There’s no disagreement that saving for retirement is something everyone needs to be doing. Yet, still today, not everyone is doing it. As companies continually look at ways to increase employee participation in their sponsored retirement plans, two features have had a great impact on plan participation: auto enrollment and auto escalation.
To help employees start saving money in a company’s retirement plan, The Pension Protection Act of 2006 legitimized automatic enrollment, which allows an employer to automatically enroll their employees in the company’s retirement plan when the employee first becomes eligible (unless the employee affirmatively elects otherwise). The employee’s wages will automatically be reduced by the default percentage as stated in the plan and contributed to the employee’s retirement plan account. While there has been much discussion about auto enrollment, the inherent benefits remain in tact:
- Allows the company to be more proactive in increasing participation
- Increases owners’ and key employees’ salary deferral amounts in a traditional 401(k) plan due to increased participation of the non-highly compensated employees
- Employees who are automatically enrolled receive tax benefit
- Increased likelihood the eligible employee will participate in the plan and have retirement savings other than social security
Sounds like a ‘win-win’ for all parties involved, right? Why wouldn’t a company have auto enrollment?
Some apprehension surrounds this topic, as it is believed that employees won’t elect to save as much through auto enrollment. But no one can argue that ‘some’ is better than ‘none’ – and the secondary option to alleviate this concern would be for employers to initiate auto escalation on behalf of employees. Many plans offer auto escalation, a feature to set a recurring increase in the deferral rate, whereby the contribution increases by a set rate on a prescribed date. Controls for this feature are similar to that of auto enrollment.
As with most features within a retirement plan, each feature’s risk of non-compliance increases as internal controls of a plan sponsor decreases, and auto enrollment and auto escalation are no different. Errors for non-compliance, specifically for not following auto-enrollment or auto-escalation rules, can be extremely expensive to the company to correct. The best way to ensure proper application of a plan’s auto enrollment and/or auto escalation features is to have strong internal controls that are followed by both the plan administrators and any third party service providers.
Proper Application is Crucial to Auto Enrollment & Escalation Success
- Provide dedicated support. First, and most importantly, there must be a designated person responsible for ensuring employees are being auto-enrolled in the plan: 1) when they first become eligible (based on the plan document); and 2) at the correct auto enrollment deferral percentage.
- Perform training and implementation guidance. Plan sponsors should provide proper training on the plan document to in-house plan administrators who are responsible for determining employee eligibility. These plan administrators should then determine which employees will be eligible to participate in the plan at the plan’s next entry date, and ensure that the employees receive timely and complete information about the plan.
- Keep accurate employee data. To reduce the risk of omitting eligible employees, plan administrators should also ensure the accuracy of employee data, such as dates of birth and hire; number of hours worked; compensation information; and any other information necessary to properly administer the plan.
- Establish plan procedures in coordination with payroll. The plan administrator and payroll provider should also establish procedures to ensure that the payroll provider has complete and updated information for eligible employees and their respective elections, as of the beginning of each pay period. The payroll provider must have a thorough understanding of the plan’s provisions with respect to elective contributions, and make sure that its systems are consistent with plan design.
- Implement record review process. As an additional control, employers should periodically review the records of eligible employees who are not making elective deferrals to the plan. For these employees, plan records should contain affirmative elections requesting that their elective deferral be reduced from the automatic enrollment default percentage level to zero. In the absence of affirmative elections, it is likely that the plan failed to implement the plan’s automatic enrollment provisions, and corrections will need to be made.
In the age where pensions are scarce and the long-term effects of not having any retirement savings to rely on are a harsh reality to so many employees, the auto enrollment benefit can help remove these barriers for employees. The automatic contribution arrangement and auto escalation feature are both convenient and effective methods for encouraging employees to contribute to their employer retirement plan. Just be certain that the proper controls are in place so that the process does not cause issues of non-compliance.
If you have questions or would like more information regarding setting up an auto-enrollment benefit on an employee retirement plan, please contact Karen Sanchez, CPA, partner in employee benefits administration, at 630-566-8519 or Karen.sanchez@sikich.com.
