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Related Companies and Controlled Groups: What this means for 401(k) plans
Related Companies and Controlled Groups: What this means for 401(k) plans When companies are related, how to administer 401(k) plans will depend on the exact relationship between companies and whether or not a controlled group is deemed to exist. Understanding Controlled Groups Under IRS Code sections 414(b) and (c), a controlled group is a group of companies that have shared ownership and, by meeting certain criteria, can combine their employee bases into one 401(k) plan. The controlled group rules were put into place to ensure that the plan provides proper coverage of employees and that it does not discriminate against non-highly compensated employees. Parent-Subsidiary Controlled Group: When one corporation owns at least an 80% interest in another corporation. The 80% ownership threshold is determined either by owning 80% of the total value of the corporation’s shares of stock or by owning enough stock to hold 80% of the voting power. Brother-Sister Controlled Group: When two or more entities are controlled by the same person or group of people, provided that the following criteria are met: Common ownership: Same five or fewer shareholders own at least an 80% controlling interest in each company. Identical ownership: The same five or fewer shareholders have an identical share of ownership among all companies which, in the aggregate, is more than 50%. In this first example below, a brother-sister controlled group exists between Company A and Company B since the three owners together own more than 80% of Companies A and B, and their identical ownership is 75%. Owner Company A Company B Identical Ownership Mike 15% 15% 15% Tory 40% 50% 40% Megan 40% 20% 20% Total 95% 85% 75% In this second example below, a brother-sister controlled group does not exist between Company A and Company B since the identical ownership is only 15%, well below the required 50% threshold. Owner Company A Company B Company C Identical Ownership Jon 100% 15% 15% 15% Sarah 0% 40% 50% 0% Chris 0% 40% 20% 0% Total 100% 95% 85% 15% Combined Controlled Group: More complicated controlled group structures might involve a parent/subsidiary relationship as well as one or more brother/sister relationship. Three or more companies may constitute a combined controlled group if each is a member of a parent-subsidiary group or brother-sister group and one is: A common parent company included in a parent-subsidiary group and Is also included in a brother-sister group of companies. In the below example, we see that Company A and B are in a brother-sister controlled group as the common ownership for both are at least 80% and the identical ownership is greater than 50%. However, since Company B also owns 100% of Company C, there’s a parent-subsidiary controlled group, which results in a combined controlled group situation. Owner Company A Company B Company C Identical Ownership Ariel 80% 85% 80% Company B 100% Controlled groups and 401(k) plans If related companies are determined to be part of a controlled group, then employers of that controlled group are considered a single employer for purposes of 401(k) plan administration. So even if multiple 401(k) plans exist among the employers within a single controlled group, they must meet the requirements as if they were a single-employer for purposes of: Determining eligibility Determining HCEs ADP & ACP testing Coverage testing Top heavy testing Compensation and contribution limits Vesting determination Maximum contribution and benefit limits Given the complexities associated with controlled group rules and how it may impact 401(k) plan administration, we encourage companies that have questions related to controlled groups to consult with their attorney or tax accountant, as Betterment is not a licensed tax advisor. Betterment assumes no responsibility or liability whatsoever for the content, accuracy, reliability or opinions expressed in a third-party website, to which a published article links (a “linked website”) and such linked websites are not monitored, investigated, or checked for accuracy or completeness by Betterment. It is your responsibility to evaluate the accuracy, reliability, timeliness and completeness of any information available on a linked website. All products, services and content obtained from a linked website are provided “as is” without warranty of any kind, express or implied, including, but not limited to, implied warranties of merchantability, fitness for a particular purpose, title, non-infringement, security, or accuracy. If Betterment has a relationship or affiliation with the author or content, it will note this in additional disclosure.
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True-Ups: What are they and how are they determined?
True-Ups: What are they and how are they determined? You've been funding 401(k) matching contributions, but you just learned you must make an additional “true-up” contribution. What does this mean and how was it determined? Employer matching contributions are a great benefit and can help attract and retain employees. It’s not unusual for employers to fund matching contributions each pay period, even though the plan document requires that the matching contribution be calculated on an annualized basis. This means that the matching contribution will need to be calculated both ways (pay period versus annualized) and may result in different matching contribution amounts to certain participants, especially those whose contribution amounts varied throughout the year. For many employers (and payroll systems), the per-pay-period matching contribution method can be easier to administer and help with company cash flow. Employer matching contributions are calculated based on each employee’s earnings and contributions per pay period. However, this method can create problems for employees who max out their 401(k) contributions early, as we will see below. Per-pay-period match: Consistent 401(k) contributions throughout the year Suppose a company matches dollar-for dollar-on the first 4% of pay and pays employees twice a month for a total of 24 pay periods in a year. The per period gross pay of an employee with an annual salary of $120,000, then, is $5,000. If the employee makes a 4% contribution to their 401(k) plan, their $200 per pay period contribution will be matched with $200 from the company. Per-pay-period matching contribution methodology for $120K employee contributing 4% for full year Employee contribution Employer matching contribution Total Contributions per pay period $200 $200 $400 Full year contributions $4,800 $4,800 $9,600 For the full year, assuming the 401(k) contribution rate remains constant, this employee would contribute a total of $4,800 and receive $4,800 from their employer, for a total of $9,600. Per-pay-period match: Maxing out 401(k) contributions early Employees are often encouraged to optimize their 401(k) benefit by contributing the maximum allowable amount to their plan. Suppose instead that this same employee is enthusiastic about this suggestion and, determined to maximize their 401(k) contribution, elects to contribute 20% of their paycheck to the company’s 401(k) plan. Sounds great, right? At this rate, however, assuming the employee is younger than age 50, the employee would reach the $19,500 annual 401(k) contribution limit during the 20th pay period. Their contributions to the plan would stop, but so too would the employer matching contributions, even though the company had only deposited $3,800 into this employee’s account, — $1,000 less than the amount that would have been received if the employee had spread their contributions throughout the year and received the full matching contribution for every pay period. Per-pay-period matching contribution methodology for $120K employee contributing 20% from beginning of year Employee contribution Employer matching contribution Total Contributions per pay period $1,000 $200 $1,200 Full year contributions $19,500 $3,800 $23,300 Employees who max out too soon on their own contributions are at risk of missing out on the full employer matching contribution amount. This can happen if the contribution rate or compensation (due to bonuses, for instance) varies throughout the year. True-up contributions using annualized matching calculation When the plan document stipulates that the matching contribution calculation will be made on an annualized basis, plans who match each pay period will be required to make an extra calculation after the end of the plan year. The annualized contribution amount is based on each employee’s contributions and compensation throughout the entire plan year. The difference between these annualized calculations and those made on a per-pay-period basis will be the “true-up contributions” required for any employees who maxed out their 401(k) contributions early and therefore missed out on the full company matching contribution. In the example above, the employee would receive a true-up contribution of $1,000 in the following year. Plans with the annualized employer matching contribution requirement (per their plan document) may still make matching contributions each pay period, but during compliance testing, which is based on annual compensation, matching amounts are reviewed and true-ups calculated as needed. The true-up contribution is normally completed within the first two months following the plan year end and before the company’s tax filing deadline. Making true-up contributions means employees won’t have to worry about adjusting their contribution percentages to make sure they don’t max out too early. Employees can front-load their 401(k) contributions and still receive the full matching contribution amount. Often true-up contributions affect senior managers or business owners; hence companies are reluctant to amend their plan to a per-pay-period matching contribution calculation. That said, employers should be prepared to make true-up contributions and not be surprised when they are required.
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401(k) QNECs & QMACs: what are they and does my plan need them?
