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Defined Contribution Plans, Plus

Defined Contribution Plans, Plus

April 12, 2024

For employers who have taken on the responsibility of offering sponsored retirement plans such as 401(k), profit sharing, or defined benefit plans, the task is not as simple as just presenting the plan.

They need to gather extensive employee census information yearly, and one term that frequently comes up in these discussions is "Highly Compensated Employee" or HCE. But what does being an HCE mean, and why is it important to understand this classification?

Defining the Highly Compensated Employee

At its core, an HCE refers to an individual:

  1. Who owns more than 5% of the interest in the business at any time during the current or preceding year, irrespective of the amount they earn.
  2. Whose compensation surpassed a specified threshold in the preceding year. This threshold may change based on inflation or other determinants as set by the IRS. 

Significance of Identifying HCEs

  1. Non-discrimination Testing: The Internal Revenue Service mandates that employer-sponsored retirement plans do not disproportionately favor HCEs over non-highly compensated employees (NHCEs). To ensure this, the plan must undergo annual non-discrimination tests. These tests compare the deferrals, contributions, and benefits of HCEs and NHCEs to make sure they're proportionate and equitable.
  2. Contribution Limits: Being classified as an HCE may have implications on how much one can contribute to their 401(k) or similar plan. If a plan fails its non-discrimination tests, HCEs might be limited in their contributions or may have to receive refunds of a portion of their previous contributions.
  3. Advanced Planning: Knowing the HCE status can be vital for personal financial planning. HCEs might need to adjust their retirement saving strategies if their ability to contribute to certain tax-advantaged accounts is limited.
  4. Company Benefits Design: For employers, understanding who the HCEs are can help in designing benefits and compensation structures. Companies might want to consider other retirement solutions or compensation packages to better serve their HCEs and ensure they are competitive in the marketplace.

Staying Compliant

For employers, it's crucial to stay updated on the evolving definitions and thresholds set by the IRS regarding HCEs. Regularly liaising with your third-party administrator or entity responsible for plan administration can ensure that you stay compliant and avoid any potential penalties.

While being classified as an HCE can be seen as a testament to an individual's professional success, it also comes with certain implications concerning employer-sponsored retirement plans. Both employers and employees need to be aware of these to optimize retirement savings strategies and ensure fairness and compliance with IRS mandates. Understanding the nuances of HCEs is an essential step in achieving these objectives.

REPAYING COVID-RELATED DISTRIBUTIONS: GUIDANCE FOR DB PLAN SPONSORS

In the wake of the unprecedented health crisis caused by COVID-19, the U.S. government swiftly enacted the Coronavirus Aid, Relief, and Economic Security Act on March 27, 2020. This monumental relief package, the largest in U.S. history, included several provisions that directly impacted retirement and health savings arrangements. For sponsors of Defined Benefit Plans, understanding these changes, especially regarding Coronavirus-Related Distributions (CRDs), is critical.

Understanding Coronavirus-Related Distributions

CRDs are special distributions that allow eligible individuals to take up to $100,000 from their eligible retirement accounts, including Defined Benefit Plans, without the usual 10% early distribution penalty that typically applies to distributions made before the age of 59 ½.

Key features of CRDs include:

  • Tax Treatment: While these distributions are still subject to income tax, the tax burden can be spread over a three-year period, starting in 2020.
  • Repayment: The CARES Act also allows individuals to repay the CRD amount within three years to a qualified retirement plan or IRA. If repaid within this timeframe, the distribution will be treated as a rollover, and no tax will be owed.

