Plan Sponsors Ask....Q4 2019

Q: We keep hearing about participant lawsuits against 401(k) plans, and strive to do our best to avoid situations that could lead to one. Part of that is using prudent processes in the plan. We have asked our advisor and done some searching on our own, but haven’t been able to define what processes are truly prudent in this context.

 A: Since the inception of the Employee Retirement Income Security Act of 1974 (ERISA), the prudent person rule has provided a good rule of thumb. To paraphrase, it states that an appropriate decision is one that a prudent person, with similar skill and circumstances, would make. You are correct that it lacks precision, and that’s why process is so important; the Center for Retirement Research at Boston College studied the major causes of 401(k) lawsuits, and determined that they often hinge on whether or not a prudent process was followed. The study found that the most common reasons for participant legal action are excessive plan fees, poor investment options, and self-dealing behaviors. To illustrate: some plan sponsors fear incurring the higher fees associated with actively managed funds, so they offer only passive funds. But courts don’t automatically consider higher fees to be excessive, as long as they are clear and provide value in exchange for the fees. In fact, a too-conservative approach may also be detrimental to participants. A prudent process for selecting the funds may provide a satisfactory defense if a participant decides to sue. Our best suggestion is to thoroughly review all processes in the plan with prudence in mind. Read more at https://tinyurl.com/CRR-Prudent-Process.

Q: I overheard a surprising conversation between two of our employees. In short, one told the other that his 401(k) account at his former company just goes back to his ex-employer. I brought the employee in and gave him the contact information for our plan’s advisor so he can get correct information. But it made me wonder how we’re really doing in educating employees about our plan.

 A: Communicating with employees about the plan is at least a two-part process. Part 1 is providing the education, and part 2 is determining how well it works. You are fortunate to have stumbled upon Part 2. Don’t feel bad if your education efforts are falling short, though, because you aren’t alone. Fisher Investment 401(k) Solutions found some holes in participants’ understanding of their 401(k) plans, through their 401(k) Wellness in the Workplace Survey, covered in 401kSpecialist Magazine, https://tinyurl.com/Fisher-Workplace-Wellness.

The knowledge gaps uncovered by Fisher may help you determine the next topics to address for your employees. A few subjects on which you may want to educate employees include loans, taxes, and asset classes. One-third of Fisher’s survey respondents thought that most plans don’t allow loans, 23% did not know their contributions reduce their taxable income, and 77% could not accurately define “mutual fund” when presented with a list of descriptive statements.

Q: Our 401(k) plan has decent participation and contribution rates. Unfortunately, we also notice a lot of loan activity. Informal discussions suggest that employees are using their retirement savings to fund emergencies. Any ideas for how to help?

 A: Lots of Americans are finding it difficult to fund even small emergencies from their bank accounts, as demonstrated by the proliferation of payday loans and — as you have discovered — early withdrawals and loans from 401(k) plans. One way to help may be the sidecar IRA, an account to which employees can direct after-tax money through payroll deduction. Once the account is funded to the extent desired by the employee, the payroll deductions can then be directed toward pretax retirement savings. Check out related statistics and more information from studies by Transamerica Center for Retirement Studies, Prudential, and AARP by reading the MarketWatch article here: https://tinyurl.com/Market-Watch-Sidecars.

For plan sponsor use only, not for use with participants or the general public. This information is not intended as authoritative guidance or tax or legal advice. You should consult with your attorney or tax advisor for guidance on your specific situation.

© 2019 Kmotion, Inc.