401(k) QNECs & QMACs: what are they and does my plan need them? QNECs and QMACs are special 401(k) contributions employers can make to correct certain compliance errors without incurring IRS penalties. Even the best laid plans can go awry, especially when some elements are out of your control. Managing a 401(k) plan is no different. For example, your plan could fail certain required nondiscrimination tests depending solely on how much each of your employees chooses to defer into the plan for that year (unless you have a safe harbor 401(k) plan that is deemed to pass this testing) QNECs and QMACs are designed to help employers fix specific 401(k) plan problems by making additional contributions to the plan accounts of employees who have been negatively affected. What is a QNEC? A Qualified Nonelective Contribution (QNEC) is a contribution employers can make to the 401(k) plan on behalf of some or all employees to correct certain types of operational mistakes and failed nondiscrimination tests. They are typically calculated based on a percentage of an employee’s compensation. QNECs must be immediately 100% vested when allocated to participants’ accounts. This means they are not forfeitable and cannot be subject to a vesting schedule. QNECs also must be subject to the same distribution restrictions that apply to elective deferrals in a 401(k) plan. In other words, QNECs cannot be distributed until the participant has met one of the following triggering events: severed employment, attained age 59½, died, become disabled, or met the requirements for a qualified reservist distribution or a financial hardship (plan permitting). These assets may also be distributed upon termination of the plan. What is a QMAC? A Qualified Matching Contribution (QMAC) is also an employer contribution that may be used to assist employers in correcting problems in their 401(k) plan. The QMAC made for a participant is a matching contribution, based on how much the participant is contributing to the plan (as pre-tax deferrals, designated Roth contributions, or after-tax employee contributions), or it may be based on the amount needed to bring the plan into compliance, depending on the problem being corrected. QMACs also must be nonforfeitable and subject to the distribution limitations listed above when they are allocated to participant’s accounts. QNECs vs. QMACs Based on % of employee’s compensation based on amount of employee’s contribution QNECs (Qualified Nonelective Contribution) QMACs (Qualified Matching Contribution) Commonly used to pass either the Actual Deferral Percentage (ADP) or Actual Contribution Percentage (ACP) test Most commonly used to pass the Actual Contribution Percentage (ACP) test Frequently Asked Questions about QNECs and QMACs How are QNECs and QMACs used to correct nondiscrimination testing failures? One of the most common situations in which an employer might choose to make a QNEC or QMAC is when their 401(k) plan has failed the Actual Deferral Percentage (ADP) test or the Actual Contribution Percentage (ACP) test for a plan year. These tests ensure the plan does not disproportionately benefit highly compensated employees (HCEs). The ADP test limits the percentage of compensation the HCE group can defer into the 401(k) plan based on the deferral rate of the non-HCE group. The ACP test ensures that the employer matching contributions and after-tax employee contributions for HCEs are not disproportionately higher than those for non-HCEs. When the plan fails one of these tests at year-end, the employer may have a few correction options available, depending on their plan document. Many plans choose to distribute excess deferrals to HCEs to bring the HCE group’s deferral rate down to a level that will pass the test. Your HCEs, however, may not appreciate a taxable refund at the end of the year or a cap on how much they can save for retirement. Making QNECs and QMACs are another option for correcting failed nondiscrimination tests. This option allows HCEs to keep their savings in the plan because the employer is making additional contributions to raise the deferral or contribution rate of the lower paid employees (non-HCEs) to a level that passes the test. How much would I have to contribute to correct a testing failure? For QNECs, the plan usually allows the employer to contribute the minimum QNEC amount needed to boost the non-HCE group’s deferral rate enough to pass the ADP test. The contribution formula may require that an allocation be a specific percentage of compensation that will be given equally to all non-HCEs, or it may allow the allocation to be used in a more targeted fashion that gives the amount needed to pass the test to just certain non-HCEs. QMACs are most commonly made to pass the ACP test. As with QNECs, there are allocation options available to the plan sponsor when making QMACs. A plan sponsor can make targeted QMACs, which are an amount needed to satisfy a nondiscrimination testing failure, or they can allocate QMACs based on the percentage of compensation deferred by a participant. QNECs and QMACs can both be made to help pass the ADP and ACP tests, but a contribution cannot be double counted. For example, if a QNEC was used to help the plan pass the ADP test, that QNEC cannot also be used to help pass the ACP test. How long do I have to make a QNEC or QMAC to correct a testing failure? QNECs/QMACs used to correct ADP/ACP tests generally must be made within 12 months after the end of the plan year being tested. Beware, however, if you use the prior-year testing method for your ADP/ACP tests. If you use this testing method, the QNEC/QMAC must be made by the end of the plan year being tested. For example, if you’re using the prior-year testing method for the 2022 plan year ADP test, the non-HCE group’s deferral rate for 2021 is used to determine the passing rate for HCE deferrals for 2022 testing. Using this prior-year method can help plans proactively determine the maximum amount HCEs may defer each year. But, if the plan still fails testing for some reason, a QNEC or QMAC would have to be made by the end of 2022, which is before the ADP/ACP test would be completed for 2022. QNECs and QMACs deposited by the employer’s tax-filing deadline (plus extensions) for a tax year will be deductible for that tax year. What other types of compliance issues may be corrected with a QNEC or QMAC? Through administrative mix-ups or miscommunications with payroll, a plan administrator might fail to recognize that an employee has met the eligibility requirements to enter the plan or fail to notify the employee of their eligibility. These types of errors tend to happen especially in plans that have an automatic enrollment feature. And sometimes, even when the employee has made an election to begin deferring into the plan, the election can be missed. These types of errors are considered a “missed deferral opportunity.” The employer may correct its mistake by contributing to the plan on behalf of the employee. How is a QNEC or QMAC calculated for a “missed deferral opportunity”? When a missed deferral opportunity is discovered, the employer can correct this operational error by making a QNEC contribution up to 50% of what the employee would have deferred based on their compensation for the year and the average deferral rate for the group the employee belongs to (HCE or non-HCE) for the year the mistake occurred. The QNEC must also include the amount of investment earnings that would be attributable to the deferral had it been contributed timely. If a missed deferral opportunity is being corrected and the plan is a 401(k) safe harbor plan, the employer must make a matching contribution in the form of a QMAC to go with the QNEC to make up for the missed deferrals, plus earnings. Is there a way to reduce the cost of QNECs/QMACs? Employers who catch and fix their mistakes early can reduce the cost of correcting a compliance error. For example, no QNEC is required if the correct deferral amount begins for an affected employee by the first payroll after the earlier of 3 months after the failure occurred, or The end of the month following the month in which the employee notified the employer of the failure. Plans that have an automatic enrollment feature have an even longer time to correct errors. No QNEC is required if the correct deferral amount begins for an affected employee by the first payroll after the earlier of 9½ months after the end of the plan year in which the failure occurred, or The end of the month after the month in which the employee notified the employer of the failure. If it has been more than three months but not past the end of the second plan year following the year in which deferrals were missed, a 25% QNEC (reduced from 50%) is sufficient to correct the plan error. The QNEC must include earnings and any missed matching contributions and the correct deferrals must begin by the first payroll after the earlier of: The end of the second plan year following the year the failure occurred, or The end of the month after the month in which the employee notified the employer of the failure. For all these reduced QNEC scenarios, employees must be given a special notice about the correction within 45 days of the start of the correct deferrals. For More Information These rules are complex, and the calculation of the corrective contribution, as well as the deadline to contribute, varies based on the type of mistake being corrected. You can find more information about correcting plan mistakes using QNECs or QMACs on the IRS’s Employee Plans Compliance Resolution System (EPCRS) webpage. And you can contact your Betterment for Business representative to discuss the correction options for your plan. Betterment is not a tax advisor, nor should any information herein be considered tax advice. Please consult a qualified tax professional. Betterment assumes no responsibility or liability whatsoever for the content, accuracy, reliability or opinions expressed in a third-party website, to which a published article links (a “linked website”) and such linked websites are not monitored, investigated, or checked for accuracy or completeness by Betterment. It is your responsibility to evaluate the accuracy, reliability, timeliness and completeness of any information available on a linked website. All products, services and content obtained from a linked website are provided “as is” without warranty of any kind, express or implied, including, but not limited to, implied warranties of merchantability, fitness for a particular purpose, title, non-infringement, security, or accuracy. If Betterment has a relationship or affiliation with the author or content, it will note this in additional disclosure.
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401(k) basics
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True-Ups: What are they and how are they determined?
True-Ups: What are they and how are they determined? You've been funding 401(k) matching contributions, but you just learned you must make an additional “true-up” contribution. What does this mean and how was it determined? Employer matching contributions are a great benefit and can help attract and retain employees. It’s not unusual for employers to fund matching contributions each pay period, even though the plan document requires that the matching contribution be calculated on an annualized basis. This means that the matching contribution will need to be calculated both ways (pay period versus annualized) and may result in different matching contribution amounts to certain participants, especially those whose contribution amounts varied throughout the year. For many employers (and payroll systems), the per-pay-period matching contribution method can be easier to administer and help with company cash flow. Employer matching contributions are calculated based on each employee’s earnings and contributions per pay period. However, this method can create problems for employees who max out their 401(k) contributions early, as we will see below. Per-pay-period match: Consistent 401(k) contributions throughout the year Suppose a company matches dollar-for dollar-on the first 4% of pay and pays employees twice a month for a total of 24 pay periods in a year. The per period gross pay of an employee with an annual salary of $120,000, then, is $5,000. If the employee makes a 4% contribution to their 401(k) plan, their $200 per pay period contribution will be matched with $200 from the company. Per-pay-period matching contribution methodology for $120K employee contributing 4% for full year Employee contribution Employer matching contribution Total Contributions per pay period $200 $200 $400 Full year contributions $4,800 $4,800 $9,600 For the full year, assuming the 401(k) contribution rate remains constant, this employee would contribute a total of $4,800 and receive $4,800 from their employer, for a total of $9,600. Per-pay-period match: Maxing out 401(k) contributions early Employees are often encouraged to optimize their 401(k) benefit by contributing the maximum allowable amount to their plan. Suppose instead that this same employee is enthusiastic about this suggestion and, determined to maximize their 401(k) contribution, elects to contribute 20% of their paycheck to the company’s 401(k) plan. Sounds great, right? At this rate, however, assuming the employee is younger than age 50, the employee would reach the $19,500 annual 401(k) contribution limit during the 20th pay period. Their contributions to the plan would stop, but so too would the employer matching contributions, even though the company had only deposited $3,800 into this employee’s account, — $1,000 less than the amount that would have been received if the employee had spread their contributions throughout the year and received the full matching contribution for every pay period. Per-pay-period matching contribution methodology for $120K employee contributing 20% from beginning of year Employee contribution Employer matching contribution Total Contributions per pay period $1,000 $200 $1,200 Full year contributions $19,500 $3,800 $23,300 Employees who max out too soon on their own contributions are at risk of missing out on the full employer matching contribution amount. This can happen if the contribution rate or compensation (due to bonuses, for instance) varies throughout the year. True-up contributions using annualized matching calculation When the plan document stipulates that the matching contribution calculation will be made on an annualized basis, plans who match each pay period will be required to make an extra calculation after the end of the plan year. The annualized contribution amount is based on each employee’s contributions and compensation throughout the entire plan year. The difference between these annualized calculations and those made on a per-pay-period basis will be the “true-up contributions” required for any employees who maxed out their 401(k) contributions early and therefore missed out on the full company matching contribution. In the example above, the employee would receive a true-up contribution of $1,000 in the following year. Plans with the annualized employer matching contribution requirement (per their plan document) may still make matching contributions each pay period, but during compliance testing, which is based on annual compensation, matching amounts are reviewed and true-ups calculated as needed. The true-up contribution is normally completed within the first two months following the plan year end and before the company’s tax filing deadline. Making true-up contributions means employees won’t have to worry about adjusting their contribution percentages to make sure they don’t max out too early. Employees can front-load their 401(k) contributions and still receive the full matching contribution amount. Often true-up contributions affect senior managers or business owners; hence companies are reluctant to amend their plan to a per-pay-period matching contribution calculation. That said, employers should be prepared to make true-up contributions and not be surprised when they are required. -
401(k) QNECs & QMACs: what are they and does my plan need them?