Guidance for Defined Benefit Plan Sponsors

  • Amending Plan Documents: While not all retirement plans were required to adopt the CRD provisions, if you chose to do so, ensure that your plan documents are amended accordingly. The IRS has provided a grace period for these amendments, but it's essential to keep this on your radar.
  • Communication is Key: Regularly inform plan participants about the option to repay CRDs. Ensure that they understand the tax implications and the benefit of repaying within the three-year window.
  • Recordkeeping: Maintain meticulous records of all CRDs and any subsequent repayments. These records will be essential for both plan reporting and participant tax reporting.
  • Accepting Repayments: Ensure your plan is set up to accept CRD repayments. This may involve coordinating with your plan's third-party administrator or custodian. Establish a clear process and ensure that repayments are correctly credited. 
  • Stay Updated: The rules and regulations surrounding the CARES Act and CRDs can evolve. Keep abreast of any new guidance from the IRS or the Department of Labor to ensure continued compliance.

The CARES Act provided much-needed relief to millions of Americans, and as a Defined Benefit Plan sponsor, you play a crucial role in administering these provisions. By understanding CRDs, keeping your participants informed, and ensuring your plan is compliant, you help in extending this relief to those impacted by the pandemic. As always, consider seeking guidance from professionals or industry experts to navigate these provisions effectively.

FINANCIAL PLANNING SUPPORT FOR EMPLOYEES: A MUST-HAVE FOR PLAN SPONSORS

Amid a backdrop of rising financial concerns, including persistent inflation and record-breaking credit card debt, U.S. employees are voicing a growing need for financial planning assistance. As plan sponsors, recognizing and addressing these concerns is not only beneficial for the overall well-being of the workforce but is also crucial for optimizing productivity and employee retention.

A Snapshot of the Financial Stress Landscape

A recent Employee Financial Wellness survey by PwC presented a sobering view of the financial realities faced by a considerable proportion of the U.S. workforce:

  • 28% of full-time employees frequently find themselves financially strapped between paychecks.
  • Alarmingly, even those in higher income brackets aren't immune, with 15% of individuals earning $100,000 or more per year facing the same challenge.
  • Among credit card users who carry balances, 44% are grappling with making timely minimum monthly payments.

The financial strain doesn't stop at personal budgets. It bleeds into professional spaces:

  • 44% of financially burdened workers confess to being distracted by their monetary woes while on the job.
  • 36% of them are actively scouting for new employment opportunities, in sharp contrast to the 18% of their more financially secure peers.

The Growing Demand for Financial Guidance

While the stats paint a worrisome picture, they also reveal a silver lining: Employees are more open to seeking help than before. A commendable 74% of workers are signaling a desire for assistance with personal finances. The stigma around financial struggles and seeking guidance appears to be waning, with only a third of employees feeling embarrassed to seek advice, down from 42% in 2019.

Implications for Plan Sponsors

Given these findings, plan sponsors have a unique and timely opportunity to step in and make a difference:

  1. Financial Education Workshops: Regular seminars and workshops focused on budgeting, debt management, and savings can equip employees with vital tools and knowledge.
  2. Personalized Financial Counseling: Offering one-on-one financial counseling sessions can provide tailored advice, helping employees navigate unique challenges.
  3. Robust Retirement Planning: Enhance existing retirement plans with educational components, ensuring employees are maximizing benefits and planning effectively for their future.
  4. Flexible Financial Tools: Consider introducing tools and platforms that offer financial tracking, budgeting tips, and insights, enabling employees to take charge of their finances.
  5. Promote a Culture of Openness: By fostering an environment where employees feel comfortable discussing financial challenges, you'll break down barriers and encourage proactive seeking of help.
  6. Regular Feedback & Iteration: Regularly survey employees to understand their evolving financial needs, ensuring that the support you offer remains relevant and effective.

As the line between personal financial well-being and professional productivity becomes increasingly evident, plan sponsors have a crucial role to play. By acknowledging the challenges faced by employees and offering financial planning support, plan sponsors can help contribute to a more secure, focused, and contented workforce. The time to act is now – your employees are asking for help.


Important Disclosures

This material was created for educational and informational purposes only and is not intended as ERISA, tax, legal or investment advice. If you are seeking investment advice specific to your needs, such advice services must be obtained on your own separate from this educational material.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

This article was prepared by Financial Media Exchange, LLC.

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