The power of the right question at the right time

Assessing a potential prospect can be tricky. Knowing what questions to ask at the proper time in the sales cycle can be the key to landing and satisfying a new client. Broad, open-ended sales questions may help find out what’s going on in your prospect’s world, but they run the risk of wasting what little precious time that a prospect may give you.

When prospecting for a 401(k) plan, there are two main decision makers: 1) the CFO with little time to waste, or 2) the HR director who typically has too much on their plate to begin with and doesn’t want more. By merely calling these prospects, you are interrupting the status quo and you must be prepared to give them a compelling argument to make a change. As they say, change only happens when the pain of staying the same is greater than the pain of making a change.

Prospecting for 401(k) plans is a three-step process: 1) Find Promising Prospects, 2) Call The Prospect, and 3) Meet With The Prospect. It can be that easy as long as you are well prepared and know when to ask the right questions. Whether you are new to 401(k) plan prospecting or an experienced 401(k) advisor trying to train your staff, this guide will list important questions that will engage a prospect. You will also find some key questions to avoid during the sales process.

  1. Find Promising Prospects

Finding the prospect is, believe it or not, the easiest part. There are plenty of lists available for 401(k) plans to call on, the trick is to find one that you may already have a relationship with. Relationships are key in this industry, and a great 401(k) advisor will have great relationships with their clients. Working with a third-party administrator (TPA) can help you pull a listing of potential candidates in your area and provide a warm lead.

  1. Call The Prospect

Once you have a list of targets, calling on the prospect may be more difficult. Even if you have a relationship with a decision maker, it may be difficult to catch them directly on the first try. You may have to call several times before you can get the right connection, but when you do, BE PREPARED! Remember, plenty of demographic information can be gleaned from the Form 5500, which is public record and may easily be obtained at the Filing Search tab of www.efast.dol.gov.  Of course, the assets, the number of participants (both eligible and participating} and the employee and employer contributions are clearly indicated on the first few pages, as are the availability of participant loans. There are several codes detailed in the “Plan Characteristics” questions which indicate if there is an age weighted or cross-tested profit sharing allocation, if there are matching contributions, and if participants are directing the investment of their account balances. Ask a TPA to provide you a complete listing of these codes and their meaning. Maybe more important demographic questions  you could ask would be:

  • Is there a high percentage of job and skill diversity among your employees?
  • What is the eligibility requirement to join the company 401(k) plan?
  • How many shifts do you have?
  • How many locations do you have?
  • What percent of employees are within five years of retirement?

These demographic questions can be the solution in helping you build your value proposition and provide the “why” for why is it worth the pain to change to your services?

Once you have the demographics, get to the operational issues. Certain, specific questions can show your industry knowledge and spark further conversations:

  • Does your plan offer auto enrollment and auto escalation features?
  • Do you process payroll internally or through an outside vendor? Which vendor?
  • How often can eligible employee enter the plan? Change their savings rate?
  • What do your plan participants say about the plan? The website? Statements?
  • Does the company 401(k) plan allow for loans and/or hardship withdrawals? Are these provisions being abused?
  • Does the company have a Health Savings Account (HSA) program?

Large plan filers (those with more than 100 participants) must include more detailed information on the Form 5500 and related schedules since they must attach an opinion from an Independent Qualified Public Accountant. These audited financial statements include more information such as the eligibility requirements, the underlying investments and several other operational issues. They may list the auto enrollment features of the plan (if any), if the plan has a Safe Harbor Provision or in-service distribution options. What it won’t list is very specific questions regarding the plan investments:

  • Are you currently contracting with an ERISA 3(21) or 3(38) Advisor?
  • How were the investment options chosen? How often are they reviewed?
  • How do employees make investment allocation decisions? Worksheets, online questionnaires?
  • Do you have an investment policy in place?
  • Who holds the largest account balance? (A $10,000,000 plan that saves 50bp on expenses saves $50,000 a year, proportionately benefiting the largest account holders.)

Service issues and concerns are not listed in the audit, but can be important to the decision makers:

  • What are the top concerns of your employees? Are there other enhancements you want to make to the 401(k) plan?
  • Do you currently survey employees to gather their concerns and understanding of company benefit programs?
  • When was the last enrollment meeting or group education meeting? How frequent would you like someone onsite to work with your employees?
  • What types of issues arise, i.e., payroll transmission, compliance testing, notices, timely responses, that has caused you concern enough to consider a change?
  • Is Fiduciary protection, improved employee retirement readiness, or overall financial wellness for your participants important to you? Which is most important? Least?
  1. Meet With The Prospect

Once you have a meeting in place, summarize your findings to a one page sheet showing specific improvement areas and procedures that you will help put into place once you are hired. Possible opening questions can include the following:

  • Tell me what you would improve about your 401(k) plan?
  • There are two types of 401(k) programs, those that involve an Advisor to assist you and your employees and those that don’t. Which one do you have?
  • What goals are you working to accomplish with your company 401(k) plan? ‐ Increase participation ‐ Increase contributions ‐ Decrease loan usage ‐ Decrease hardship withdrawals ‐ Improve employee retirement readiness
  • How does your plan compare to companies you compete against for the same employees?
  • What would need to change for us to have an opportunity to serve your plan?