401(k) QNECs & QMACs: what are they and does my plan need them? QNECs and QMACs are special 401(k) contributions employers can make to correct certain compliance errors without incurring IRS penalties. Even the best laid plans can go awry, especially when some elements are out of your control. Managing a 401(k) plan is no different. For example, your plan could fail certain required nondiscrimination tests depending solely on how much each of your employees chooses to defer into the plan for that year (unless you have a safe harbor 401(k) plan that is deemed to pass this testing) QNECs and QMACs are designed to help employers fix specific 401(k) plan problems by making additional contributions to the plan accounts of employees who have been negatively affected. What is a QNEC? A Qualified Nonelective Contribution (QNEC) is a contribution employers can make to the 401(k) plan on behalf of some or all employees to correct certain types of operational mistakes and failed nondiscrimination tests. They are typically calculated based on a percentage of an employee’s compensation. QNECs must be immediately 100% vested when allocated to participants’ accounts. This means they are not forfeitable and cannot be subject to a vesting schedule. QNECs also must be subject to the same distribution restrictions that apply to elective deferrals in a 401(k) plan. In other words, QNECs cannot be distributed until the participant has met one of the following triggering events: severed employment, attained age 59½, died, become disabled, or met the requirements for a qualified reservist distribution or a financial hardship (plan permitting). These assets may also be distributed upon termination of the plan. What is a QMAC? A Qualified Matching Contribution (QMAC) is also an employer contribution that may be used to assist employers in correcting problems in their 401(k) plan. The QMAC made for a participant is a matching contribution, based on how much the participant is contributing to the plan (as pre-tax deferrals, designated Roth contributions, or after-tax employee contributions), or it may be based on the amount needed to bring the plan into compliance, depending on the problem being corrected. QMACs also must be nonforfeitable and subject to the distribution limitations listed above when they are allocated to participant’s accounts. QNECs vs. QMACs Based on % of employee’s compensation based on amount of employee’s contribution QNECs (Qualified Nonelective Contribution) QMACs (Qualified Matching Contribution) Commonly used to pass either the Actual Deferral Percentage (ADP) or Actual Contribution Percentage (ACP) test Most commonly used to pass the Actual Contribution Percentage (ACP) test Frequently Asked Questions about QNECs and QMACs How are QNECs and QMACs used to correct nondiscrimination testing failures? One of the most common situations in which an employer might choose to make a QNEC or QMAC is when their 401(k) plan has failed the Actual Deferral Percentage (ADP) test or the Actual Contribution Percentage (ACP) test for a plan year. These tests ensure the plan does not disproportionately benefit highly compensated employees (HCEs). The ADP test limits the percentage of compensation the HCE group can defer into the 401(k) plan based on the deferral rate of the non-HCE group. The ACP test ensures that the employer matching contributions and after-tax employee contributions for HCEs are not disproportionately higher than those for non-HCEs. When the plan fails one of these tests at year-end, the employer may have a few correction options available, depending on their plan document. Many plans choose to distribute excess deferrals to HCEs to bring the HCE group’s deferral rate down to a level that will pass the test. Your HCEs, however, may not appreciate a taxable refund at the end of the year or a cap on how much they can save for retirement. Making QNECs and QMACs are another option for correcting failed nondiscrimination tests. This option allows HCEs to keep their savings in the plan because the employer is making additional contributions to raise the deferral or contribution rate of the lower paid employees (non-HCEs) to a level that passes the test. How much would I have to contribute to correct a testing failure? For QNECs, the plan usually allows the employer to contribute the minimum QNEC amount needed to boost the non-HCE group’s deferral rate enough to pass the ADP test. The contribution formula may require that an allocation be a specific percentage of compensation that will be given equally to all non-HCEs, or it may allow the allocation to be used in a more targeted fashion that gives the amount needed to pass the test to just certain non-HCEs. QMACs are most commonly made to pass the ACP test. As with QNECs, there are allocation options available to the plan sponsor when making QMACs. A plan sponsor can make targeted QMACs, which are an amount needed to satisfy a nondiscrimination testing failure, or they can allocate QMACs based on the percentage of compensation deferred by a participant. QNECs and QMACs can both be made to help pass the ADP and ACP tests, but a contribution cannot be double counted. For example, if a QNEC was used to help the plan pass the ADP test, that QNEC cannot also be used to help pass the ACP test. How long do I have to make a QNEC or QMAC to correct a testing failure? QNECs/QMACs used to correct ADP/ACP tests generally must be made within 12 months after the end of the plan year being tested. Beware, however, if you use the prior-year testing method for your ADP/ACP tests. If you use this testing method, the QNEC/QMAC must be made by the end of the plan year being tested. For example, if you’re using the prior-year testing method for the 2022 plan year ADP test, the non-HCE group’s deferral rate for 2021 is used to determine the passing rate for HCE deferrals for 2022 testing. Using this prior-year method can help plans proactively determine the maximum amount HCEs may defer each year. But, if the plan still fails testing for some reason, a QNEC or QMAC would have to be made by the end of 2022, which is before the ADP/ACP test would be completed for 2022. QNECs and QMACs deposited by the employer’s tax-filing deadline (plus extensions) for a tax year will be deductible for that tax year. What other types of compliance issues may be corrected with a QNEC or QMAC? Through administrative mix-ups or miscommunications with payroll, a plan administrator might fail to recognize that an employee has met the eligibility requirements to enter the plan or fail to notify the employee of their eligibility. These types of errors tend to happen especially in plans that have an automatic enrollment feature. And sometimes, even when the employee has made an election to begin deferring into the plan, the election can be missed. These types of errors are considered a “missed deferral opportunity.” The employer may correct its mistake by contributing to the plan on behalf of the employee. How is a QNEC or QMAC calculated for a “missed deferral opportunity”? When a missed deferral opportunity is discovered, the employer can correct this operational error by making a QNEC contribution up to 50% of what the employee would have deferred based on their compensation for the year and the average deferral rate for the group the employee belongs to (HCE or non-HCE) for the year the mistake occurred. The QNEC must also include the amount of investment earnings that would be attributable to the deferral had it been contributed timely. If a missed deferral opportunity is being corrected and the plan is a 401(k) safe harbor plan, the employer must make a matching contribution in the form of a QMAC to go with the QNEC to make up for the missed deferrals, plus earnings. Is there a way to reduce the cost of QNECs/QMACs? Employers who catch and fix their mistakes early can reduce the cost of correcting a compliance error. For example, no QNEC is required if the correct deferral amount begins for an affected employee by the first payroll after the earlier of 3 months after the failure occurred, or The end of the month following the month in which the employee notified the employer of the failure. Plans that have an automatic enrollment feature have an even longer time to correct errors. No QNEC is required if the correct deferral amount begins for an affected employee by the first payroll after the earlier of 9½ months after the end of the plan year in which the failure occurred, or The end of the month after the month in which the employee notified the employer of the failure. If it has been more than three months but not past the end of the second plan year following the year in which deferrals were missed, a 25% QNEC (reduced from 50%) is sufficient to correct the plan error. The QNEC must include earnings and any missed matching contributions and the correct deferrals must begin by the first payroll after the earlier of: The end of the second plan year following the year the failure occurred, or The end of the month after the month in which the employee notified the employer of the failure. For all these reduced QNEC scenarios, employees must be given a special notice about the correction within 45 days of the start of the correct deferrals. For More Information These rules are complex, and the calculation of the corrective contribution, as well as the deadline to contribute, varies based on the type of mistake being corrected. You can find more information about correcting plan mistakes using QNECs or QMACs on the IRS’s Employee Plans Compliance Resolution System (EPCRS) webpage. And you can contact your Betterment for Business representative to discuss the correction options for your plan. Betterment is not a tax advisor, nor should any information herein be considered tax advice. Please consult a qualified tax professional. Betterment assumes no responsibility or liability whatsoever for the content, accuracy, reliability or opinions expressed in a third-party website, to which a published article links (a “linked website”) and such linked websites are not monitored, investigated, or checked for accuracy or completeness by Betterment. It is your responsibility to evaluate the accuracy, reliability, timeliness and completeness of any information available on a linked website. All products, services and content obtained from a linked website are provided “as is” without warranty of any kind, express or implied, including, but not limited to, implied warranties of merchantability, fitness for a particular purpose, title, non-infringement, security, or accuracy. If Betterment has a relationship or affiliation with the author or content, it will note this in additional disclosure. -
The Case for Including ETFs and managed portfolios in Your 401(k) Plan
The Case for Including ETFs and managed portfolios in Your 401(k) Plan At Betterment, we firmly believe exchange-traded funds (ETFs) are better for 401(k) plan participants. Wondering if managed ETF portfolios may be appropriate for your plan? Mutual funds dominate the retirement investment landscape, but in recent years, exchange-traded funds (ETFs) have become increasingly popular—and for good reason. They are cost-effective, highly flexible, and technologically sophisticated. And at Betterment, we firmly believe they’re also better for 401(k) plan participants. Wondering if ETFs may be appropriate for your 401(k) plan? Read on. What’s the difference between mutual funds and ETFs? Let’s start with what ETFs and mutual funds have in common. Both consist of a mix of many different assets, which helps investors diversify their portfolios. However, they have a few key differences: ETFs can be traded like stocks whereas mutual funds may only be purchased at the end of each trading day based on a calculated price. ETFs are transparent meaning you can see the underlying holdings daily. Mutual funds either report its holdings monthly or quarterly. Mutual funds are either actively managed by a fund manager who decides how to allocate assets or passively managed by tracking a specific market index (such as the S&P 500). While ETFs are usually passively managed, more differentiated ETFs that are actively managed or use other fundamentals like factors (smart beta) have emerged over the years. Mutual funds tend to have higher fees and higher expense ratios than ETFs, especially in instances where smaller plans do not have access to institutional share classes. Why do mutual funds cost so much more than ETFs? Many mutual funds are actively managed—requiring in-depth analysis and research—which drives the costs up. However, while active managers claim to outperform popular benchmarks, research conclusively shows that they rarely succeed in doing so. See what we mean. Mutual fund providers generate revenues from both stated management fees, as well as less direct forms of compensation, for example: Revenue sharing agreements—These agreements among 401(k) plan providers and mutual fund companies include: 12(b)-1 fees, which are disclosed in a fund’s expense ratios and are annual distribution or marketing fees Sub Transfer Agent (Sub-TA) fees for maintaining records of a mutual fund’s shareholders Revenue sharing agreements often appear as conflicts of interests. Internal fund trading expenses—The buying and selling of internal, underlying assets in a mutual fund are another cost to investors. However, unlike the conspicuous fees in a fund’s expense ratio, these brokerage expenses are not disclosed and actual amounts may never be known. Instead, the costs of trading underlying shares are simply paid out of the mutual fund’s assets, which results in overall lower returns for investors. Soft-dollar arrangements—These commission arrangements, sometimes called excess commissions, exacerbate the problem of hidden expenses because the mutual fund manager engages a broker-dealer to do more than just execute trades for the fund. These services could include nearly anything—securities research, hardware, or even an accounting firm’s conference hotel costs! All of these costs mean that mutual funds are usually more expensive than ETFs. These higher expenses come out of investors’ pockets. That helps to explain why a majority of actively managed funds lag the net performance of passively managed funds, which lag the net performance of ETFs with the same investment objective over nearly every time period. What else didn’t I realize about mutual funds? Often, there are conflicts of interest with mutual funds. The 401(k) market is largely dominated by