On August 31, President Donald Trump signed an executive order on Strengthening Retirement Security in America that, among other things, instructed the Secretaries of Labor and the Treasury to “examine policies” that would eliminate Employee Retirement Income Security Act (ERISA) and Tax Code regulatory barriers to the creation of open MEPs (multiple employer plans for employees of unrelated employers, other than plans maintained pursuant to a collective bargaining agreement).
As I discuss in detail in my new book (Retirement Savings Policy: Past, Present, and Future) “covering the uncovered” is one of the major retirement savings policy challenges facing us.
The related White House fact sheet notes that “[e]ighty-nine percent of workers at establishments with 500 or more employees are offered a workplace retirement plan. In contrast, only 53 percent at establishments with fewer than 100 workers are offered a workplace retirement plan.” The executive order explains that “[e]xpanding access to [MEPs] … is an efficient way to reduce administrative costs of retirement plan establishment and maintenance and would encourage more plan formation and broader availability of workplace retirement plans, especially among small employers.”
There is bipartisan legislation in Congress that would (similarly) authorize open MEPs, and the sponsors of that legislation make the same argument—that the availability of open MEPs will increase small plan formation.
Is this going to work? Yes, up to a point. But open MEPs (by themselves) will only deal with one of the obstacles preventing small employers from adopting retirement plans.
There’s a broad consensus that the regulatory burden of setting up and administering a defined contribution (DC) plan is a problem for small employers. Part of that burden will be reduced by allowing open MEPs to “bundle” small employers and thereby consolidate (and hopefully reduce the cost of) much plan administration, including, sponsor reporting (e.g., Form 5500), disclosure (e.g., participant notices) and recordkeeping.
In addition to open MEPs, the other sorts of proposals to ease the small retirement plan administrative burden generally involve paying employers to establish plans. For instance, backers of the Retirement Enhancement and Savings Act (RESA) are proposing to increase the dollar limit on the small employer plan startup credit from $500 to $5,000. With apologies, I regard these sorts of solutions as foolish. If you have to pay someone to do something, then they probably don’t think it’s worth doing, and my general rule is to trust their judgment on that. And, anyway, it’s not like we have lots of money in the budget to throw around.
In this regard, open MEPs are a much better place to start, as way of reducing, rather than subsidizing, the small employer’s cost of setting up and running a retirement savings program.
But there are several other obstacles to small employer plan formation besides filing forms, publishing notices or (even) recordkeeping. For instance, Tax Code nondiscrimination testing and, critically for 401(k) plans, actual deferral percentage (ADP) testing. Simply authorizing open MEPs won’t do anything to lift that burden.
It doesn’t seem practical (or in any way cost-reducing) to operate an open MEP that allows every adopting employer to run the ADP test separately for its own employees, and some proposals assume that open MEPs will (or will be required to) adopt an ADP safe harbor. The problem with that solution is that the current ADP safe harbors, while not administratively “burdensome,” are expensive – they require that the employer make substantial, fully vested matching or non-elective contributions for non-highly compensated employees.
One solution to this problem: the Retirement Security Flexibility Act, recently introduced in the Senate, would modify the automatic enrollment safe harbor to allow small employers to provide reduced (or no) matching or non-elective contributions for non-highly compensated employees in exchange for a reduced elective contribution limit.
The other major obstacle to small employer plan formation is that the tax incentives themselves (in addition to imposing the burden of, e.g., ADP testing, as we just discussed) don’t seem to operate as effectively in the small employer world.
Looking at the data, the lowest rate of plan formation is in the service industry, where only 42% of workers are covered by a plan, and the problem is biggest among casual workers, only 38% of whom are covered. These are typically younger, lower-paid workers who often view a dollar spent on retirement benefits (whatever it costs the employer) as worth a lot less than a dollar paid in cash.
And let us not forget that 2017 Tax Cuts and Jobs Act, by providing a 20% deduction from individual income tax for qualified business income, created a disincentive for at least some small businesses to establish or continue to maintain tax-qualified retirement plans.
There are, of course, sectors in which the small retirement plan business is flourishing. Professional services firms—with high income, highly tax-motivated owners—generally have generous retirement plans.
But for many small employers, setting up a retirement plan often just doesn’t seem worth it, either to the owner or to the employees.
None of the foregoing is to say that we shouldn’t change current rules to allow open MEPs. Emphatically, we should. We should allow any innovation that has a reasonable chance of reducing the cost of maintaining a DC plan. In an era of declining investment returns, the most obvious way to improve retirement savings outcomes is to find ways to reduce costs.
Clearly, a number of questions remain and will no doubt be taken up by the Department of Labor (DOL) in its review of the issue. I would say, most critically, how much fiduciary responsibility (if any) will the employer have to retain with respect to the management of an open MEP? My vote is, none. I think small employers should themselves be treated as consumers. But that begs the question: who then will oversee, or at least set rules for, the operation of these plans?
President Trump’s executive order is one small step towards a provider-based system. Our experience with it should produce some very interesting data as to how, and how well, such a system will work. Open MEPs present a number of issues that will benefit from a thorough and empirical real-world test.
And, indeed, if open MEPs work well, they may provide a way to reduce costs in large employer plans.
Most importantly this is a start.
Michael Barry is president of October Three (O3) Plan Advisory Services LLC, and author of the new book, “Retirement Savings Policy: Past, Present, and Future.” He has 40 years’ experience in the benefits field, in law and consulting firms, and blogs regularly http://moneyvstime.com/ about retirement plan and policy issues.
This feature is to provide general information only, does not constitute legal or tax advice, and cannot be used or substituted for legal or tax advice. Any opinions of the author do not necessarily reflect the stance of Strategic Insight or its affiliates.
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