Do not automatically assume you need to change everything to show you can bring enhanced services to the plan. Taking over the plan as Broker of Record is the first goal. There may be nothing wrong with the plan that more attention and care won’t fix. Making small changes, for instance, to the investment lineup or adding some enhanced plan design options, might make all the difference in the world to the client and won’t totally disrupt the day-to-day activities of the company. Remember, you’re here to help the client.

You may also find business development value in our article “The 7 Step Guide to Growing your 401(k) Business”. Feel free to call us with additional questions on developing your 401(k) business. We love to partner with advisors for a win-win relationship.

Is Auto-Enrollment right for your company or organization?

Since the Pension Protection Act of 2006 (PPA), Automatic Enrollment features in 401(k) and 403(b) plans have increased in popularity for large and small employers alike. PPA added fiduciary protection for Plan Sponsors, as well as safeguards for employees with requirements for advanced notices and default investments. But what exactly is an Automatic Enrollment feature? Is it appropriate for your plan design? First, let’s look at the requirements, then we’ll look at the pros and cons. With the right knowledge and information, you can determine if the Automatic Enrollment feature is right for you.

Educating Participants and Auto-Enrollment Options

The basic tenet of an Automatic Enrollment feature is this; Employees do not participant in the 401(k) plan mainly because of apathy and lack of education. They don’t know how much to contribute, and they don’t know where to invest their funds. An Automatic Enrollment feature takes that decision away from the employee; the employee is automatically enrolled in the 401(k) or 403(b) plan at a default level and their contributions are invested in a default investment fund unless the employee proactively says no.

There are three types of automatic options to consider: Automatic Contribution Arrangement (ACA), Eligible Automatic Contribution Arrangement (EACA), and Qualified Automatic Contribution Arrangement (QACA).

Here’s a quick overview of each:

ACA – The most flexible design, where there is no minimum contribution rate or required auto-escalation. There is also no required employer contribution.  This design can be added to a plan at any time.

EACA – This design is like an ACA where there is no minimum contribution rate or required auto-escalation. There is also no required employer contribution.  However, an EACA must be in place as of the first day of a Plan year. Also, employees may have up to 90 days to request to receive the return of their employee deferrals, without incurring the tax penalty.

QACA – The least flexible design, where there is a minimum contribution rate, the employer must provide a specific matching contribution, and participants must be fully vested in this match within two years of service.  The QACA generally must be in place the entire year.  If done correctly, this design will automatically satisfy certain non-discrimination testing.  Also, employees may have up to 90 days to request to receive the return of their employee deferrals, without incurring the tax penalty.

Benefits and Drawbacks of Auto-Enrollment

The automatic enrollment feature isn’t a one size fits all and it isn’t the best choice for all companies and organizations, so look at these pros and cons before moving forward.

Benefits of auto-enrollment:

  • Employees will be more likely to participate, and contributions will increase – This can help when it is hard to get employees to take part in the enrollment process.
  • Employers may provide an automatic escalation feature where employees increase their contribution rate each year.
  • Employees will defer paying income tax on their contributions.
  • Employees are more likely to meet their retirement goals by participating immediately when they become eligible, rather than potentially waiting until later in their career.
  • Auto-enrollment may help the nondiscrimination testing results, while the QACA plan will exempt a plan from certain nondiscrimination testing requirements.

Possible drawbacks of auto-enrollment:

  • Setting the auto-enrollment contribution rate lower than a participant would have elected may negatively impact employee retirement savings goals, while setting it too high may cause employees to fully opt-out of the plan, negatively impacting both employee savings and overall participation.
  • Employees may become disengaged and wrongly believe their needed retirement savings will be taken care of with auto-enrollment. The defaulted investment option may not be appropriate for the employee based on their specific situation. As Plan Sponsors, companies should continue to provide retirement education programs to their employees through their plan’s investment advisor to address this potential pitfall.
  • There may be some added administrative time to incorporate and explain the automatic enrollment feature to employees, including the notice requirements for both the default or increasing deferral rate and the default investment option chosen by the employer.
  • Employer matching contributions may increase with increased employee participation.
  • Payroll integration is a must! Missing the first deduction for a newly eligible employee or missing the automatic increase deadline for a plan offering auto-increase features, can result in penalties to the employer, and a required contribution equal to 25% of the missed deferral plus the full match that should have been contributed.
  • Small balances – since newly eligible participants are default enrolled, their initial account balances may reduce the average account balance of the plan overall. Some investment platforms may charge higher fees for plans with lower average account balances, so make sure to check with yours.

Still not sure if auto-enrollment is right for your organization?

While there is no blanket answer, we can help you understand how implementing an auto-enrollment feature might affect your company or organization – Contact us today!

The 7 Step Guide to Growing your 401(k) Business

Most financial advisors are skilled salespeople, but 401(k) advisors require a different sales approach and an entrepreneurial mindset. The buyer isn’t always the end user and sales pitches are aimed at a human resource executive, a CEO or a CFO, rather than plan participants. Most financial advisors are more accustomed to selling to individuals, whereas 401(k) plans, especially those of larger organizations, involve tailoring conversations to a decision maker or committee before any presentations are made to the ultimate users; the participants.