players who are incentivized to offer certain funds: Some service providers are, at their core, mutual fund companies. And therefore, some investment advisors are incentivized to promote certain funds. This means that the fund family providing 401(k) services and the advisor who sells the plans may have a conflict of interest. Why is it unusual to see ETFs in 401(k)s? Mutual funds continue to make up the majority of assets in 401(k) plans for various reasons, not despite these hidden fees and conflicts of interest, but because of them. Plans are often sold through distribution partners, which can include brokers, advisors, recordkeepers or third-party administrators. The fees embedded in mutual funds help offset expenses and facilitate payment of every party involved in the sale. However, it’s challenging for employers and employees because the fees aren’t easy to understand even with the mandated disclosure requirements. Another reason why it’s unusual to see ETFs in a 401(k) is existing technology limitations. Most 401(k) recordkeeping systems were built decades ago and designed to handle once-per-day trading, not intra-day trading (the way ETFs are traded)—so these systems can’t handle ETFs on the platform (at all). However, times are changing. ETFs are gaining traction in the general marketplace and companies like Betterment are leading the way by offering ETFs. What’s even better than ETFs? At Betterment, we believe that a portfolio of ETFs in conjunction with personalized, unbiased advice is the ideal solution for today’s retirement savers. Our retirement advice adapts to your employees’ desired retirement timeline and can be customized if they’re more conservative or aggressive investors. Not only that, we also link employees’ outside investments, savings accounts, IRAs—even spousal/partner assets—to create a real-time snapshot of their finances. It can make saving for retirement (and any other short- or long-term goals) even easier. You may be wondering: What about target-date funds? Well, target-date funds are still popular, but financial advice has progressed far beyond using one data point—employees’ desired retirement age—to determine their investing strategy. Here’s how: Target-date funds are only in five-year increments (for example, 2045 Fund or 2050 Fund). Betterment can tailor our advice to the exact year your employees want to retire. Target-date funds ignore how much employees have saved. At Betterment, we can tell your employees if they‘re on or off track, factoring in all of their retirement savings, Social Security, pensions, and more. Target-date funds only contain that company’s underlying investments (for example, Vanguard target-date funds only have Vanguard investments). No single company is the best at every type of investment, so don’t limit your employees’ retirement to just one company’s investments. Now what? You may be thinking: it’s time to have a heart-to-heart with your 401(k) provider or plan’s investment advisor. If so, here’s a list of questions to ask: Do you offer ETFs? If not, why not? What are the fees associated with our funds? Are there revenue sharing agreements in place? Are there any soft-dollar arrangements we should be aware of? Are you incentivized to offer certain funds? Are there any conflicts of interests that we should be aware of? Do you create managed portfolio strategies?
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401(k) Considerations for Highly Compensated Employees
401(k) Considerations for Highly Compensated Employees Help ensure your 401(k) plan benefits every employee – from senior executives to entry-level workers. Read on for more information. Smart savers 401(k) considerations for highly compensated employees A 401(k) plan should help every employee – from senior executives to entry-level workers – save for a more comfortable future. To help ensure highly compensated employees (HCEs) don’t gain an unfair advantage through the 401(k) plan, the IRS implemented certain rules that all plans must follow. Wondering how to navigate these special considerations for HCEs? Read on for answers to commonly asked questions. 1. What is an HCE? According to the IRS, an HCE is an individual who: Owned more than 5% of the interest in the business at any time during the year or the preceding year, regardless of how much compensation that person earned or received, or Received compensation from the business of more than $135,000 (if the preceding year is 2022), and, if the employer so chooses, was in the top 20% of employees when ranked by compensation. 2. Why are there special considerations for HCEs? Does your plan offer a company match? If so, consider this example: Joe is a senior manager earning $200,000 a year. He can easily afford to max out his 401(k) plan contributions and earn the full company match (dollar-for-dollar up to 6%). Thomas is an entry-level administrative assistant earning $35,000 a year. He can only afford to contribute 2% of his paycheck to the 401(k) plan, and therefore, isn’t eligible for the full company match. Not only that, Joe can contribute more – and earn greater tax benefits – than Thomas. It doesn’t seem fair, right? The IRS doesn’t think so either. To ensure HCEs don’t disproportionately benefit from the 401(k) plan, the IRS requires annual compliance tests known as non-discrimination tests. 3. What is non-discrimination testing? In order to retain tax-qualified status, a 401(k) plan must not discriminate in favor of key owners and officers, nor highly compensated employees. This is verified annually by a number of tests, which include: Coverage tests – These tests review the ratio of HCEs benefitting from the plan (i.e., of employees considered highly compensated, what percent are benefiting) against the ratio of non-highly compensated employees (NHCEs) benefiting from the plan. Typically, the NHCE percentage benefiting must be at least 70% or 0.7 times the percentage of HCEs considered benefiting for the year, or further testing is required. These tests are performed across employee contributions, matching, and after-tax contributions, and non-elective (employer, non-matching) contributions. ADP and ACP tests – The Actual Deferral Percentage (ADP) Test and the Actual Contribution Percentage (ACP) Test help to ensure that HCEs are not saving significantly more than the employee base. The tests compare the average deferral (traditional and Roth) and employer contribution (matching and after-tax) rates between HCEs and NHCEs. Top-heavy test – A plan is considered top-heavy when the total value of the Key employees’ plan accounts is greater than 60% of the total value of the plan assets. (The IRS defines a key employee as an officer making more than $200,000 (in 2022 and indexed each year after), an owner of more than 5% of the business, or an owner of more than 1% of the business who made more than $150,000 during the plan year.) 4. What if my plan doesn’t pass non-discrimination testing? You may be surprised to learn that it’s actually easier for large companies to pass the tests because they have many employees at varying income levels contributing to the plan. However, small and mid-size businesses may struggle to pass if they have a relatively high number of HCEs. If HCEs contribute a lot to the plan, but NHCEs don’t, there’s a chance that the 401(k) plan will not pass nondiscrimination testing. If your plan fails, you’ll need to fix the imbalance by returning 401(k) plan contributions to your HCEs or increasing contributions to your NHCEs. If you have to refund contributions, affected employees may fall behind on their retirement savings—and that money may be subject to state and federal taxes! Not to mention the fact that you may upset several top employees, which could have a detrimental impact on employee satisfaction and retention. 5. How can I avoid this headache-inducing situation? If you want to bypass compliance tests, consider a safe harbor 401(k) plan. A safe harbor plan is like a typical 401(k) plan except it requires you to: Contribute to the plan on your employees’ behalf, sometimes as an incentive for them to save in the plan Ensure the mandatory employer contribution vests immediately – rather than on a graded or cliff vesting schedule – so employees can always take these contributions with them when they leave To fulfill safe harbor requirements, you can elect one of the following employer contribution formulas: Basic safe harbor match—Employer matches 100% of employee contributions, up to 3% of their compensation, plus 50% of the next 2% of their compensation Enhanced safe harbor match—Employer matches 100% of employee contributions, up to 4% of their compensation. Non-elective contribution—Employer contributes at least 3% of each employee’s compensation, regardless of whether they make their own contributions. Want to contribute more? You absolutely can – the above percentages are only the minimum required of a safe harbor plan. 6. How can a safe harbor plan benefit my top earners? With a safe harbor 401(k) plan, you can ensure that your HCEs will be able to max out your retirement contributions (without the fear that contributions will be returned if the plan fails nondiscrimination testing). 7. What are the upsides (and downsides) of a safe harbor plan? Beyond ensuring your HCEs can max out their contributions, a safe harbor plan can help you: Attract and retain top talent—Offering your employees a matching or non-elective contribution is a powerful recruitment tool. Plus, an employer contribution is a great way to reward your current employees (and incentivize them to save for their future). Improve financial wellness—Studies show that financial stress impacts employees’ ability to focus on work. By helping your employees save for retirement, you help ease that burden and potentially improve company productivity and profitability. Save time and stress—Administering your 401(k) plan takes time—and it can become even more time-consuming and stressful if you’re worried that your plan may not pass nondiscrimination testing. Bypass certain tests altogether by electing a safe harbor 401(k). Reduce your taxable income—Like any employer contribution, safe harbor contributions are tax deductible! Plus, you can receive valuable tax credits to help offset the costs of your 401(k) plan. Of course, these benefits come with a cost; specifically the expense of increasing your overall payroll by 3% or more. So be sure to evaluate whether your company has the financial capacity to make employer contributions on an annual basis. 8. Are there other ways for HCEs to save for retirement? If you decide against a safe harbor plan, you can always encourage your HCEs to take advantage of other retirement-saving avenues, including: Health savings account (HSA) – If your company offers an HSA – typically available to those enrolled in a high-deductible health plan (HDHP) – individuals can contribute up to $3,650, families can contribute up to $7,300, and employees age 55 or older can contribute an additional $1,000 in 2022. The key benefits are: Contributions are tax free, earnings grow tax-free, and funds can be withdrawn tax-free anytime they’re used for qualified health care expenses. The HSA balance carries over and has the potential to grow unlike a “use-it-or-lose-it” FSA. Once employees turn 65, they can withdraw money from an HSA for any purpose – not just medical expenses – without penalty. However, they will have to pay income tax, so they may want to consider reserving it for medical expenses in retirement. Traditional IRA – If employees make after-tax contributions to a traditional IRA, all earnings and growth are tax-deferred. For 2022, the IRA contribution maximum is $6,000 and employees age 50 or older can make an additional $1,000 catch-up contribution. Roth IRA – HCEs may still be eligible to contribute to a Roth IRA, since Roth IRAs have their own separate income limits. But even if an employee’s income is too high to contribute to a Roth IRA, they may be able to convert a Traditional IRA into a Roth IRA via the “backdoor” IRA strategy. To do so, they would make non-deductible contributions to their Traditional IRA, open a Roth IRA, and perform a Roth IRA conversion. This is a more advanced strategy, so for more information, your employees should consult a financial advisor. Taxable Account – A taxable account is a great way to save beyond IRS limits. If employees are maxed out their 401(k) and IRA and want to keep saving, they can invest extra cash in a taxable account. Want to learn more? Betterment can help. Helping HCEs navigate retirement planning can be a challenge. If you’re considering a safe harbor plan or want to explore new ways to enhance retirement savings for all your employees, talk to Betterment today. Betterment assumes no responsibility or liability whatsoever for the content, accuracy, reliability or opinions expressed in a third-party website, to which a published article links (a “linked website”) and such linked websites are not monitored, investigated, or checked for accuracy or completeness by Betterment. It is your responsibility to evaluate the accuracy, reliability, timeliness and completeness of any information available on a linked website. All products, services and content obtained from a linked website are provided “as is” without warranty of any kind, express or implied, including, but not limited to, implied warranties of merchantability, fitness for a particular purpose, title, non-infringement, security, or accuracy. If Betterment has a relationship or affiliation with the author or content, it will note this in additional disclosure. -
Related Companies and Controlled Groups: What this means for 401(k) plans
