How to Settle a 401(k) ‘Future Debt’

Beware the Ides of March! In addition to the assassination of Julius Caesar in 44 BC, this day is one marked by Roman religious observances. It was also notable as a deadline to settle debts.

In that vein, it may be time for you to reexamine certain benefits with an eye on helping workers “settle a debt” with their future self before it comes due.

Missed Opportunities

In the 1990s, my employer hosted a delegation from the Japanese National Mutual Insurance Federation of Agricultural Cooperatives (ZENKYOREN). The visitors were considering creating 401(k)-type savings plans. I presented our own plan – in place since 1968, added 401(k) in 1984, one-year eligibility, 50% match on 1^st 6% of pay. The non-highly compensated ADP was 4.2%.

The Japanese executives listened patiently through an interpreter. They only had a single question (paraphrased) ‘What is your duty to those who do not participate or save enough to get the full employer support?’ I offered a compliance-focused response – mandatory disclosures, etc.  But, they wanted to know if there was a greater duty. Years later, my response changes once I realized that less than 1 in 20 new hires, regardless of age at hire, would remain with my employer until retirement.

Second Chances

Medical & Dependent Day Care FSAs

March 15 is a date many plans use as a cutoff for making a Flexible Spending Account claim.  At this time, a plan sponsor may be able to amend their plan(s) to provide COVID-relief to:

• Permit carryover of unused FSA monies (no dollar limit) from 2020 to 2021 and from 2021 to 2022 or permit a 12-month grace period for 2020 and/or 2021,
• Provide for post-termination spend down for a health FSA for 2020 and 2021, on much the same basis as is provided for Dependent Care FSAs.
• Temporarily increase the maximum dependent day care age to 14 (2020 account balances).
• Enable a mid-year election change during the 2021 plan year.

Health Savings Account (HSA)

HSAs-eligible workers who didn’t max out contributions in 2020 may still be eligible to make an above-the-line tax-deductible contribution before filing their 2020 income tax return.  And, if you make employer contributions subject to the comparability rules, make sure you send the required communications to HSA-eligibles who didn’t open an HSA account.

HSA-eligibles who were age 55+ as of December 31, 2020, can make a $1,000 “catch-up” contribution (separate HSA accounts are needed for each spouse).

Finally, because the HSA is America’s most tax-preferred benefit program, you should prepare workers to add (a new) an additional HSA-capable choice starting December 1, 2021. Those enrolled in HSA-capable coverage as of December 1, 2021, can max out HSA contributions for both 2021 and 2022.

Saver’s Credit

Less than half of surveyed workers know about the Saver’s Credit[i]. That’s not too surprising because only a minority are eligible and it is complicated – income must be below an arbitrary threshold, you can’t be a full-time student nor a dependent claimed on another’s tax return and you must be age 18+.  2018 tax return data showed 9.2 Million tax returns (out of 153+ Million filings, less than 6%) claiming $1.7 Billion in Savers Credits – a modest $187/return[ii].

But, it isn’t too late for plan sponsors to remind retirement savings plan participants to consider the credit when filing their tax returns. And, for those who have yet to file their 2020 return, it may not be too late to make a contribution and qualify for the 2020 credit.[iii]

401(k)

One survey showed 24% of eligible employees did not contribute to their 401(k), that another third did not contribute enough to obtain the full match, that only 12% contributed the maximum and that only 15% of eligible made catch-up contributions.[iv]

Note:  Have you considered automatic escalation? One option is to:

• Increase from 0% to 2% for those who are eligible, but not contributing today, and
• Increase contribution rates of current participants by 1% or 2% if they aren’t:
  • Receiving the full employer financial support, or
  • Contributing an arbitrary, target percentage of pay (e.g., 12%, 15%)

And, consider escalating contributions (re-enrolling as necessary) each year.

I once implemented that perennial process. When people complained: ‘How many times must I tell you that I don’t want to participate in this plan’ I always gave the same answer ‘just once a year.’  How do YOU justify annual enrollment for welfare plans, but not 401(k)?