In addition, to be a successful retirement plan advisor the service model must be tweaked. Whereas financial advisors meet with clients perhaps a few times per year, an average 401(k) plan client requires more attention. Advisors are expected to provide investment monitoring reports, set up meetings for new plan enrollees, and facilitate fiduciary committee meetings several times a year.

For the financial advisor who seriously wants to increase 401(k) business or those who want to get started in the 401(k) business, there is plenty of opportunity. Those willing to do a top-notch job as a 401(k) advisor will find plenty of occasions to develop and increase their book of business.  Following the 7 steps below will get financial advisors closer to that success.

 

  1. FIDUCIARY DIFFERENTIATION: 

As a 401(k) advisor, you have to determine your market and which 401(k) plans you will target. Will you target larger plans or plans that are smaller in asset size? If you are a registered investment advisor, you will also have to determine what your fiduciary role will be, will you be a co-fiduciary, or a type of ERISA fiduciary? If you are a broker, be mindful of rules the Department of Labor implements that may define you as a fiduciary. Acting as a fiduciary allows 401(k) advisors to separate themselves from the crowded financial advisor competition. The fiduciary responsibility also helps to set trust by making it clear that all recommendations made are based solely on the clients’ best interest.

To understand Fiduciary responsibilities better, you can read the articles below.

 

  1. KNOW THE 401(k) BUSINESS:

There is an awful lot to learn for those that focus on retirement plans. The industry is always evolving, and anyone from novice to expert needs to dedicate time in order to keep their skills, and knowledge base, sharp. Get in-depth fiduciary training and education as well as investment analysis and consulting expertise. It’s most likely that financial advisors working in this specialized area will be deemed a plan fiduciary. They need to understand how to both assist plan sponsors in mitigating their fiduciary liabilities, as well as their own. There are a number of resources for this type of education. The National Association of Plan Advisors, part of the American Retirement Association, offers credentialed programs for the Certified Plan Fiduciary Advisor (CPFA) or Qualified Plan Financial Consultant (QPFC).

Having a working knowledge of the Employee Retirement Income Security Act (ERISA) of 1974 is pertinent. Learning the act’s rules and regulations is the main differentiator between wealth management and retirement plan advising. It’s almost like getting a quasi-law degree and advisors must be prepared to invest time acquiring this specialized kind of knowledge. There are modules on retirement plans included in the Certified Financial Planner (CFP) Designation, as well as online resources provided by the Society of Certified Retirement Plan Financial Advisors.

However, advisors don’t need to be ERISA experts. They can partner with record-keeping firms or independent third-party administrators (TPAs) who can provide that expertise. Advisors do need to have somewhat of a technical understanding of the inner workings of 401(k) plans, though. For example, knowing plan design and the functions of different vendors such as record keepers and TPAs to be able to hire and monitor experts.

  1. SEEK OUT THE 401(k) EXPERTS:

For 401(k) advisors with limited retirement plan expertise, to look smart on 401(k) plans, surround yourself with smart 401(k) people that already have the certifications and knowledge you need. Being a financial advisor is difficult enough, so you aren’t expected to become retirement plan experts. However, it is important to have enough knowledge to know when to bring in the experts so that your clients are not at a disadvantage. As a financial advisor, you need to augment your services and show why your services have a value compared to the competition and the best way to do it is to rely on retirement plan consultants and ERISA attorneys for advice, consulting, and knowledge. It doesn’t make you look bad to bring in another subject matter expert. You are the relationship manager, the “head coach’; and you have the power to influence the client to move one way or another because of your relationships. Also, remember to avoid the producing TPA. Producing TPAs are firms that also have an advisory business. While people can argue about the value of producing TPAs, you have to realize that since they are in the 401(k) advisory business, they are also your competition.

 

  1. DEVELOP STRATEGIC ALLIANCES:

Make it easier for other business professionals in your circles of influence to understand the 401(k) business. Partner with, and educate, independent payroll providers, property and casualty agents, auditing and CPA firms. Teach them about the state-of-the-art options in plan design, and tax benefits of retirement plans at both the corporate and employee level. Many of these people are very outdated in their knowledge level, which creates big referral opportunities. Getting close to those that know key decision makers in the 401k advisor hiring process makes it easier to get introduced to the right people in order to spend the right amount of time in closing and on-boarding new business.

 

  1. EDUCATE AND PROBLEM SOLVE:

Once you’ve solved a complicated situation for one client, look to apply the solution to other clients. If one client had an issue, very often so do others and often don’t know it. It’s exactly how niche markets are developed and can lead to a thriving practice.

Certain types of businesses can have similar objectives for their 401(k) plans, and thus similar plan designs will work best for them. For example, medical specialist practices that have a handful of very highly-compensated doctors, as well as a handful of lower-compensated staff, are usually interested in methods to maximize the amount of money the doctors can contribute to a plan. A specific plan design, one that combines a 401k profit sharing plan with a cash balance defined benefit plan, for example, is a good way to do it. Advisors who specialize in this approach gain credibility and can win business, and referrals, from firms that are similar.