Related Companies and Controlled Groups: What this means for 401(k) plans When companies are related, how to administer 401(k) plans will depend on the exact relationship between companies and whether or not a controlled group is deemed to exist. Understanding Controlled Groups Under IRS Code sections 414(b) and (c), a controlled group is a group of companies that have shared ownership and, by meeting certain criteria, can combine their employee bases into one 401(k) plan. The controlled group rules were put into place to ensure that the plan provides proper coverage of employees and that it does not discriminate against non-highly compensated employees. Parent-Subsidiary Controlled Group: When one corporation owns at least an 80% interest in another corporation. The 80% ownership threshold is determined either by owning 80% of the total value of the corporation’s shares of stock or by owning enough stock to hold 80% of the voting power. Brother-Sister Controlled Group: When two or more entities are controlled by the same person or group of people, provided that the following criteria are met: Common ownership: Same five or fewer shareholders own at least an 80% controlling interest in each company. Identical ownership: The same five or fewer shareholders have an identical share of ownership among all companies which, in the aggregate, is more than 50%. In this first example below, a brother-sister controlled group exists between Company A and Company B since the three owners together own more than 80% of Companies A and B, and their identical ownership is 75%. Owner Company A Company B Identical Ownership Mike 15% 15% 15% Tory 40% 50% 40% Megan 40% 20% 20% Total 95% 85% 75% In this second example below, a brother-sister controlled group does not exist between Company A and Company B since the identical ownership is only 15%, well below the required 50% threshold. Owner Company A Company B Company C Identical Ownership Jon 100% 15% 15% 15% Sarah 0% 40% 50% 0% Chris 0% 40% 20% 0% Total 100% 95% 85% 15% Combined Controlled Group: More complicated controlled group structures might involve a parent/subsidiary relationship as well as one or more brother/sister relationship. Three or more companies may constitute a combined controlled group if each is a member of a parent-subsidiary group or brother-sister group and one is: A common parent company included in a parent-subsidiary group and Is also included in a brother-sister group of companies. In the below example, we see that Company A and B are in a brother-sister controlled group as the common ownership for both are at least 80% and the identical ownership is greater than 50%. However, since Company B also owns 100% of Company C, there’s a parent-subsidiary controlled group, which results in a combined controlled group situation. Owner Company A Company B Company C Identical Ownership Ariel 80% 85% 80% Company B 100% Controlled groups and 401(k) plans If related companies are determined to be part of a controlled group, then employers of that controlled group are considered a single employer for purposes of 401(k) plan administration. So even if multiple 401(k) plans exist among the employers within a single controlled group, they must meet the requirements as if they were a single-employer for purposes of: Determining eligibility Determining HCEs ADP & ACP testing Coverage testing Top heavy testing Compensation and contribution limits Vesting determination Maximum contribution and benefit limits Given the complexities associated with controlled group rules and how it may impact 401(k) plan administration, we encourage companies that have questions related to controlled groups to consult with their attorney or tax accountant, as Betterment is not a licensed tax advisor. Betterment assumes no responsibility or liability whatsoever for the content, accuracy, reliability or opinions expressed in a third-party website, to which a published article links (a “linked website”) and such linked websites are not monitored, investigated, or checked for accuracy or completeness by Betterment. It is your responsibility to evaluate the accuracy, reliability, timeliness and completeness of any information available on a linked website. All products, services and content obtained from a linked website are provided “as is” without warranty of any kind, express or implied, including, but not limited to, implied warranties of merchantability, fitness for a particular purpose, title, non-infringement, security, or accuracy. If Betterment has a relationship or affiliation with the author or content, it will note this in additional disclosure. -
Plan Design Matters
Plan Design Matters Thoughtful 401(k) plan design can help motivate even reluctant retirement savers to start investing for their future. Designing a 401(k) plan is like building a house. It takes care, attention, and the help of a few skilled professionals to create a plan that works for both you and your employees. In fact, thoughtful plan design can help motivate even reluctant retirement savers to start investing for their future - read more to learn how. How to tailor a 401(k) plan you and your employees will love As you embark on the 401(k) design process, there are many options to consider. In this article, we’ll take you through the most important choices so you can make well-informed decisions. Since certain choices may not be available on the various pricing models of any given provider, make sure you understand your options and the trade-offs you’re making. Let’s get started! 401(k) eligibility When would you like employees to be eligible to participate in the plan? You can opt to have employees become eligible: Immediately – as soon as they begin working for your company After a specific length of service – for example, a period of hours, months, or years of service It’s also customary to have an age requirement (for example, employees must be 18 years or older to participate in the plan). You may also want to consider an “employee class exclusion” to prevent part-time, seasonal, or temporary employees from participating in the plan. Once employees become eligible, they can immediately enroll – or, you can restrict enrollment to a monthly, quarterly, or semi-annual basis. If you have immediate 401(k) eligibility and enrollment, in theory, more employees could participate in the plan. However, if your company has a higher rate of turnover, you may want to consider adding service length requirements to alleviate the unnecessary administrative burden of having to maintain many small accounts of employees who are no longer with your organization. Enrollment Enrollment is another important feature to consider as you structure your plan. You may simply allow employees to enroll on their own, or you can add an automatic enrollment feature. Automatic enrollment (otherwise known as auto-enrollment) allows employers to automatically deduct elective deferrals from employees’ wages unless they elect not to contribute. With automatic enrollment, all employees are enrolled in the plan at a specific contribution rate when they become eligible to participate in the plan. Employees have the freedom to opt out and change their contribution rate and investments at any time. As you can imagine, automatic enrollment can have a significant impact on plan participation. In fact, according to research by The Defined Contribution Institutional Investment Association (DCIIA), automatic enrollment 401(k) plans have participation rates greater than 90%! That’s in stark contrast to the roughly 50% participation rate for plans in which employees must actively opt in. If you decide to elect automatic enrollment, consider your default contribution rate carefully. A 3% default contribution rate is still the most popular; however, more employers are electing higher default rates because research shows that opt-out rates don’t appreciably change even if the default rate is increased. Many financial experts recommend a retirement savings rate of 10% to 15%, so using a higher automatic enrollment default rate would give employees even more of a head start. Auto-escalation Auto-escalation is an important feature to look out for as you design your plan. It enables employees to increase their contribution rate over time as a way to increase their savings. With auto-escalation, eligible employees will automatically have their contribution rate increased by 1% every year until they reach a maximum cap of 15%. Employees can also choose to set their own contribution rate at any time, at which point they will no longer be enrolled in the auto-escalation feature. For example, if an employee is auto-enrolled at 6% with a 1% auto-escalation rate, and they choose to change their contribution rate to 8%, they will no longer be subject to the 1% increase every year. Compensation You’re permitted to exclude certain types of compensation for plan purposes, including compensation earned prior to plan entry and fringe benefits for purposes of compliance testing and allocating employer contributions. You may choose to define your compensation as: W2 (box 1 wages) plus deferrals – Total taxable wages, tips, prizes, and other compensation 3401(a) wages – All wages taken into account for federal tax withholding purposes, plus the required additions to W-2 wages listed above Section 415 Safe Harbor – All compensation received from the employer which is includible in gross income Employer contributions Want to encourage employees to enroll in the plan? Free money is a great place to start! That’s why more employers are offering profit sharing or matching contributions. Some common employer contributions are: Safe harbor contributions – With the added bonus of being able to avoid certain time-consuming compliance tests, safe harbor contributions often follow one of these formulas: Basic safe harbor match—Employer matches 100% of employee contributions, up to 3% of their compensation, plus 50% of the next 2% of their compensation. Enhanced safe harbor match—The most common employer match formula is 100% of employee contributions, up to 4% of their compensation, but this could vary. Non-elective contribution—Employer contributes at least 3% of each employee’s compensation, regardless of whether they make their own contributions. Discretionary matching contributions – You decide what percentage of employee 401(k) deferrals to match and the maximum percentage of pay to match. For example, you could elect to match 50% of contributions on up to 6% of compensation. One advantage of having a discretionary matching contribution is that you retain the flexibility to adjust the matching rate as your business needs change. Non-elective contributions – Each pay period, you have the option of contributing to your employees’ 401(k) accounts, regardless of whether they contribute. For example, you could make a profit sharing contribution (one type of non-elective contribution) at the end of the year as a percentage of employees’ salaries or as a lump-sum amount. In addition to helping your employees build their retirement nest eggs, employer contributions are also tax deductible (up to 25% of total eligible compensation), so it may cost less than you think. Plus, we believe offering an employer contribution can play a key role in recruiting and retaining top employees. 401(k) vesting If you elect to make an employer contribution, you also need to decide on a vesting schedule (an employee’s own contributions are always 100% vested). Note that all employer contributions made as part of a safe harbor plan are immediately and 100% vested (although QACA plans can be subject to a 2-year cliff). The three main vesting schedules are: Immediate – Employees are immediately vested in (or own) 100% of employer contributions as soon as they receive them. Graded – Vesting takes place in a gradual manner. For example, a six-year graded schedule could have employees vest at a rate of 20% a year until they are fully vested. Cliff – The entire employer contribution becomes 100% vested all at once, after a specific period of time. For example, if you had a three-year cliff vesting schedule and an employee left after two years, they would not be able to take any of the employer contributions (only their own). Like your eligibility and enrollment decisions, vesting can also have an impact on employee participation. Immediate vesting may give employees an added incentive to participate in the plan. On the other hand, a longer vesting schedule could encourage employees to remain at your company for a longer time. Service counting method If you decide to use length of service to determine your eligibility and vesting schedules, you must also decide how to measure it. Typically, you may use: Elapsed time – Period of service as long as employee is employed at the end of period Actual hours – Actual hours worked. With this method, you’ll need to track and report employee hours Actual hours/equivalency – A formula that credits employees with set number of hours per pay period (for example, monthly = 190 hours) 401(k) withdrawals and loans Naturally, there will be times when your employees need to withdraw money from their retirement accounts. Your plan design will have rules outlining the withdrawal parameters for: Termination In-service withdrawals (at attainment of age 59 ½; rollovers at any time) Hardships Qualified Domestic Relations Orders (QDROs) Required Minimum Distributions (RMDs) Plus, you’ll have to decide whether to allow participants to take 401(k) plan loans (and the maximum amount of the loan). While loans have the potential to derail employees’ retirement dreams, having a loan provision means employees can access their money if they need it and employees can pay themselves back plus interest. If employees are reluctant to participate because they’re afraid their savings will be “locked up,” then a loan provision can help alleviate that fear. Investment options When it comes to investment methodology, there are many strategies to consider. Your plan provider can help guide you through the choices and associated fees. For example, at Betterment, we believe that our expert-built ETF portfolios offer investors significant diversification and flexibility at a low cost. Plus, we offer ETFs in conjunction with personalized advice to help today’s retirement savers pursue their goals. Get help from the experts Your 401(k) plan provider can walk you through your plan design choices and help you tailor a plan that works for your company and your employees. Once you’ve settled on your plan design, you will need to codify those features in the form of a formal plan document to govern your 401(k) plan. At Betterment, we draft the plan document for you and provide it to you for review and final approval. Your business is likely to evolve—and your plan design can evolve, too. Drastic increase in profits? Consider adding an employer match or profit sharing contribution to share the wealth. Plan participation stagnating? Consider adding an automatic enrollment feature to get more employees involved. Employees concerned about access to their money in an uncertain world? Consider adding a 401(k) loan feature. Need a little help figuring out your plan design? Talk to Betterment. Our experts make it easy for you to offer your employees a better 401(k) —at one of the lowest costs in the industry.
