SECURE 2.0 offers new alternative for in-plan emergency savings 

July 7, 2023

The SECURE 2.0 Act of 2022 (Div. T of Pub. L. No. 117-328) gives defined contribution (DC) plan sponsors a new way to help employees accumulate emergency savings. Sponsors of 401(k), 403(b) and governmental 457(b) plans can offer nonhighly compensated employees (NHCEs) pension-linked emergency savings accounts (PLESAs) in plan years beginning after Dec. 31, 2023. Employees would contribute to these accounts on a Roth basis and could make withdrawals as frequently as monthly. Agency guidance is needed to address a variety of key implementation issues.

PLESAs are subject to detailed rules governing eligibility, contributions and withdrawals. These rules will require careful coordination between the plan, its recordkeeper and the sponsor’s payroll provider.

Only employees who meet certain conditions can participate in a plan’s PLESAs.

• Eligibility. SECURE 2.0 says that employees must meet “any age, service and other eligibility requirements of the plan” to enroll in a PLESA. The act also provides that individuals who meet these requirements are PLESA-eligible, even if they aren’t otherwise plan participants. Does this mean a plan can have different eligibility conditions for making retirement and PLESA contributions (including more generous conditions to participate in PLESAs)? Or can employees enroll in PLESAs only if they’re eligible to make retirement contributions to the plan? Agency guidance is needed to clarify this requirement.
  
  
• Limited to NHCEs. Highly compensated employees (HCEs) aren’t eligible to enroll in or contribute to PLESAs. However, a participant who becomes an HCE after contributing to a PLESA can maintain the existing balance and continue to take withdrawals from the account (but can’t make new contributions). SECURE 2.0 says that for this purpose, the definition of an HCE under IRC Section 414(q) applies, which is the same definition that applies for nondiscrimination testing. Some plans don’t identify HCEs for nondiscrimination purposes until testing is underway, which typically happens after the plan year to which the HCE determination relates. However, plans offering PLESAs will apparently need to identify HCEs at the beginning of the year to enforce this restriction.

PLESA contributions are subject to several conditions and restrictions:

• Employee contributions only. PLESAs can accept only employee contributions — employer contributions aren’t allowed. Participants can’t transfer any money — even employee contributions — from their plan accounts into PLESAs.
  
  
• Required Roth treatment. Contributions must be made on a Roth basis. The act requires PLESAs to be separate designated Roth accounts (even if the participant already has a Roth retirement account under the plan). Unlike pretax deferrals, Roth contributions are includable in an employee’s income when made, so participants won’t have to pay income taxes on withdrawals (as discussed below).
  
  
• Recordkeeping. Plans must separately account for PLESA contributions and earnings. The act also requires plans to maintain separate recordkeeping for each participant’s PLESA.
  
  
• Contribution limit. A participant can’t contribute to a PLESA once the account assets attributable to contributions reach $2,500, indexed for inflation for tax years starting after Dec. 31, 2024 (this determination presumably would exclude any earnings on contributions). Sponsors may choose to apply a lower account limit. The plan must either reject contributions that would exceed the limit or, if the participant has a Roth retirement account in the plan, redirect the excess contributions to that account, either automatically or at the participant’s instruction (but these contributions couldn’t be directed to a pretax account within the plan).
  
  
• No minimum contribution or balance requirements. The act forbids plans from imposing minimum contribution or account balance requirements for PLESAs. Unless agency guidance provides flexibility, the prohibition on minimum contributions may prove impractical for sponsors and their providers to implement. For example, would a plan that requires participants to make contribution elections in whole percentage increments violate this restriction?
  
  
• Employer match applies. Sponsors must match PLESA contributions at the same rate that applies to employees’ elective contributions, although a participant’s total employer match for PLESA contributions for any plan year can’t exceed the applicable PLESA contribution limit (discussed above). The match must be made to the participant’s retirement account in the plan, not the PLESA. If a participant makes both elective and PLESA contributions, plans must attribute the match first to the elective contributions.
  
  
• Match anti-abuse rules. SECURE 2.0 says plans can use “reasonable procedures” to limit the frequency or amount of the match on PLESA contributions to prevent these matching contributions from exceeding the plan’s intended amounts or frequency. However, plans needn’t suspend matching contributions after participant withdrawals. (Plans often impose such suspensions to comply with IRS rules that require substantial limitations on withdrawals to prevent manipulation of a plan’s matching contribution formula.) The act directs the Department of Labor (DOL) and IRS to issue guidance on these anti-abuse rules by Dec. 29.
  