 

  1. OBTAIN ORGANIC BUSINESS REFERRALS:

The most valuable form of marketing is word-of-mouth. Many great leads can come from an advisor’s existing client base, even if the clients are not in charge of a company retirement plan. When wealth management clients are familiar with 401(k) services offered, they can provide referrals year after year. A way to ensure your client base is knowledgeable enough to refer is to provide educational platforms and experiences for clients and prospective clients that allow them to experience the level of expertise and understanding required for proper retirement strategy including extenuating industry circumstances.

However, ensure to qualify a referral and limit wasted time with the wrong person that has no influence or authority to make a decision on a 401(k) plan. Get in front of the right person and bring in the right resources to close. You have to make a conscious effort to distinguish between wealth management and retirement planning when speaking with a prospect and ensure the right questions are being asked. Here are some good qualifying and discovery questions to ask (link to the qualifying and discovery questions).You also need to know when to lean on a TPA that can come in and put a proposal together for a group-level conversation and help close the business.

  1. BE SEEN AS A LEADER:

Use your strengths as the relationship specialist to your advantage. Share informative content with your client and prospect database. Use social media, emails and blogs, if your firm allows them, to share content that will show your expertise. You can write, use videos or podcasts to get your message across. Creating this type of content is great for branding and overall business development and the most cost effective tools you can use. Developing original content can be time consuming and maybe you don’t yet have the expertise to do it. Your firm may have access to pre-approved third-party content that you can use to show you are thinking of ways to help your prospects. Distributing and sharing such material as your own helps to ensure you are top-of-mind when the opportunity arises. There is no shortage of available information, but sharing information from experts you know you can lean on to close a sale shows your client that you have a network of quality people that can ensure a quality plan design based on their needs. The EJReynolds blog regularly produces quality content geared to keeping plan sponsors informed as well as helping advisors keep their clients knowledgeable.

Building any type of business isn’t easy. If you are dedicated to your clients and dedicated to the role of a 401(k) retirement plan advisor, you will succeed as long as you show a value to the service you provide. Although the sales process is longer (these plans do not close overnight), they tend to be sticky assets that will help you retain assets under management with additional sales opportunities. With so many changes to the retirement plan marketplace which can have plan sponsors reconsider their current plan providers, it may be the opportunity you need to exploit and build a 401(k) advisory business.

Choosing an Auditor for your Retirement Plan

With summer upon us and fiscal deadlines approaching, you may be facing the daunting task of hiring an auditor. 

ERISA requires an annual audit on plans with more than 100 eligible participants. Choosing a qualified plan auditor helps insure that you meet your legal responsibility to file a complete and accurate annual report/return known as the Form 5500. This form must meet standards from both the Internal Revenue Service (IRS) and the Department of Labor (DOL).

The fees charged by CPAs for retirement plan audits can range from $5,000 to $20,000. It may be tempting to shop for auditing services on price alone, but this approach can have long term consequences.

If your Form 5500 is considered incorrect or incomplete, it is subject to rejection and Plan Sponsors could be charged substantial civil penalties. In some cases, the penalties could even double the initial cost of your audit.

The IRS can charge you up to $25 per day, up to $15,000.

• The DOL can charge penalties of $300 per day until a complete Form 5500 is filed, up to $30,000 per year.

Full Scope Audits Are More Comprehensive Than Limited Scope Audits

The Limited Scope Audit option is available for retirement plans whose assets are prepared and certified by a bank or similar institution, or by an insurance carrier that is regulated, supervised, and subject to periodic examination by a state or federal agency that acts as a custodian or trustee. The Limited Scope option relies on the trustee or custodian holding the assets to provide certification that the investment information is accurate and complete. In a Full Scope Audit, everything in the plan, including the investments, is subject to audit testing. The Limited Scope Audit limits the information that is audited.

The Limited Scope Audit composes 65% of retirement plan audits, but it does not protect the participants, according to the former  Assistant Secretary of Labor Phyllis C. Borzi. Speaking at a recent conference of Certified Public Accountants, Borzi called the Limited Scope Audit “practically useless.” She also told the attendees that the primary auditors who are most likely to produce substandard audits are those who think their rate of compensation is inadequate.

Choosing a Retirement Plan Auditor

Here is a list of things you should review before choosing an auditor for your plan:

• Your auditor must be licensed/certified – Federal law requires that the auditor you engage must be licensed or certified as a public accountant by a State regulatory authority.• Your auditor must be independent – The auditor you choose should not have any financial interests in the Plan or the Plan Sponsor. The auditor must be able provide an objective, unbiased opinion about the financial condition of the Plan.

• Your auditor should be experienced – According to the Department of Labor (DOL) one of the most common reasons for deficient accountant’s report is the failure of the auditor to perform test in areas unique to qualified plans. Hiring an auditor with training and experience in performing qualified plan audits will make it more likely the auditor is aware of the special auditing standards and rules that apply to qualified plans. 

Check References Before Engaging an Auditor

• Ask about their work with other qualified plans.

• See if they are a member of AICPA’s Employee Benefit Plan Audit Quality Center. The Employee Benefit Plan Audit Quality Center helps auditors meet the challenges of performing quality audits in the complex areas of qualified plans.

• You may also wish to verify with the correct State regulatory authority that the auditor’s holds a valid, up-to-date license or certificate to perform auditing services.