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Add a Friendly Face to Your Employees’ 401(k)s
Add a Friendly Face to Your Employees’ 401(k)s Why some of your 401(k) plan’s participants may need a little extra advice—and how to give it to them. Before our arrival more than a decade ago, the finance world typically worked one way for everyday investors: you had a “guy.” In rare cases—much too rare—it was a “gal,” but that’s a story for another day. This advisor may or may not have been a fiduciary, meaning someone legally obligated to act in your best interest. But if you wanted to invest, you had to go through them. And they likely charged a hefty sum for their services, given that today’s average fees for a traditional financial advisor are still more expensive than alternatives like Betterment. Something about this dynamic didn’t sit well with us, so we flipped the relationship on its head. We put our team of experts to work behind the scenes. Traders and tax experts, behavioral scientists and “quants,” they all worked together to infuse technology with their investing insights, leading to a piece of software that served up personalized advice and automated features at scale and for a fraction of the cost of what most investment firms charged. While plenty of investors—730,000 and counting—utilize our approach to automated investing, some still prefer to add a human advisor to that experience, someone to coach them through their money moves face-to-face. And you know what? We not only think that arrangement is okay, it sums up our investing philosophy well: automate what you can, and leave the rest to humans. The implications for your company’s 401(k) plan All of the above holds true for your employees and their 401(k)s. You can give them an intuitive platform to automate their retirement savings. You can match a percentage of their contributions as an incentive. You can share a robust library of educational resources to help explain investing. Some will thrive in this scenario, some will struggle, and some may not bother to sign up at all. So what are you, the plan sponsor, to do? Well, you can add Certified Coaching to your Betterment at Work 401(k), giving your employees access to professional financial advice from our team of CERTIFIED FINANCIAL PLANNER™ professionals. These experts—all fiduciaries, by the way—add a warm touch to the cold arithmetic of retirement saving. They can help your employees not only maximize their 401(k)s, but sort through the rest of their financial lives. “You know, the biggest emotion I sense from clients after a session isn’t excitement; it’s a sense of relief,” says Corbin Blackwell, one of our advisors. “They’re smart people, but investing is scary. Sometimes you just need reassurance that you’re on the right track.” Or sometimes, your employees really do have unusual life circumstances that make for complicated financial decisions. The sort of scenarios that aren’t easy to automate. Maybe they’re high earners, for example, trying to weigh the pros and cons of a Roth IRA conversion. In any case, it’s helpful to have a CFP® professional like Corbin available to talk with. Giving your employees this premium resource can help boost your plan’s participation rate and may improve their financial wellbeing. It can also elevate your 401(k) above your competitors. Retirement saving’s role in the recruiting arms race So far we’ve focused on the benefits of Certified Coaching to your existing employees. We haven’t touched on the appeal to prospective employees, the people you’re hoping fill your talent pipeline for years to come. To some of these workers, a 401(k) is an expectation and neither a surprise nor a delight. They’ve seen plenty of cookie cutter retirement benefits in past jobs and none stood out, at least for the right reasons. While some companies consider this business as usual, another box to check in their benefits package, others see an advantage just waiting to be taken. Because let’s be real, what actually stands out: a piece of paper in your benefits packet, or real-time access to an expert like Corbin? Don’t take our word for it, listen to the recruits. We surveyed workers—and 1-in-5 said access to a live financial advisor could entice them to leave their current job. Whether you’re already a Betterment at Work customer or considering becoming one, Certified Coaching carries the potential to differentiate not only your 401(k) plan but your company. It’s a straightforward way to show you care about the financial well-being of recruits and current employees alike. -
Getting Started with Betterment at Work
Getting Started with Betterment at Work Welcome! Here’s your step-by-step guide to getting your 401(k) up and running. You’ve done the due diligence. You’ve picked us as your 401(k) plan provider. You’ve signed a services agreement. Now what? Before we share the steps needed on your part to get your plan up and running, here’s another heartfelt thank you from us to you. Sponsoring a 401(k) plan is a big commitment on your part—the fiduciary responsibilities alone make it one. You’ve placed your trust in us as your plan provider, and we don’t take that lightly. It’s why we stay by your side every step of the way. Speaking of those steps, here are the first ones you’ll take after signing a services agreement: Step 1: Complete a questionnaire One business day after signing a services agreement, you’ll receive an email with a link to a questionnaire that confirms some basic information about your organization and sets up your plan in our system. This questionnaire can only be sent to one person at your organization, typically the person who’s been in contact with our Sales team. Step 2: Log in to your plan sponsor dashboard After completing the questionnaire, you’ll receive an email with a personalized link to your Betterment at Work plan sponsor dashboard, your home for ongoing plan management. After logging in, you’ll see a series of onboarding tasks to complete so we can finish setting up your organization’s plan. Let’s break down some of these tasks below. Step 3: Review and acknowledge the Investment Policy Statement (IPS) This outlines our general investing rules and can be found in your onboarding hub. Step 4: Purchase a fidelity bond Before your first payroll with Betterment at Work, you’ll need to purchase a fidelity bond. This is a form of insurance required of 401(k) plans that protects against acts of fraud or dishonesty. The bond must come from an insurance company certified by the Department of Treasury. While you’re completing steps 1-4, by the way, we’ll be simultaneously drafting your plan document and disclosure notices. Step 5: Review and sign your plan document Once your plan document is ready, you’ll receive an email to review and sign it. After you’ve signed the plan document, we’ll build out your plan on our platform. This can take up to two weeks to get all the details just right. Step 6: Tell your team about their new 401(k) provider! Right after you sign your plan document is a great time to let your team know about your company’s new 401(k) provider: Betterment! This gives employees ample time to get familiar with us before we email them directly with invitations to claim their accounts. It also helps ensure you give this notice the required 30 days or more before your first payroll with us. Not sure what to say? A suggested announcement message is available in your onboarding hub, and includes a link for your employees to register for our recurring Getting Started with your Betterment 401(k) webinar as well as select articles from our employee resource hub (betterment.com/my401k). Step 7: Add employees to your plan Once your plan is built out on our platform, the party really gets started. How employees are added to your plan depends on whether or not your payroll provider integrates with our platform: If your payroll provider is integrated with our platform, we’ll automatically sync employees. You’ll need to review and confirm the list is correct at least 30 days before payroll launch. If your payroll provider is *not* integrated with our platform, you’ll be asked to bulk upload a list of employees at least 30 days before payroll launch, then we’ll generate their accounts. Once your employees’ accounts have been created, we’ll send an email to each employee’s work email inviting them to claim their account and, in the process, create a login. If an employee already has a Betterment account via one of our individual products like an IRA, the claim email will go to their personal email address. Either way, they’ll need to use the unique link in this email to access their account the first time. Step 8: Prepare for your first payroll Check out your onboarding task hub for details on handling your first payroll. Step 9: Celebrate! Congratulations on uploading your first payroll with Betterment at Work! Your employees are now taking advantage of our clean design and straightforward tools to get more out of their 401(k)s. Their accounts will be funded once the ACH deposit is confirmed, which typically takes 1–3 business days depending on your bank. Once your onboarding process is complete, our Onboarding team will send you an email introducing you to our Plan Support team, who can help with all things related to your ongoing plan administration. To access your plan sponsor dashboard, log in here or by clicking "Log in" at the top of the page while visiting betterment.com/work. -
Betterment 401(k) – Bulk Upload Tutorial for Plan Sponsors
Betterment 401(k) – Bulk Upload Tutorial for Plan Sponsors Betterment’s bulk upload tool allows you to add multiple employees to your plan quickly. This tutorial outlines best practices and shares helpful tips for using our bulk upload tool effectively. Step-by-step Tutorial Log in to the employer dashboard Navigate to: employees → add employees → add multiple employees Download the CSV template Open the CSV template using a program like Microsoft Excel, Apple Numbers, or Google Sheets Fill out one row for each employee you want to upload. Use the table below to understand the columns in the template: Column Description First Name The employee’s legal first name No special characters accepted Last Name The employee’s legal last name No special characters accepted Middle Initial Leave blank if the employee doesn’t have a legal middle name Social Security Number The employee’s government-issued Social Security Number If the employee is not a US Citizen, a Social Security Number still needs to be provided Social Security Numbers should be formatted with hyphens, e.g.: 123-45-6789 Email Betterment uses email to complete the employee sign-up process and to send employees important plan notifications and updates Date of Birth Date should be formatted as MM/DD/YYYY Employment Status This field accepts the following inputs: active (currently employed) terminated (formerly employed) deceased (deceased) disabled (on disability leave) unpaid_leave (unpaid leave) retired (retired former employee) Date of Hire Date of hire can be up to one year in the future Date should be formatted as MM/DD/YYYY Date of Termination This field is required if Employment Status is terminated, deceased, disabled or retired This field can be left blank for employees who are active or who are on unpaid leave Date of termination can be up to one year in the future Date should be formatted as MM/DD/YYYY Date of Rehire This field is required if Employment Status is active and Date of Termination is set Address Line 1 This field is required for all employees The employee’s residential address cannot be a PO Box If the employee’s address includes a comma, you must put that address within quotation marks Address Line 2 This field can be left blank if the employee’s residential address is only one line City Part of the employee’s residential address State Part of the employee’s residential address State should be written using the official two-letter postal abbreviation Examples: NY, FL, CA, TX 5 Digit ZIP Code Part of the employee’s residential address Eligible This field accepts an input of Y or N If an employee will be hired in the future, you must enter N for Eligible, and enter a date in the Entry on column. This indicates that the employee will become eligible for the plan on the future date you’ve specified. Entry on This field defines the date on which an employee will become eligible for the 401(k) plan This date can be in the past or the future Date should be formatted as MM/DD/YYYY Electronic Access This field accepts an input of Y or N Can this employee receive emails and access Betterment’s website at a computer they use regularly as part of their job? Union Member This field accepts an input of Y or N Is this employee a member of a union? Date Joined Union Required if the employee is a member of a union Date should be formatted as MM/DD/YYYY Can be left blank for non-union employees Participant Type This field accepts the following inputs: primary (all participants who are currently in the plan, whether active, terminated, deceased, disabled, retired, or on leave) beneficiary (beneficiary of a deceased participant) alternate_payee (a person who will be the payee of a divorce or other legal settlement) Deferral Rate If an employee was participating in a 401(k) plan you had with a previous provider, please indicate their contribution rate from that provider. This will be used as their new default rate at Betterment. The employee will be able to log into their account to change this prior to their first contribution with Betterment. Traditional deferral amount and percent cannot