaluate plans for clients impacted by the new and updated provisions of the Secure Act. Advisors have to show clients what their numbers were before the Act was passed and how they could change under the Act. This means reading and re-reading the fine print and spotting red herrings if any.
- Operational challenges
The operational compliance of the Act presents a huge operational hurdle to many stakeholders.
The Secure Act affects all retirement account owners, presenting planning challenges and the arduous tasks of balancing tax deferral, tax minimization, control over account assets, and creditor protection.
As the timeframe for distributions has been shortened, there is a need for careful coordination with the beneficiary’s tax profile and meticulous financial planning.
Plan sponsors act as recordkeepers and have a critical role to play in the smooth running of stand-alone 401k plans. Their role in MEPs are crucial in particular as they are responsible for shepherding all the individual member companies. Plan sponsors must educate themselves about the Secure Act provisions, prioritize the impactful clauses immediately, and move others for later consideration. Plan sponsors also need to bring on board experienced service providers and TPAs (third-party administrators).
Employers and plan sponsors must keep track of hours clocked in by part-time employees, and those work at least 500 hours during the year (in accordance with their savings plan provisions). This requires employers to assess the plan document amendments carefully.
Employers sponsoring tax-qualified retirement plans should revisit plans in light of the new legislation. Plan amendments will be required by the end of the plan year – beginning on or after January 1, 2022 (or such later date provided by the Secretary of the Treasury).
Plan sponsors should discuss with their third-party administrators (TPAs) and recommend any administrative changes to be implemented due to the Secure Act and ensure participants receive adequate notice of any changes.
- Amendments in the offing
Several changes will be required to administer the retirement plans correctly. This translates to revised distribution forms, changes in recordkeeping systems, updates to the plan website, revised summary plan descriptions, and additional training for call center employees.
Service providers and sponsors must be ready to take on a barrage of queries and clarifications sought by plan participants. They also need to offer prompt assurance and timely guidance.
HR systems must be beefed up to track hours put in by part-timers and assess employee classifications. The systems have to be recalibrated and tested well in advance of the plan years beginning after December 31, 2020. Administrative systems, too, may need to be tweaked, as and when the need arises.
- Penalties for failure to file/provide disclosure
- $250 per day for failure to file Form 5500 (not to exceed $50,000);
- $10 per day for failure to file a registration statement (not to exceed $10,000);
- $10 per day for failure to file a notification of the change (not to exceed $10,000); and
- $100 per failure for failure to provide a required withholding notice (not to exceed $50,000 for all such failures per calendar year).
- Penalties are increased for failure to file to the lesser of $435 or 100% of the amount of tax due.
So, it is critical to file on time to avoid penalties.
Role of technology in meeting challenges
Technology brings to the table the power of automation and the seamless management of complex operations. It can enable streamlining of updates to recordkeeping systems, ensure on-time filing of requisite forms. Technology can also be used to maintain HR and administrative systems pertaining to the clauses of the Secure Act.
As mentioned earlier, financial advisors will play a major role in guiding and educating clients about MEPs, tax credits, and administrative implications. Many TPAs and financial technology vendors are developing tools to help advisors navigate the clunky provisions and stipulations of the Secure Act efficiently.
The technology tools include a financial planning software to guide investors through legislative changes in required minimum distributions from qualifying retirement accounts. The software guides users through changes to retirement savings concerning the Secure Act updates tax calculations and presents dynamic reporting graphics while the financial calculator throws light on RMD responsibility before and after the change.
Technology can be a valuable educational tool for advisors and investors to obtain a clearer view of the investment results following the Secure Act in the first one and the subsequent years. Using technology tools, all stakeholders can better prepare themselves for the tax season, understand retirement planning implications, and avoid potential speed bumps and diversions on their path to achieving their financial goals.