When a Less Experienced Auditor Is Assigned to Your Plan

There will be some instances when a less experienced auditor may be assigned to perform the audit of your plan to reduce audit costs. When this happens, make sure that a more experienced manager or partner will be reviewing their work.

The Engagement Letter

Once you have chosen an auditor, a contract also known as an “engagement letter” will be provided by the auditor for review and approval.

The letter of engagement from your auditor should include:

• The work to be performed.

• The timing of the audit.

• The responsibilities of both parties.

Review the letter carefully and resolve any questions prior to engaging the auditor for a smoother auditing process. Many of our clients at EJReynolds, Inc. undergo an annual audit and we work with several quality audit firms. If this process is new to you, or if you are interested in speaking with a new auditor, please feel free to ask your plan’s administrator for a list of referrals.

Your fiduciary responsibility regarding payment of plan fees from plan assets

In general, the fees associated with on-going administration of a retirement plan may be paid from plan assets provided they are necessary and reasonable. Certain expenses known as “settlor” expenses, however, cannot be paid for from plan assets.

What is considered to be reasonable?

The Department of Labor (DOL) requires (1) the expense is reasonable in light of the services provided; (2) the service is necessary; (3) the arrangement can be terminated without penalty (this doesn’t mean there can be a termination fee, though); and (4) the service provider has provided certain required disclosures regarding their fees and services prior to entering into the arrangement.

What are “settlor” expenses?

These are expenses that must be paid for by the employer because they are associated with the employer’s functions as a settlor of the plan trust.

Is there a simple way to determine whether a particular expense is a settlor expense?

Not really. Unfortunately, the DOL has not issued comprehensive guidance on this front, but they have issued some guidance. That said, there are two basic questions that should be considered:

  1. Is the expense necessary for the on-going administration of the plan?
  2. Is the expense discretionary and who does it primarily benefit?

In other words, if the expense is reasonable and relates to the normal operation of the plan, the expense may be paid for by the plan. If, on the other hand, the expense is discretionary and primarily benefits the employer, it would generally be considered a settlor expense.

What are examples of expenses that can be paid for by a plan?

  • Annual administration, recordkeeping, compliance testing, and Form 5500 preparation
  • Annual plan audit fees (large plan filers)
  • Investment management, advisory, trustee and custodial fees
  • Participant education, enrollment materials and required notices and disclosures
  • Required plan amendments and restatements
  • Fidelity bond
  • IRS determination letter filing fee
  • Participant distribution and loan fees
  • QDRO review

What are examples of expenses that cannot be paid for by a plan?

  • Plan design studies and projections (these primarily benefit the employer and are viewed as a settlor expense by the DOL)
  • Initial plan document, discretionary amendments and discretionary restatements (the DOL appears to view these as settlor expenses, even though the plan document is required as a matter of plan qualification)
  • Fees associated with the decision by an employer to terminate a plan
  • Fees and expenses related to plan corrections made under available IRS and DOL programs
  • Fees and expenses related to filing a late Form 5500 under the delinquent filer program

Are the rules different if the fee will be paid from the forfeiture account?

No. Amounts held in a plan forfeiture account are plan assets; the same rules apply.

Note: Some plans use “ERISA budget accounts” or “revenue holding accounts” to accept revenue sharing payments from plan investment providers and pay plan expenses. It is our view that these accounts generally should be treated in the same manner as any other plan asset.

How can eligible expenses be charged to plan participants?

Plan-level expenses may be charged (1) in proportion to participant account balances, (2) as a flat fee to participant accounts, or (3) some combination of both methods. In addition, certain plan fees may be paid for by the plan through the plan’s investment vehicles and are reflected as a reduction in investment returns.

Participant-level fees (e.g. distribution and loan fees) are typically charged directly to participant accounts.

Does the plan document need to provide that expenses can be paid for from the plan?

Generally, yes, and most plans do allow for eligible expenses to be paid for from plan assets. The plan should also state that fees may be paid for from the forfeiture account, if desired.

Does it make sense to charge eligible expenses to a plan?

It really depends on the plan and the goals and objectives of the plan sponsor. If the plan pays (whether directly or indirectly through plan investments), overall investment performance is reduced, and this can make a big difference over time. For plans of closely-held businesses, it often makes more sense for the employer to pay the expenses (they are deductible). It is much more common in large plans for the plan participants to bear most (if not all) of the related costs.

If eligible expenses are paid for by the plan, are there any required disclosures?

Yes. There are disclosure rules that apply for both plan service providers and plan participants (in participant-directed plans).

Note: Whether a particular fee or expense may be paid for by a plan is a fiduciary decision. Plan fiduciaries are charged to act prudently and in the best interest of plan participants. If a fee is charged improperly, the fiduciary(s) may be held liable so plan sponsors should exercise due care when determining whether it is appropriate for a plan to pay for a given expense.

 

The 10 most frequently asked questions about Fidelity Bond

  1. What is a fidelity bond?

A fidelity bond is a special type of insurance that protects plan participants from the risk of loss due to acts of fraud or dishonesty by plan officials.

  1. Is a fidelity bond required for my plan?

Generally, yes. With limited exceptions, all qualified plans (i.e. 401(k) plans, profit sharing plans, ESOPs, certain 403(b) plans, etc.) are required by law to be covered by a fidelity bond.