both be present. Roth deferral amount and percent cannot both be present. If you’re not switching to Betterment from a previous provider, you can leave this field blank. After you’re done filling out the document, export the file as a CSV. Upload your CSV file to Betterment. If you receive any errors after uploading your file, review the errors and make changes to your CSV file. Re-upload the file to Betterment after making changes. Once your file is accepted without any errors, you’ll be asked to review the names of the newly created employees. This helps ensure that you’re uploading the correct file to your plan. When you’re done reviewing, click the ‘add employees’ button. Next, the upload process will begin. Once your employees have been uploaded, they’ll receive an email inviting them to complete the sign-up process. Finally, check the employees page to make sure there are no outstanding errors that occurred during the employee creation process. Address any errors that may have occurred. You’re all set! All new participant profiles will be visible on the employees page. You can return to the employees page to make changes to an employee’s profile at any time. Frequently Asked Questions Do I have to do anything else? Nope! You’re all set. Betterment will email all required disclosures to your new plan participants. Do I have to send any notices to my employees? No, Betterment will send all notices to your employees automatically via email. When will my employees be alerted? Employees will be notified by email as soon as their account is created. How can my employees join the plan after I upload their information to Betterment? Employees can check their email for an invite from Betterment to complete the sign-up process. My employee has a P.O. Box as their address. Can I use that address with Betterment? No. To comply with regulations for opening accounts, we require a physical address to verify an employee's identity. Betterment will not send physical mail to an employee’s address (unless they opt into paper statements, which is rare); we will otherwise only use their physical address for account verification. Questions? Contact us.
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401(k) Plan Essentials
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Guide to Meeting Your 401(k) Fiduciary Responsibilities
To help your business avoid any pitfalls, this guide outlines how you can fulfill your 401(k) ...
Guide to Meeting Your 401(k) Fiduciary Responsibilities To help your business avoid any pitfalls, this guide outlines how you can fulfill your 401(k) fiduciary responsibilities and manage them properly. If your company has or is considering, a 401(k) plan, you’ve probably heard the term “fiduciary.” But what does it mean to you as a 401(k) plan sponsor? Simply put, being a fiduciary means that you’re obligated to act in the best interests of your 401(k) plan participants. It’s serious business. If fiduciary responsibilities aren’t managed properly, your business could face serious legal and financial ramifications. To help you avoid any pitfalls, this guide outlines how you can fulfill your 401(k) fiduciary responsibilities. A brief history of the 401(k) plan and fiduciary duties When Congress passed the Revenue Act of 1978, it included the little-known provision that eventually (and somewhat accidentally) led to the 401(k) plan. The Employee Retirement Income Security Act of 1974, referred to as ERISA, is a companion federal law that contains rules designed to protect employee savings by requiring individuals and entities that manage a retirement plan, referred to as “fiduciaries,” to follow strict standards of conduct. Among other responsibilities, fiduciaries must always act in the best interests of employees who save in the plan and avoid conflicts of interest. When you adopt a 401(k) plan for your employees, you become an ERISA fiduciary. And in exchange for helping employees build retirement savings, you and your employees receive special tax benefits, as outlined in the Internal Revenue Code. The IRS oversees the tax rules, and the Department of Labor (DOL) provides guidance on ERISA fiduciary requirements and enforcement. As you can imagine, following these rules can sometimes feel like navigating a maze. But the good news is that an experienced 401(k) provider like Betterment can help you understand your fiduciary duties and even shoulder some of the responsibility for you. Key fiduciary responsibilities Even if you’re a business owner with a small 401(k) plan, you still have fiduciary duties. By sponsoring a retirement plan, you take on two sets of fiduciary responsibilities: You are considered the “named fiduciary” with overall responsibility for the plan, including selecting and monitoring plan investments. You are also considered the “plan administrator” with fiduciary authority and discretion over how the plan is operated. 401(k) fiduciary responsibility checklist As a fiduciary, you must follow the high standards of conduct required by ERISA both when managing your plan’s investments and when making decisions about plan operations. As a 401(k) fiduciary, you must follow five cornerstone rules: Act in employees’ best interests—Every decision you make about your plan must be solely based on what is best for your participants and their beneficiaries. Act prudently—Prudence requires that you be knowledgeable about retirement plan investments and administration. If you do not have the expertise to handle all of these responsibilities, you will need to engage the services of those who do, such as investment managers or recordkeepers. Diversify plan investments—You must diversify investments to help reduce the risk of large losses to plan assets. Follow the plan documents—You must follow the terms of the plan document when operating your plan (unless they are inconsistent with ERISA). Pay only reasonable plan fees—Fees from plan assets must be reasonable and for services that are necessary for your plan. Detailed DOL rules outline the steps you must take to fulfill this fiduciary responsibility, including collecting fee disclosures for investments and service providers, and comparing (or benchmarking) fees to ensure they are reasonable. You don’t have to pay a lot to get a quality 401(k) plan Betterment’s 401(k) administration fees are one of the lowest in the industry, and we always tell you what they are so there are no surprises for you—and more money working harder for your employees. Plus, since we serve as both a 3(16) administrative fiduciary and 3(38) investment fiduciary, we can help limit your risk exposure so you can focus on running your business--not managing your plan. Why it’s important to fulfill your fiduciary duties Put simply, it’s incredibly important that you meet your 401(k) fiduciary responsibilities. Not only are your actions critical to your employees’ futures, but there are also serious consequences if you fail to fulfill your fiduciary duties. In fact, plan participants and other plan fiduciaries have the right to sue to correct any financial wrongdoing. If the plan is mismanaged, you face a two-fold risk: Civil and criminal action (including expensive penalties) from the government and the potentially high price of rectifying the issue. Under ERISA, fiduciaries are personally liable for plan losses caused by a breach of fiduciary responsibilities and may be required to: Restore plan losses (including interest) Pay expenses relating to correction of inappropriate actions. While your fiduciary responsibilities can seem daunting, the good news is that ERISA also allows you to delegate many of your fiduciary responsibilities to 401(k) professionals like Betterment. How to be the best 401(k) fiduciary you can be Now that you understand what a 401(k) fiduciary is, you may be wondering how to best fulfill your fiduciary responsibilities. Here are some tips: Pay reasonable fees—As you know, fees can really chip away at your participants’ account balances—and have a detrimental impact on their futures. So take care to ensure that the services you’re paying for are necessary for the plan and that the fees paid from plan assets are reasonable. To determine what’s reasonable you may need to benchmark the fees against those of other similar retirement plans. Your 401(k) provider should be able to assist you with the benchmarking process. Deposit participant contributions in a timely manner —This may seem simple, but it’s extremely important to do it quickly and accurately. Specifically, you must deposit participants’ contributions to your plan’s trust account on the earliest date they can be reasonably segregated from general corporate assets. The timelines differ depending on your plan size: Small plan—If your plan has fewer than 100 participants, a deposit is considered timely if it’s made within seven business days from the date the contributions are withheld from employees’ wages. Large plan— If your plan has 100 participants or more, you must deposit contributions as soon as possible after you withhold the money from employees’ wages. It must be “timely,” which means typically within a few days.For all businesses, the deposit should never occur later than the 15th business day of the month after the contributions were withheld from employee wages. However, contributions should be deposited well before then. Fulfill your reporting and disclosure requirements—Under ERISA, you are required to fulfill specific reporting requirements. While the paperwork can be complicated, an experienced 401(k) provider like Betterment should be able to guide you through the process.It’s important to note that if required government reports—such as Form 5500—aren’t filed in a timely manner, you may be assessed financial penalties. Plus, when required disclosures—such as safe harbor notices—aren’t provided to participants in a timely manner, the consequences can also be severe including civil penalties, plan disqualification by the IRS, or participant lawsuits. Follow the plan document—It’s important to know your plan document. In fact, the IRS mandates that 401(k) plans operate in accordance with the terms of its written document to maintain its tax-favored status and prevent a breach of fiduciary duty.Make a mistake? The IRS considers the issue an “operational defect,” and your 401(k) plan can be disqualified for not fixing the problem in a timely manner. However, the IRS offers a handy 401(k) Plan Fix-It Guide to help you resolve any issues that crop up. Select prudent investments—Unfortunately, there can be many hidden fees buried in plan investments, so it’s critical to be vigilant about those you select. In addition to fee considerations, you must also think about whether they meet your plan’s investment objectives. Wondering which investments you should choose? Betterment can help.In fact, most companies hire one or more outside experts (such as an investment advisor, investment manager, or third party administrator) to help them manage their fiduciary responsibilities. Get help shouldering your fiduciary responsibilities When it comes to managing your fiduciary responsibilities, you don’t have to go it alone. However, the act of hiring 401(k) experts is a fiduciary decision! Even though you can appoint others to carry out most of your fiduciary responsibilities, you can never fully transfer or eliminate your role as an ERISA fiduciary. You will always retain the fiduciary responsibility for selecting and monitoring your plan’s investment professionals and administrators. How much support is right for you? For most employers, day-to-day business responsibilities leave little time for extensive investment research, analysis, and fee benchmarking. Many companies hire outside experts to take on the fiduciary investment duties or even plan administration responsibilities. Take a look at the chart below to see the different fiduciary roles—and the implications they have for you as the employer: Defined in ERISA section Outside expert Employer No Fiduciary Status Disclaims any fiduciary investment responsibility Retains sole fiduciary responsibility and liability 3(21) Shares fiduciary investment responsibility in the form of investment recommendations Retains responsibility for final investment discretion 3(38) Assumes full discretionary authority for assets and investments Relieves employer of investment fiduciary responsibility 3(16) Has discretionary responsibility for certain administrative aspects of the plan Relieves employer of certain plan administration responsibility Betterment can help When you appoint an ERISA 3(38) investment manager like Betterment, you fully delegate responsibility for selecting and monitoring plan investments to the investment manager. That means less work for you and your staff, so you can focus on your business. In addition to assuming fiduciary responsibility for your investment options, Betterment offers: Consultative plan sponsor support— As a total 401(k) solution, we are your full-service partner, including fiduciary services to plan design consulting and ongoing plan management support, helping ensure your 401(k) is set up for success. Personalized employee guidance—Our action-oriented approach to financial wellness enables your employees to make strides toward their long- and short-term goals ranging from paying down debt to saving for retirement. Plus, we link employees’ outside investments, savings accounts, IRAs—even spousal/partner assets—to help them see the big picture. Get in touch today if you’re interested in bringing a Betterment 401(k) to your employees. -
What is a 401(k) QDIA?
