Automatic Enrollment – The Pros and Potential Pitfalls
posted Dec 26, 2017 by Elise Rivers Caputi, CPA in the Business Blog
If your employees aren’t proactively participating in your employee benefit plan, it’s time to consider adding an automatic enrollment feature. Automatic enrollment is true to its name – it’s when an employer automatically enrolls its employees in its 401(k), 403(b) or other retirement plan.
The automatic enrollment feature isn’t a one size fits all and it isn’t the best choice for all companies and organizations, so take a look at these pros and cons before moving forward.
Pros of auto-enrollment:
- Employees will be more likely to participate – This can help when it is hard to get employees to proactively participate for various reasons such as numerous and/or remote work locations.
- Employers may provide an automatic escalation feature where employees increase their contribution rate each year.
- Employees will defer paying income tax on their contributions.
- Auto-enrollment will help the nondiscrimination testing results, while the QACA plan (see below) will exempt a plan from certain nondiscrimination testing requirements.
Potential pitfalls of auto-enrollment:
- Setting the auto-enrollment contribution rate lower than a participant would elect may negatively impact employee savings, while setting it too high may cause employees to fully opt-out of the plan, negatively impacting both employee savings and participation.
- Employees may become disengaged and wrongly believe their needed retirement savings will be taken care of with auto-enrollment. As plan sponsors, companies should provide retirement planning or education programs to their employees, typically available through their plan’s advisor, to address this potential pitfall.
- There may be some added administration time to incorporate and explain the automatic enrollment feature to employees, including the default investment chosen by the employer.
- Employer matching contributions may increase with increased employee participation.
3 types of auto enrollment to consider
When deciding if your plan should provide automatic enrollment, you have three options: Automatic Contribution Arrangement (ACA), Eligible Automatic Contribution Arrangement (EACA), and Qualified Automatic Contribution Arrangement (QACA). Here’s a quick overview of each:
- ACA – The most flexible design, where there is no minimum contribution rate or required auto-escalation. There is also no required employer contribution. This design can be added to a plan at any time.
- EACA – This design is similar to an ACA where there is no minimum contribution rate or required auto-escalation. There is also no required employer contribution. However, an EACA must be in place as of the first day of a Plan year. Also, employees may have up to 90 days to request to receive the return of their employee deferrals, without incurring the tax penalty.
- QACA – The least flexible design, where there is a minimum contribution rate, the employer must provide a matching contribution, and participants must be fully vested in employer contributions within two years of service. The QACA generally must be in place the entire year. If done correctly, this design will automatically satisfy certain non-discrimination testing. Also, employees may have up to 90 days to request to receive the return of their employee deferrals, without incurring the tax penalty.
Is auto-enrollment right for your company or organization?
While there is no blanket answer, we can help you understand how implementing an auto-enrollment feature might affect your company or organization - Contact us today!