 

  1. Which types of plans are not required to have a fidelity bond?

Plans that are exempt from certain provisions of ERISA are not required to be covered by a fidelity bond. These plans include “one-participant” plans (i.e. plans that only cover the owner of a business (or the owner and his or her spouse), or only the partners of a partnership (or the partners and their spouses)), governmental plans, most plans sponsored by churches, and 403(b) plans that meet certain requirements.

 

  1. Who must be covered by the fidelity bond?

The plan must be the named insured; however, each person who “handles” plan assets must be covered by the bond. A person is considered to “handle” plan assets if his or her responsibilities are such that plan participants could incur a loss if he or she were to commit an act of fraud or dishonesty with respect to the plan.

 

  1. How is the amount of required coverage determined?

In general, the fidelity bond must be equal to at least 10% of plan assets as the beginning of each plan year, subject to a minimum bond amount of $1,000 and a maximum of $500,000 ($1,000,000 for plans that hold employer securities).

 

Note: Plans that hold more than 5% of Plan assets in “non-qualifying assets” (e.g. limited partnerships, third-party notes, collectables, real estate, mortgages, etc.) are subject to additional requirements.

 

  1. Can the plan be covered under the company’s general policy?

Yes; this is permissible provided that all of the necessary conditions are satisfied. For example, the plan must be a named insured, and the policy may not have a deductible (at least with respect to the portion of the policy covering the plan).

 

  1. Can a fidelity bond cover more than one plan?

Yes; each plan must be a named insured and assets under each plan as of the beginning of the plan year must be considered when determining the required coverage amount.

 

  1. Is a fidelity bond the same thing as fiduciary insurance?

No; fiduciary insurance provides protection for fiduciaries individually (rather than plan participants) in the event a legal claim is made against a plan fiduciary for a breach (or alleged breach) of their fiduciary responsibilities.

 

  1. Can the cost for the fidelity bond be paid for from plan assets?

Yes; the plan can pay for the fidelity bond assuming the plan permits for payment of plan expenses (which most do).

 

  1. Is there a penalty or fine if a plan doesn’t have coverage?

There isn’t a specific penalty or fine under the regulations; however, the amount of the bond must be reported on the plan’s Form 5500 each year which is filed with the Department of Labor (DOL).

 

If the plan is not covered by a fidelity bond, or if coverage not sufficient, this could certainly raise a “red-flag” and prompt an unwanted plan audit by the DOL or Internal Revenue Service.

 

If you would like to learn more about these rules, please contact us and we will be happy to assist you.

 

 

The 11 most asked In-Service Distribution questions

An in-service withdrawal occurs when an employee takes a distribution from a qualified, employer-sponsored retirement plan, such as a 401(k) account, without leaving the employ of their company.  Read the 11 FAQs below to ensure you are informed on these distributions next time you are asked.

  1. When can a participant receive a distribution from a retirement plan while still working?

It depends. A plan may (but is not required to) allow participants to receive in-service distributions. In addition, certain conditions must be satisfied which are set forth under the Internal Revenue Code and regulations.

  1. Are the rules different depending upon the type of contributions?

Yes. Elective deferrals (i.e. 401(k) and Roth contributions) can only be distributed while a participant is still working under limited circumstances. The following in-service distributions are permissible, if provided for under the plan document:

  • Hardship distributions
  • Distributions on or after the date a participant has attained age 59 ½
  • Qualified reservist distributions
  • Distributions after a participant has become disabled (as defined under the terms of the plan)

Safe harbor nonelective and matching contributions may only be distributed upon reaching age 59 ½, hardship or disability. This also holds true for QNEC and QMAC account balances.

Profit sharing and employer matching contribution account balances may be distributed upon attainment of a stated aged (which may be less than age 59 ½), after the contributions have accumulated (or “aged”) in the plan for at least 2 years, after an employee has been a plan participant for at least 5 years, or upon a stated event.

Rollover and voluntary after-tax (non-Roth) contribution account balances may be distributed at any time.

Different rules apply to pension plan balances, which generally may not be distributed to an active employee prior to attainment of age 62.

  1. Are in-service distributions eligible for rollover?

Generally, yes. With the exception of hardship distributions, any of the in-service distributions described above are eligible for rollover.

  1. Are in-service distributions subject to the additional 10% income tax for early withdrawals?

Yes. Unless the participant has attained age 59 ½, the taxable portion of the distribution is generally subject to the additional 10% income tax. There are exceptions to this rule if the participant is disabled (as defined under the Internal Revenue Code) or if the distribution is a qualified reservist distribution.

  1. What qualifies as a “hardship” distribution?

The regulations provide “safe harbor” rules, which most plans follow. Under these rules, hardship distributions may be made for the following reasons:

  • To prevent foreclosure or eviction from a participant’s principle residence
  • To purchase a participant’s principal residence (excluding mortgage payments)
  • To pay for post-secondary education for a participant, his spouse, children or dependents for the next 12 months
  • To pay for unreimbursed medical expenses that would otherwise be deductible (without consideration to the deduction limit) for a participant, his spouse, children or dependents
  • To pay for funeral expenses for a participant’s deceased parent, spouse, child or dependent
  • To pay for expenses necessary to repair a participant’s principle residence as a result of a casualty
  • Expenses incurred as a result of a natural disaster in a federally declared disaster area
  • Medical, post-secondary educational, and funeral expenses for a participant’s primary beneficiary
  1. Are in-service distributions from Roth accounts taxable?