A QDIA (Qualified Default Investment Alternative) is the plan’s default investment. When money is ...
What is a 401(k) QDIA? A QDIA (Qualified Default Investment Alternative) is the plan’s default investment. When money is contributed to the plan, it’s automatically invested in the QDIA. What is a QDIA? A 401(k) QDIA (Qualified Default Investment Alternative) is the investment used when an employee contributes to the plan without having specified how the money should be invested. As a "safe harbor," a QDIA relieves the employer from liability should the QDIA suffer investment losses. Here’s how it works: When money is contributed to the plan, it’s automatically invested in the QDIA that was selected by the plan fiduciary (typically, the business owner or the plan sponsor). The employee can leave the money in the QDIA or transfer it to another plan investment. When (and why) was the QDIA introduced? The concept of a QDIA was first introduced when the Pension Protection Act of 2006 (PPA) was signed into law. Designed to boost employee retirement savings, the PPA removed barriers that prevented employers from adopting automatic enrollment. At the time, fears about legal liability for market fluctuations and the applicability of state wage withholding laws had prevented many employers from adopting automatic enrollment—or had led them to select low-risk, low-return options as default investments. The PPA eliminated those fears by amending the Employee Retirement Income Security Act (ERISA) to provide a safe harbor for plan fiduciaries who invest participant assets in certain types of default investment alternatives when participants do not give investment direction. To assist employers in selecting QDIAs that met employees’ long-term retirement needs, the Department of Labor (DOL) issued a final regulation detailing the characteristics of these investments. Learn more about what kinds of investments qualify as QDIAs below. Why does having a QDIA matter? When a 401(k) plan has a QDIA that meets the DOL’s rules, then the plan fiduciary is not liable for the QDIA’s investment performance. Without a QDIA, the plan fiduciary is potentially liable for investment losses when participants don’t actively direct their plan investments. Plus, having a QDIA in place means that employee accounts are well positioned—even if an active investment decision is never taken. If you select an appropriate default investment for your plan, you can feel confident knowing that your employees’ retirement dollars are invested in a vehicle that offers the potential for growth. Does my retirement plan need a QDIA? Yes, it’s a smart idea for all plans to have a QDIA. That’s because, at some point, money may be contributed to the plan, and participants may not have an investment election on file. This could happen in a number of situations, including when money is contributed to an account but no active investment elections have been established, such as when an employer makes a contribution but an employee isn’t contributing to the plan; or when an employee rolls money into the 401(k) plan prior to making investment elections. It makes sense then, that plans with automatic enrollment must have a QDIA. Are there any other important QDIA regulations that I need to know about? Yes, the DOL details several conditions plan sponsors must follow in order to obtain safe harbor relief from fiduciary liability for investment outcomes, including: A notice generally must be provided to participants and beneficiaries in advance of their first QDIA investment, and then on an annual basis after that Information about the QDIA must be provided to participants and beneficiaries which must include the following: An explanation of the employee’s rights under the plan to designate how the contributions will be invested; An explanation of how assets will be invested if no action taken regarding investment election; Description of the actual QDIA, which includes the investment objectives, characteristics of risk and return, and any fees and expenses involved Participants and beneficiaries must have the opportunity to direct investments out of a QDIA as frequently as other plan investments, but at least quarterly For more information, consult the DOL fact sheet. What kinds of investments qualify as QDIAs? The DOL regulations don’t identify specific investment products. Instead, they describe mechanisms for investing participant contributions in a way that meets long-term retirement saving needs. Specifically, there are four types of QDIAs: An investment service that allocates contributions among existing plan options to provide an asset mix that takes into account the individual’s age or retirement date (for example, a professionally managed account like the one offered by Betterment) A product with a mix of investments that takes into account the individual’s age or retirement date (for example, a life-cycle or target-date fund) A product with a mix of investments that takes into account the characteristics of the group of employees as a whole, rather than each individual (for example, a balanced fund) The fourth type of QDIA is a capital preservation product, such as a stable value fund, that can only be used for the first 120 days of participation. This may be an option for Eligible Automatic Contribution Arrangement (EACA) plans that allow withdrawals of unintended deferrals within the first 90 days without penalty. We’re excluding further discussion of this option here since plans must still have one of the other QDIAs in cases where the participant takes no action within the first 120 days. What are the pros and cons of each type of QDIA? Let’s breakdown each of the first three QDIAs: 1. An investment service that allocates contributions among existing plan options to provide an asset mix that takes into account the individual’s age or retirement date Such an investment service, or managed account, is often preferred as a QDIA over the other options because they can be much more personalized. This is the QDIA provided as part of Betterment 401(k)s. Betterment factors in more than just age (or years to retirement) when assigning participants their particular stock-to-bond ratio within our Core portfolios. We utilize specific data including salary, balance, state of residence, plan rules, and more. And while managed accounts can be pricey, they don’t have to be. Betterment’s solution, which is relatively lower in cost due to investing in exchange traded funds (ETFs) portfolios, offers personalized advice and an easy-to-use platform that can also take external and spousal/partner accounts into consideration. 2. A product with a mix of investments that takes into account the individual’s age or retirement date When QDIAs were introduced in 2006, target date funds were the preferred default investment. The concept is simple: pick the target date fund with the year that most closely matches the year the investor plans to retire. For example, in 2020 if the investor is 45 and retirement is 20 years away, the 2040 Target Date Fund would be selected. As the investor moves closer to their retirement date, the fund adjusts its asset mix to become more conservative. One common criticism of target date funds today is that the personalization ends there. Target date funds are too simple and their one-size-fits-all portfolio allocations do not serve any individual investor very well. Plus, target date funds are often far more expensive compared to other alternatives. Finally, most target date funds are composed of investments from the same company—and very few fund companies excel at investing across every sector and asset class. Many experts view target date funds as outdated QDIAs and less desirable than managed accounts. 3. A product with a mix of investments that takes into account the characteristics of the group of employees as a whole This kind of product—for example, a balanced fund—offers a mix of equity and fixed-income investments. However, it’s based on group demographics and not on the retirement needs of individual participants. Therefore, using a balanced fund as a QDIA is a blunt instrument that by definition will have an investment mix that is either too heavily weighted to one asset class or another for most participants in your plan. Better QDIAs—and better 401(k) plans Betterment provides tailored allocation advice based on what each individual investor needs. That means greater personalization—and potentially greater investment results—for your employees. At Betterment, we monitor plan participants’ investing progress to make sure they’re on track to reach their goals. When they’re not on target, we provide actionable advice to help get them back on track. As a 3(38) investment manager, we assume full responsibility for selecting and monitoring plan investments—including your QDIA. That means fiduciary relief for you and better results for your employees. The exchange-traded fund (ETF) difference Another key component that sets Betterment apart from the competition is our exclusive use of ETFs. Here's why we use them: Low cost—ETFs generally cost less than mutual funds, which means more money stays invested. Diversified—All of the portfolios used by Betterment are designed with diversification in mind, so that investors are not overly exposed to individual stocks, bonds, sectors, or countries—which may mean better returns in the long run. Efficient—ETFs take advantage of decades of technological advances in buying, selling, and pricing securities. Helping your employees live better Our mission is simple: to empower people to do what’s best for their money so they can live better. Betterment’s suite of financial wellness solutions, from our QDIAs to our user-friendly investment platform, is designed to give your employees a more personalized experience. We invite you to learn more about what we can do for you.