Legislation pending in
Congress aims to encourage employers to adopt automatic
enrollment in 401(k) plans
» A Massive Stampede
Adding automatic enrollment to a 401(k) plan could get
easier for plan sponsors soon.
Automatically enrolling new workers is a
"significant factor" in increasing 401(k)
balances, according to a study released in July by the
Employee Benefit Research Institute and Investment Company
Institute. Yet some employers have held off on implementing
it with new hires, out of fiduciary-liability fears or
wariness about its impact on nondiscrimination testing.
"There is a concern over fiduciary liability, even
though many employers have established automatic
enrollment, and done so successfully," says Tim Bartl,
assistant general counsel and vice president, corporate
relations, at the HR Policy Association in Washington. "In
the current environment, where 401(k) plans are attacked on
many fronts, there is a concern that putting employees
directly into a 401(k) without their expressed consent will
violate some provisions of ERISA."
At press time, several bills were pending in Congress to
address employers' concerns about the current
automatic-enrollment setup. Sponsors need guidelines and a
process they can follow to fulfill their duties, and
therefore not be potentially on the hook for fiduciary
liability related to automatic enrollment, says David
Levine, an associate at Groom Law Group in Washington.
"That is the first and foremost concern," he says.
Removing Barriers and Creating Incentives
The bills' content can be split into two major parts,
says Edward Ferrigno, a Washington-based vice president at
the Profit Sharing/401(k) Council of America (PSCA): One is
removing employer barriers to offering automatic enrollment
by clarifying issues surrounding it, and the other is
creating incentives for employers to provide it.
The first key clarification in all the bills deals with
default investments. "The Department of Labor has taken the
position that, if you have auto-enrollment, there is no
404(c) protection," says Jan Jacobson, director of
retirement policy at the American Benefits Council in
Washington. The 404(c) provision of ERISA gives sponsors
protection if participants select their own investments.
"Without that kind of protection, plan fiduciaries [doing
automatic enrollment] could be on the hook if the market
goes down. So most fiduciaries select risk-free funds that,
over the long term, do not lead to enough assets for
participants."
That scenario creates another problem besides the low
returns. Defaulting 3% into something very low-return like
a money-market fund "creates a lot of small accounts,"
Ferrigno says. "The economics on those accounts are
terrible."
All of the bills direct the DoL to come out with
guidance on default investments. When the guidance sees the
light of day, Bartl says, employers are likely to start
utilizing defaults that make more sense such as lifestyle
funds.
The agency has said it is working on those guidelines
anyway. Look for them to come out in proposed form by the
end of the year, Ferrigno says. "Employers would like
something that says, 'If you choose this type of investment
or something that falls under this definition, you will be
safe. You do not have to worry about a lawsuit,'" says Lisa
Jones, a senior manager at accounting and advisory firm
Plante & Moran in Elgin, Illinois.
The other key clarification that all of the bills make
involves state wage-withholding laws. Thirty-two states
prohibit employers from withholding money from an
employee's paycheck without that employee's expressed
consent, Jacobson says. So the legislation would spell out
that state laws are preempted when it comes to automatic
enrollment.
Fears of getting on the wrong side of those 32 states
have kept some sponsors from starting automatic enrollment,
sources say. Yet, the PSCA does not know of a single case
in which a state has taken action on it, Ferrigno says.
Adds Bill Gale, a senior fellow at The Brookings
Institution in Washington, "There is a lot of hand-wringing
about that, but I do not think that anyone has been
sued."
The legislation would also try to incentivize employers
by creating a safe harbor for those who do automatic
enrollment. Employers that do automatic enrollment should
not have much trouble with discrimination testing anyway,
Levine says, yet some really want the safe harbor. "I am
trying to figure out why people are stomping their feet
about it," he says.
A vision of saving time and money, maybe. "The safe
harbor eliminates a couple of things in testing for
nondiscrimination and top-heavy, so it reduces the
employer's cost for that kind of testing," Jacobson says.
"The idea is that testing is not as necessary when you have
auto-enrollment, because lower-compensated employees are
automatically participating."
What might a safe harbor look like? "We could get
something that says, 'If you do auto-enrollment and you do
a match and the participation rate is "X," then you are
home free,'" Gale says. "I think 'X' would be something
like 80%. I would be happy with a [stipulated]
participation rate. I would be even happier with a match,
but that may discourage some firms from doing
auto-enrollment, if they have to have a match."
All of the bills pending at press time require that
employers who want to meet safe-harbor requirements
withhold a minimum of 3% of employee compensation, then
raise it 1% per year; the percentages could be higher if
the employer wishes, Jacobson says. All of the bills cap
the upper percentage limit of compensation withheld, she
says, most at 9% or 10%. Each bill also would require an
employer contribution: Most stipulate 50% on the first 6%
of employee pay.
The bills also address vesting, although the timing varies,
with some requiring immediate vesting of the employee's
contribution and several requiring it after two years.
The bills have some important differences, Ferrigno
says. For example, he says that the legislation sponsored
by Rep. Rahm Emmanuel (D-Illinois) is the worst for
employers because it adds automatic enrollment to the
existing safe harbor rules. "That is a take-away," he says.
And a bill sponsored by Sen. Jeff Bingaman, D-New Mexico,
mandates that auto-enrollment include not just new hires,
but also existing employees. "That is getting huge pushback
from employers," he says. "They are worried not only about
the expense, but also about employee relations," he says.
Existing employees may be angry about money suddenly being
withheld from their paychecks for the 401(k).
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A Massive Stampede
While at press time a half-dozen bills dealing with
automatic enrollment were pending in the House or Senate,
Ferrigno said, it appeared likely that auto-enrollment
provisions would get folded into the broader pension-reform
bill pending in Congress. "The auto-enrollment bills that
are stand-alone have not developed any momentum," Jacobson
says. "It is probably not anyone's hot issue."
Folding it into the bigger pension bill would actually
increase the chances that the provisions would become
reality, Ferrigno says. "It would never move as a
stand-alone bill, because it is a tax bill," he says. Yet,
the fortunes of the broader bill keep changing, he adds, so
its fate remained uncertain at press time.
Everyone seems to agree that more employers would start
doing automatic enrollment if legislation passes. "It will
certainly make a difference to those employers who are
currently not acting based on a fear that they will have
some exposure to liability from enacting these programs,"
Bartl says.
However, most agree that some obstacles would remain.
"It is clearly not going to change the world," Ferrigno
says, since employers doing it would still face the higher
costs of matches for more participants. "The cost of the
[nondiscrimination] test is negligible relative to the cost
of automatic enrollment."
"It would not cause a massive stampede," Gale says. "But
it is moving in the right direction. If 401(k)s are going
to be the primary vehicle for retirement for the masses,
they need to have features that are consistent with
that."
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