It depends. Roth contributions are not taxed when distributed, but the related earnings may be unless the distribution is a “qualified distribution”. In general, a distribution is a qualified distribution only if the distribution is being made on account of death, disability or attainment of age 59 ½ and the participant has had a Roth account under the plan for at least 5 years.

Distributions that are rolled over to a Roth IRA are not taxable.

  1. What are “Qualified Reservist” distributions?

A plan can allow participants who have been called to active duty for a period of more than 179 days (or indefinitely) to receive a distribution of their elective deferrals.

  1. Are distributions from voluntary after-tax accounts taxable?

Like Roth contribution account balances, the after-tax contribution portion of the account is not taxable but the related earnings are unless the distribution is rolled over to a traditional IRA. If rolled over to a Roth IRA, the related earnings are taxed.

  1. If a plan allows in-service distributions, can the provisions be removed?

A plan can remove a hardship distribution feature at any time; it is not a protected benefit. The other types of in-service distribution options discussed above are protected under the law. What this means is that any of these provisions may be removed prospectively; however, the participant account balances as of the effective date of the change must continue to be eligible for in-service distribution under the plan’s prior provisions.

  1. If an employee terminates and then is rehired, can he still receive a “termination” distribution?

No. After an employee has been rehired, he or she is no longer eligible to receive a termination distribution and would have to qualify for an in-service distribution under the terms of the plan.

  1. What happens if a plan issues an in-service distribution to a participant who doesn’t qualify to receive one under the terms of the plan?

The bottom line is that the plan sponsor must take corrective actions; this is plan qualification issue. The good news is the IRS provides methods for correcting such mistakes under their Employee Plans Compliance Resolution System (EPCRS). Generally, the employer must take steps to have the participant return the funds to the plan, along with related earnings, but there are other options as well.

To learn more about in-service distributions, please contact us and we will be happy to assist you.

What does it mean to be top-heavy?

In general, a plan is considered to be top-heavy when more than 60% of plan assets are attributable to “key employees” as of the “determination date”. Top-heavy plans are subject to certain minimum contribution and vesting requirements.

Who is a key employee?

A key employee is an employee who at any time during the plan year: (1) owned more than 5% of the company, (2) owned more than 1% of the company and had compensation in excess of $150,000, or (3) was an officer of the company with compensation in excess of a specified dollar amount ($180,000 for 2019). Note that stock attribution rules apply when determining ownership for this purpose.

What is the determination date?

For the first plan year, the determination date is the last day of the plan year. For subsequent years, the determination date is the last day of the prior plan year. Note that top-heavy status is measured annually and may change from year to year.

How is top-heavy status calculated?

The top-heavy ratio is calculated by comparing the account balances of key employees to non-key employees, after making certain adjustments. First, certain participant balances are excluded (i.e. rollover account balances from unrelated employers; account balances of terminated participants who did not work for the company during the year; and account balances of former key employees). Next, certain amounts are added back (i.e. distributions made on account of termination, death or retirement if the participant worked for the company during the year; and in-service distributions made within the 5-year period ending on the last day of the plan year).

 What are the minimum contribution requirements for top-heavy plans?

Generally, the employer must make a contribution on behalf of all non-key participants who were employed on the last day of the plan year equal to the lesser of 3% or the highest contribution rate of any key employee. Certain contributions count towards satisfying the top-heavy minimum requirement (e.g. employer matching contributions, profit sharing contributions, and forfeiture allocations). If a participant has already received an amount sufficient to satisfy the top-heavy minimum, no additional contributions must be made on their behalf.

Caution: Plans that allow for immediate entry for 401(k)/Roth purposes but have a longer eligibility period for employer contributions are still required to make top-heavy minimums for non-key participants who were only eligible for the 401(k)/Roth portion of the plan.

How is the highest contribution rate for key employees determined?

All contributions (other than rollover contributions) are considered when calculating the contribution rates for key employees. This means that 401(k) deferrals and Roth contributions are included.

What are the minimum vesting requirements?

Top-heavy plans must use either a 3-year cliff or 6-year graded vesting schedule. This requirement has little impact since most plans use vesting schedules that meet or exceed these standards.

Are safe harbor 401(k) plans exempt?

Safe harbor plans are generally not required to make top-heavy minimums if all non-highly compensated employees are eligible for the safe harbor contribution, and the employer makes no contributions to the plan other than (1) safe harbor matching contributions, (2) additional matching contributions that satisfy the safe harbor rules, or (3) safe harbor nonelective contributions.

Caution: Forfeiture allocations can trigger top-heavy minimums in safe harbor plans.

What happens if the employer doesn’t fund top-heavy minimums?

Failure to make top-heavy minimums is an operational failure that can jeopardize the qualified status of the plan. As a result, any “missed” top-heavy minimums must be funded along with related earnings.

If you have any questions regarding the top-heavy rules or would like to learn more, please contact us.