  
• Coordination with annual deferral limit. If a participant with a PLESA has deferrals exceeding the indexed annual limit on deferrals under IRC Section 402(g), the plan must first distribute amounts contributed to the PLESA during the relevant tax year before making corrective distributions from the participant’s retirement account. (Amounts contributed to the PLESA in prior tax years can remain in the account.) This suggests that PLESA contributions count toward the annual deferral limit, although the statute doesn’t say so explicitly.

Plans must allow participants to make regular withdrawals from their PLESAs, with no requirement that participants demonstrate any immediate financial need or provide substantiation for a withdrawal.

• Monthly withdrawals. Participants must be able to withdraw all or part of their account balance at least once each calendar month. The statute says a withdrawal must be distributed “as soon as practicable” after the participant’s withdrawal election. The act doesn’t explain how plans will allocate contributions and earnings when administering PLESA withdrawals.
  
  
• PLESA fees and expenses. The act’s participant notice requirement (discussed below) contemplates that participants may be charged reasonable administrative fees for these accounts. However, plans can’t charge any withdrawal fee for a participant’s first four withdrawals in any plan year. Additional withdrawals may be subject to reasonable fees or charges, including the costs of handling paper checks.
  
  
• Effect on contributions. If a participant who has reached the contribution limit (discussed above) makes a withdrawal, the participant could presumably begin making new PLESA contributions. The act doesn’t specify how quickly plans would need to restart a participant’s PLESA contributions in that situation. Could a plan set a PLESA-contribution restart date for all participants who’ve taken withdrawals during the year — e.g., the beginning of the next plan year — for administrative ease?
  
  
• Distributable events. Retirement plans typically can distribute benefits only when certain specified events occur, such as a participant’s retirement, death, disability or financial hardship. The act provides that PLESA withdrawals satisfy the distribution rules for 401(k), 403(b) and 457(b) plans.
  
  
• Taxation of withdrawals. The act treats PLESA withdrawals as qualified distributions for purposes of the Roth taxation rules. This means the entire amount — including earnings — is tax-free to the employee, even if the usual requirements for qualified distributions haven’t been met (e.g., fewer than five consecutive tax years have passed since the employee’s first Roth contribution to the plan). PLESA withdrawals are also exempt from the 10% early withdrawal penalty.
  
  
• Tax reporting. The act doesn’t address the reporting requirements for PLESA withdrawals. Plans generally must issue a separate Form 1099-R for distributions from a designated Roth account. PLESA withdrawals presumably could be reported on the same Form 1099-R as other Roth distributions from the plan.
  
  
•  Termination of employment. On employment termination, participants can elect to transfer some or all of their PLESA balance into their designated Roth account under the plan as an eligible rollover distribution. The act doesn’t specify how long participants must have to make this election or indicate whether sponsors can apply a default election to transfer such amounts. Any remaining PLESA balance that isn’t transferred must be available to the participant within a reasonable time. The statute specifically prohibits rolling over PLESA distributions outside of the plan.
  
  
• PLESA termination. A sponsor can terminate its plan’s PLESA feature at any time without violating the anti-cutback rules under IRC Section 411(d)(6). When the sponsor eliminates the PLESA feature, participants must have the same transfer and withdrawal options that are available on employment termination.

SECURE 2.0 allows (but doesn’t require) sponsors to automatically enroll eligible employees in PLESAs at a rate of up to 3% of compensation. A sponsor can only adjust the plan’s default rate before the plan year starts, but participants must be able to elect a different rate or opt out altogether.

The statute doesn’t explain how automatic enrollment features in PLESAs will interact with automatic contribution arrangements for employee deferrals. For example, if a plan automatically enrolls employees at an initial contribution rate of 3% of compensation, could automatic PLESA contributions count toward that rate? Or would the plan have to maintain separate automatic enrollment arrangements and deferral rates for elective and PLESA contributions (resulting in an aggregate 6% initial contribution rate in this example)?

The act affords ERISA preemption of state laws that would restrict automatic enrollment, giving PLESAs an advantage over emergency savings arrangements outside a retirement plan. DOL may adopt minimum standards that plans would have to meet for preemption to apply.

The act restricts the types of investments that can be used with PLESAs. PLESA contributions must be held as cash in an interest-bearing deposit account or in a regulated investment product that:

• Is designed to preserve principal
• Will provide a reasonable rate of return consistent with the need for liquidity
• Is offered by a state- or federally regulated financial institution

Plans will need to ensure that the investment product doesn’t impose investment or withdrawal restrictions that could conflict with other PLESA features, including the ability to make monthly withdrawals and the prohibition on minimum balances. DOL will also need to confirm how to reflect the PLESA’s investment option in the plan’s participant fee disclosures, particularly if that investment is only used for PLESA contributions and not available for other amounts.