“While you are resting”, you may want to consider some or all of the following for those who need a second chance to make up for missed opportunities (whether prior to or after joining your organization, or perhaps resulting from a COVID employment dislocation or income and/or expense shock):

• Eliminate the “wrong” kinds of liquidity that result in leakage[v] while adding the “right” kinds of liquidity – enable “liquidity without leakage along the way to and throughout retirement”[vi]
• Add an employer match “true-up” so that the employer contribution is the same even though employee contributions vary during the year,
• Add after-tax 401(k) contributions for non-highly compensated employees,
• Add an employer match on catch-up contributions,
• Add Deemed IRA provisions to create increased contribution and rollover flexibility,
• Add in-plan Roth conversion provisions (for workers who made pre-tax contributions prior to Roth availability (1/1/06), and
• Consider individual, annual, customized outreach to workers:
  • Who are not contributing enough to obtain the full employer financial support,
  • Who are 100% vested and/or age 59 ½, for plans that offer age 59 ½ withdrawals,
  • Age 50+ regarding catch-up contribution eligibility,
  • Roth 401(k) contributions, especially for those early in their careers whose income may be subject to low marginal federal (and state) income tax rates,

One last “bleeding edge” option some have considered is a retroactive “gap fill” for prior years.[vii]

Some have proposed a special “catch-up” contribution provision for caregivers.[viii]

However, all of the above is generally available to plan sponsors today.

What’s up with your plans?  Have you implemented better catch-up, true-up, clean-up actions than the options shown above?  Send them to me at jacktowarnicky@gmail.com

* Disclaimer No. 1: My comments are my own based on my past experiences in plan sponsor roles, and do not necessarily reflect those of any employer or association I have been employed by or affiliated with, past, present, or future.

* Disclaimer No. 2: This information was provided by individuals with knowledge and experience in the industry and not as legal or tax advice. The issues presented here may have legal implications and you should discuss this matter with legal counsel prior to choosing a course of action. This article is intended to be informational only. It is not (and you/others should not use it as a substitute for) legal, accounting, actuarial, or other professional advice. Any advice contained in this article was not intended or written to be used, and cannot be used by anyone for the purpose of avoiding any Internal Revenue Code penalties that may be imposed on such person [or to promote, market or recommend any transaction or subject addressed herein]. You (others) should seek advice based on your (their) particular circumstances from an independent tax advisor.

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[i] Transamerica, Fewer than Half of U.S. Workers Are Aware of a Tax Credit for Retirement Savers, 2/18/21, Accessed 3/15/21 at: https://transamericacenter.org/docs/default-source/saverscredit/tcrs2021_pr_savers_credit_press_release.pdf

[ii] IRS, SOI Tax Stats – Individual Income Tax Returns Publication 1304, Table 3.7, Accessed 3/15/21 at: https://www.irs.gov/statistics/soi-tax-stats-individual-income-tax-returns-publication-1304-complete-report#_pt2

[iii] IRS, Tax Time Guide: Get credit for IRA contributions made by April 15 on 2020 tax returns, IRS Statements and Announcements, IR-2021-53, 3/11/21.  Accessed 3/15/21 at: https://www.irs.gov/newsroom/tax-time-guide-get-credit-for-ira-contributions-made-by-april-15-on-2020-tax-returns

[iv] Vanguard, How America Saves, 2020, Accessed 3/15/21 at: https://institutional.vanguard.com/ngiam/assets/pdf/has/how-america-saves-report-2020.pdf

[v] J. Towarnicky, Hardship Withdrawals – An Attractive Nuisance Becomes More Attractive, 2/8/18, Accessed 3/15/21 at: https://www.psca.org/news/blog/hardship-withdrawals-attractive-nuisance-becomes-more-attractive

[vi] J. Towarnicky, Impediments to Saving for Retirement – Part 2 – The Solution? The Right Kind of Liquidity, 11/08/18, Accessed 3/15/21 at: https://www.psca.org/news/blog/impediments-saving-retirement-part-2-solution-right-kind-liquidity

[vii] See Treasury Regulations 1.401(a)(4)-1(c)(2) (a facts and circumstances test).  “The provisions of §§ 1.401(a)(4)-1 through 1.401(a)(4)-13 must be interpreted in a reasonable manner consistent with the purpose of preventing discrimination in favor of HCEs.” Plan sponsors who want to retroactively “gap fill” may want to discuss with counsel the option of a retroactive amendment for the previous five years applied only to non-highly compensated employees.

[viii] M. Correia, Contribution catch-up for caregivers gaining favor, 3/8/21, Accessed 3/15/21 at: https://www.pionline.com/washington/contribution-catch-caregivers-gaining-favor