Below are a few of the key mandatory changes in the Act affecting retirement plans:
A. Automatic enrollment for new 401(k) and 403(b) plans
The Act requires all new 401(k) and 403(b) plans established after December 31, 2024 to automatically enroll employees in the plan upon becoming eligible, unless the participant specifically elects not to participate. For the initial year of participation, the automatic default deferral must be at least 3% (but not more than 10%) of compensation. Each year thereafter, the employee’s automatic deferral amount must increase by at least 1% until it reaches at least 10%, but not more than 15%, of compensation.
B. Required minimum distributions (RMDs)
The Act once again increases the required beginning date for mandatory distributions. Under the Act, individuals turning age 72 during 2023 or later will not be required to start their RMDs until age 73. For those reaching age 74 after December 31, 2032, their required beginning date is age 75. These changes are effective for distributions made after December 31, 2022 with respect to individuals who attain age 72 after that date.
In addition to the delayed required beginning date, the Act also made the following changes to RMDs: (i) a spousal beneficiary is permitted to elect to be treated as the employee for RMD purposes beginning in 2024; (ii) the excise tax for failure to take RMDs is reduced from 50% of the shortfall to 25%, beginning in 2023, and is further reduced to 10% if the individual corrects the shortfall during a two-year correction window; and (iii) RMDs are no longer required (prior to the participant’s death) from Roth accounts beginning after 2023. Plan administrators will need to adjust their RMD procedures to ensure that RMDs are being distributed appropriately from the plan.
C. Higher catch-up limit
Beginning in 2025, the maximum amount per year that can be contributed as a “catch-up contribution” by participants who are between ages 60 and 63 will increase to the greater of $10,000 or 50% more than the regular catch-up amount. This amount will also be indexed annually for cost-of-living adjustments.
D. Roth treatment for catch-up contributions for certain individuals
Starting in 2024, catch-up contributions for participants whose compensation for the preceding year exceeds $145,000 (as indexed for cost-of-living adjustments) must be made as Roth contributions.
E. Long-term, part-time employee participation in 401(k) and 403(b) plans
The Act improves access to retirement savings plans for part-time employees. Under the SECURE Act, 401(k) plans were required to extend eligibility to long-term, part-time workers (defined as employees who have attained age 21 and who complete at least 500 hours of service for three or more consecutive years after 2020). The Act shortens the required period of service from three years to two, effective for plan years beginning after December 31, 2024, and also makes this a requirement for 403(b) plans. Employer contributions are not required for these employees – only the right to participate in employee deferrals under the plan.
Below are a few of the key optional changes in the Act affecting retirement plans:
A. Dollar limit increase for mandatory distributions
Starting January 1, 2024, retirement plans can be amended to increase the mandatory cashout limit from $5,000 to $7,000.
B. Qualified student loan payments
The Act permits plan sponsors of 401(k) plans, SIMPLE plans, 403(b) plans, and governmental 457(b) plans to allow participants who make qualified student loan payments to receive an employer matching contribution based on such student loan payments. A “qualified student loan payment” is repayment of a qualified education loan incurred by the employee to pay qualified higher education expenses, subject to applicable limits under IRS Code Section 402(g). The Act also permits employers who adopt such a program to treat student loan repayments as contributions for certain nondiscrimination purposes and allows plan sponsors to test participants who receive employer matching contributions on “qualified student loan payments” separately. These changes can be adopted for contributions made for plan years beginning after December 31, 2023.
C. Employer contributions as Roth contributions
Effective at the adoption of the Act (December 29, 2022), plan sponsors may allow participants to elect the treatment of employer matching or nonelective contributions as Roth contributions.
D. Emergency savings account
Plan sponsors of individual account plans may include an emergency savings account option under the plan, and employers may even choose to automatically enroll eligible participants in such account. Contributions to an emergency savings account under the plan are limited to $2,500 (or a lesser amount as determined by the plan sponsor), and highly compensated employees are ineligible to contribute. Contributions must be designated as Roth contributions. Participants must have penalty-free access to withdraw the funds as needed. This change may be implemented for plan years beginning after December 31, 2023.