 

Most Common Mistake: Failure of Timely 401(k) Deposits

One of the most common mistakes made by 401(k) plan sponsors is failure to deposit participant contributions (i.e. 401(k) deferrals/Roth contributions) and loan payments in a timely manner. Having said that, it is worthwhile reviewing the rules and consequences of making late deposits.

What are the rules?

In general, the Department of Labor (DOL) requires that participant contributions and loan payments be deposited as soon as the amounts can be reasonably segregated from the general assets of the employer.  This is because the amounts are considered to become plan assets at this point in time. Under examinations, the DOL also reviews deposits for consistency to determine whether contributions were funded in a timely manner.

Safe Harbor for Sponsors of Small Plans

Under the regulations, there is a “safe harbor” for sponsors of small plans (generally, plans with less than 100 participants). Under this rule, participant contributions and loan payments will be deemed to have been funded in a timely manner provided that the contributions are deposited within seven business days following the date in which the amounts were withheld.

Sponsors of Large Plans

Since the 7-business day rule does not apply to large plans, these plan sponsors must abide by the general rule of making the deposits as soon as the amounts withheld can be reasonably segregated from the general assets of the employer. As a result, we generally recommend these employers make deposits within three business days on a consistent basis.

What are the consequences of making late deposits?

The employer has engaged in a prohibited transaction with the plan because the employer had “use” of plan assets.

  • The late deposit must be reported on Form 5500
  • The employer must pay a 15% excise tax on the amount involved by filing Form 5330
  • Participants must be credited with lost earnings (the DOL has an online calculator that may be used for this purpose in certain situations)

Is the employer required to file under the DOL’s Voluntary Fiduciary Correction Program (VFCP)?

No. Filing under VFCP is not required. Nevertheless, employers may want to file under this program to obtain relief from the DOL for penalties that may otherwise be imposed and agreement not to investigate the plan fiduciaries for failure to deposit the amounts in a timely manner.

If you have any questions regarding the deposit rules or would like to learn more, please contact us.

IRS Expands Self-Correction Programs

On April 19, 2019, the IRS issued guidance expanding the circumstances under which plan sponsors can make corrections for certain plan failures under the Employee Plans Compliance Resolution System (EPCRS) without seeking IRS approval. This is welcome relief since filing under the Voluntary Correction Program (VCP) can be costly, especially for small employers.

What changed?

The new guidance expands the corrections that can be made under the Self-Correction Program (SCP) by permitting corrections for certain plan loan, operational and plan document failures which could previously only be made by filing an application under the VCP. Since the IRS User Fees on the VCP Filings increased substantially last year, filing a VCP Application can be a costly process.

Plan Loan Failures

Plan loan failures are common and often occur when an employer fails to withhold loan payments from an employee’s paycheck. If the payments are not caught up within a specific time frame (known as the “cure period”), the loan is defaulted and the outstanding loan balance is taxed to the participant.

Previously, if the mistake was found after the expiration of the plan’s cure period, the only way to make the correction (and avoid taxation to the participant) was to file under VCP. This could be quite costly, since the VCP filing fees are based on plan assets (and not the failure itself). For example, if a plan sponsor needed to make corrections for three participants and the plan had $1,000,000 in assets, the VCP filing fee would be $3,000 (not including service provider fees to prepare the filing).

Under the updated procedures, a plan sponsor is permitted to make the correction for a loan that has gone into default under SCP assuming certain conditions are satisfied. The correction methods, however, remain unchanged. In general, a defaulted loan can be corrected by (1) having the participant make a lump-sum payment for the late loan payments, including accrued interest; (2) reamortizing the outstanding loan balance, including accrued interest, over the remaining term of the loan; or (3) a combination of both methods.

Note: In order to correct a defaulted loan (under SCP or VCP), the maximum 5-year repayment term (or longer period in the case of a home loan) must not have expired.

The new procedures also provide additional correction options for other types of plan loan failures.

Operational Failures

An “operational failure” is simply defined as a failure to follow the terms of the plan document. Many plan mistakes fall within this category. While most operational failures were previously eligible to be corrected under SCP (assuming the timing and general requirements were satisfied), there were only limited and specific circumstances under which corrections could be made by amending a plan retroactively to conform its terms to the plan’s prior operations.

For example, if plan operationally allowed all participants to make Roth contributions (without amending the plan to permit Roth contributions), a VCP filing would have been required to amend the plan retroactively to correct the mistake. Under the new guidance, this generally could be done under SCP.

These changes should give plan sponsors much greater flexibility in making necessary plan corrections, since the rules have been relaxed for retroactive amendments used to correct operational failures. This doesn’t mean that any operational failure can be made by retroactive amendment under SCP, though. The IRS did impose specific restrictions, but this is still a huge win!

Plan Document Failures

Plan document failures happen when a plan contains a provision (or provisions) that, at face value, is not permissible under the Code or regulations. They also happen when a plan fails to adopt a required plan amendment (or document restatement). Previously, such corrections could only be made under VCP. Under the updated guidance, plan sponsors are now permitted to make the necessary corrections under SCP provided the corrections are made within a specific time frame and other conditions can be met.

The Bottom Line

Mistakes happen; the rules governing retirement plans are complex. This new guidance is great news for plan sponsors, making it much easier for them to work with their plan service providers to correct certain failures without a costly VCP filing.

To have questions answered about these new rules, please contact us.