The act extends ERISA Section 404(c) (29 USC § 1104(c)) fiduciary relief to the default investment of a participant’s PLESA contributions. This relieves fiduciaries from liability for losses from the investment of PLESA contributions in one of these investment products (though the fiduciary presumably must ensure the selected investment product is and remains prudent). The language of the statute indicates that the plan sponsor must select the investment, which may raise questions for a plan whose investment fiduciary isn’t the sponsor.

Plan administrators must furnish a notice at least 30 days and no more than 90 days before a participant’s first PLESA contribution (or any subsequent adjustment to the plan’s default contribution rate). The notice must include the following information (some of which apparently needs to be individualized to the participant):

• A statement that the PLESA’s purpose is for short-term emergency savings
• Contribution limits and tax treatment
• Associated fees, expenses, charges or restrictions
• Election procedures for contributions and withdrawals
• Amount of the participant’s intended contribution or the change in the percentage of the participant’s compensation contributed (as applicable)
• The participant’s PLESA balance and the amount or the percentage of compensation contributed by the participant
• The PLESA’s designated investment option
• Options for treating the balance on employment termination or elimination of the plan’s PLESA feature
• Restrictions on PLESA contributions if the participant becomes an HCE

For a plan that doesn’t automatically enroll participants in PLESAs, the timing requirements presumably could be satisfied by providing the notice before a participant’s initial eligibility. Notice must also be provided at least annually after the initial notice. Plan administrators can include the PLESA notice with other required plan notices — including automatic enrollment notices — as long as the applicable timing requirements are met. The act authorizes DOL and Treasury to issue model notices.

SECURE 2.0 doesn’t specify how plans will account for PLESAs on Form 5500 filings. Instead, the act directs DOL to issue regulations addressing PLESA reporting and disclosure requirements, including simplified reporting procedures.

The act requires the plan document to include any PLESA feature. The plan amendment deadline for SECURE 2.0’s provisions is the end of the first plan year beginning on or after Jan. 1, 2025 (2027 for governmental and collectively bargained plans). This deadline applies to sponsors that offer PLESAs during the 2024 or 2025 plan year. SECURE 2.0 allows DOL and Treasury to issue model plan language.

As noted throughout this article, DOL and Treasury each will need to issue regulatory guidance to make implementation of PLESAs feasible. Leadership of the Senate Committee on Health, Education, Labor and Pensions recently asked DOL to prioritize administration of SECURE 2.0’s PLESA provision. DOL’s spring 2023 regulatory agenda indicates that the agency is currently meeting with stakeholders but offers no estimate on the timing for regulatory guidance.

In addition to the PLESA implementation items already mentioned, the act authorizes the agencies to issue guidance on the following:

• DOL can allow “reasonable restrictions” on PLESAs.
• DOL and Treasury can expand their correction programs for PLESAs.
• DOL and Treasury can issue regulations or guidance on the “interactions” with qualified automatic contribution arrangements (QACAs).

SECURE 2.0 directs DOL and Treasury to study emergency savings in DC plans — including the use of PLESAs — and report the findings to Congress by Dec. 29, 2029. The act instructs the agencies to examine the following PLESA issues:

• Appropriateness of the $2,500 (indexed) contribution limit and 3% cap on automatic contributions
  
  
• The number of DC plans offering PLESAs and their effect on participant retirement savings, including plan leakage and participation by low- and moderate-income households

Sponsors with concerns about the complexity of PLESAs have another option for participants to access a portion of their retirement savings in emergencies. SECURE 2.0 allows sponsors of 401(k), 403(b) and governmental 457(b) plans to offer penalty-free distributions to participants who incur emergency personal expenses. Sponsors can offer these distributions — which don’t have to be limited to NHCEs — for plan years starting after Dec. 31, 2023, in addition to or instead of PLESAs.

However, emergency distributions are subject to more restrictions than PLESA withdrawals. The maximum emergency distribution a participant can take without penalty is the lesser of $1,000 or the participant’s nonforfeitable benefit reduced by $1,000. Unlike PLESAs, participants are limited to one emergency distribution per year and must have unforeseeable or immediate financial needs relating to necessary personal or family emergency expenses. An emergency distribution of pretax deferrals would also trigger income taxes but could be repaid by the participant within three years.

• Div. T of Pub. L. No. 117-328, the SECURE 2.0 Act of 2022 (Congress, Dec. 29, 2022)

• Implementing SECURE 2.0’s Roth provisions may tax DC plan sponsors (April 11, 2023)
• Taking a closer look at SECURE 2.0’s penalty-free distribution provisions (March 13, 2023)
• User’s guide to SECURE 2.0 (March 7, 2023)
• Road-testing SECURE 2.0’s auto-enrollment mandate for new DC plans (Feb. 14, 2023)

• SECURE 2.0 where to focus and where to begin (March 20, 2023)