E. Penalty-free withdrawal for individuals in case of domestic abuse
Domestic abuse victims may be permitted to take a distribution during a one-year period beginning on any date on which the individual is a victim of domestic abuse by a spouse or domestic partner, as self-certified by the participant. Domestic abuse distributions are limited to the lesser of: (i) $10,000 or (ii) 50% of the present value of the participant’s vested benefit. Participants who receive this distribution may, during the three-year period beginning after such distribution was received, repay the distribution. This change may be adopted for distributions made after December 31, 2023.
F. Withdrawals for certain emergency expenses
Plan sponsors may allow participants to take up to one “emergency personal expense distribution” per calendar year, of up to the lesser of: (i) $1,000 or (ii) the amount by which the individual’s vested account balance exceeds $1,000. An “emergency personal expense distribution” is a distribution for purposes of meeting unforeseeable or immediate financial needs relating to necessary personal or family emergency expenses. Participants who receive this distribution may, during the three-year period beginning after such distribution was received, repay the distribution. Participants are limited to one distribution per three-year period unless the distribution is repaid (or the participant makes an equivalent amount of employee deferrals or contributions to the plan). This change may be adopted for distributions made after December 31, 2023.
G. Hardship withdrawals from 403(b) plans
The Bipartisan Budget Act of 2018 revised the hardship withdrawal rules and allowed hardship withdrawals to be taken from investment earnings, QNECs, and QMACs under a 401(k) plan. However, those changes did not apply to all 403(b) plans. The Act amends Section 403(b) to specifically permit hardship withdrawals to be taken from investment earnings, QNECs, and QMACs and confirms that 403(b) plan participants are not required to take any available loans under the plan in order to qualify for a hardship withdrawal. This change is effective for plan years beginning after December 31, 2023.
Other key clarifications and administrative updates
Below are a few of the key clarifications and updates in the Act affecting retirement plans:
- The Act eliminates certain plan disclosures with respect to unenrolled participants. In general, no individual account plan disclosure, notice, or other plan document is required to be furnished to any unenrolled participant if the unenrolled participant receives: (i) an annual reminder notice of eligibility to participate and any applicable election deadlines under the plan; and (ii) any document requested that the participant otherwise would be entitled to receive. These changes are effective for plan years beginning after December 31, 2022.
- Within two years of the enactment of the Act, the Secretary of Labor and the Secretary of Treasury will establish an online searchable database (to be managed by the Department of Labor) known as the “Retirement Savings Lost and Found,” which will allow: (i) individuals to search for information to locate the administrator of certain plans; (ii) the Department of Labor to assist such an individual in locating any plan of the individual; and (iii) the Department of Labor to make any necessary changes to the contact information on record for the administrator.
- The Act expands the Employee Plans Compliance Resolution System (EPCRS) to allow for the self-correction of all errors (whether significant or not) at any time as long as the plan has proper compliance practices and procedures in place, the error is not egregious or related to a diversion or misuse of plan assets or an abusive tax avoidance transaction, and the correction is effectuated promptly upon discovery. Additionally, EPCRS is enhanced by expanding corrections of loan errors and IRA-related errors.
- The Act allows for plan fiduciaries to elect not to, in whole or in part, recoup inadvertent benefit overpayments by any pension plan. It also provides additional guardrails protecting participants when overpayment recovery is initiated by a plan fiduciary. This change is effective at the adoption of the Act (December 29, 2022).
- Also effective as of December 29, 2022, 403(b) plans may participate in 81-100 group trusts, including collective investment trusts (which are now frequently leveraged by section 401(a) qualified plans). The Act, however, did not amend relevant provisions of securities laws regarding these trusts, meaning that future action may be necessary before these changes are adopted by the investment trusts.
- Beginning in 2023, plan sponsors may accept an employee’s self-certification regarding the employee’s eligibility for a hardship distribution.
- For any qualified birth or adoption expense distributions (QBADs) taken after December 29, 2022, a participant is limited to a three-year repayment period. For withdrawals taken prior to this date, the repayment period ends on December 31, 2025.
- If a participant is certified by a physician as having a terminal illness and is otherwise eligible for a distribution from the plan, distributions may be made to such individual without implicating the 10% additional tax on early distributions.
- Plans have until at least the last day of the plan year beginning on or after January 1, 2025 to adopt amendments pursuant to the Act.
Further guidance on various aspects of this sweeping bill is expected. If you have questions about the Act or its application to your plans, please contact the Reed Smith attorney with whom you work or one of the authors.