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Coping With Plan Costs in Difficult Economic Times
Coping With Plan Costs in Difficult Economic Times
To our valued clients:
In these uncertain days, we understand that you may have the need to make changes to your retirement plan structure due to changes in your business’ financial situation. There are ways to reduce costs in both your defined benefit plan and your 401(k) plan, but these actions must be taken in a timely manner. Let me explain for each type of plan.
Defined Benefit Plans (“DB Plans”)
- Freezing the Plan.
Under a DB Plan, employees accrue benefits each year, and the company is required to contribute sufficient money to a trust fund so that all of those benefits can be paid. An employer can “freeze” the DB Plan to stop the employee from earning any further benefits under the Plan which would normally be earned by his continuing employment with the company. By freezing the Plan, the benefits earned to date by the employee become “frozen”, which allows the company more time to fund whatever benefits have been earned to date.
Depending on the facts and circumstances of your plan, including how well or poorly the plan assets have performed, the freeze may not eliminate the need for future contributions. But the freeze will buy you time to make up whatever you need to in the trust fund to be able to pay the employees their benefits.
When economic conditions improve, you can “unfreeze” the Plan, which will begin again the accruing of benefits by employees who work enough hours each year to earn those benefits.
- How to adopt a “freeze” of your Plan.
There are several types of “freezes”, but we recommend a “hard freeze”, which stops future participation and which halts current participants from earning future benefits under the DB plan based on their future service. This can be accomplished by an amendment to your DB Plan, preceded by a Notice to all participants in the Plan that you are about to freeze the Plan.
It’s important that the amendment be adopted soon in order to halt a participant’s accrual of a benefit in 2020. If your Plan requires an employee to complete 1000 hours of service to earn a benefit (most of our clients’ DB Plans do require 1000 hours), that usually leaves you until June 1 to adopt the amendment and notify your employees of the freeze. So acting quickly is important.
- Cost.
In view of the current economic environment and the possibility that most of our clients will suffer a significant reduction in economic activity for the foreseeable future, we will prepare the amendment for our current clients at no cost. We trust this demonstrates our commitment to you as your legal counsel and a partner with you in maintaining a responsible and an affordable retirement plan for your employees.
401(k) Plans
- Safe Harbor Obligations.
Most 401(k) Plans have two features to them. One gives employees the opportunity to defer a portion of their pay on a “pre-tax” basis. The second allows the company to contribute “profit sharing” contributions for the employees, or may even require the company to “match” the contributions made by the employees and contribute a base amount each year for the employees based on the salary deferral.
For most 401(k) Plans, the required company contribution is a “safe harbor” contribution (allowing the company to avoid certain tests for the Plan) and may take one of two forms – either a fixed 3% of pay contribution for all eligible participants (whether or not they elect to defer their own salary) or a “matching” contribution of either (i) 100% of deferral up to 4% of compensation or (ii) 100% of deferral up to 3% of compensation plus 50% of the next 2% of compensation made only for those who defer a portion of their compensation. In either case, the company is required to give the participants a Notice of the safe harbor feature to the Plan before the beginning of each year.
- Suspending the Safe Harbor.
In the current economic environment, even the safe harbor contribution may be a burden to the company. Recent legislation now allows a company to terminate or suspend its safe harbor contribution obligation mid-year. Certain conditions must be met, and we would have to review the Notice that was given to the participants before the beginning of the year to determine if the company retained the right to terminate or suspend the safe harbor. (Most of the Notices provided by this office and Plan Administration firms contain the necessary language.) If the safe harbor contribution is suspended, the Plan is subject to non-discrimination testing for the year.
- How to Suspend
To suspend the safe harbor obligation, the company must amend the Plan and give 30 days advance notice to the participants. Again, for any of our clients who wish to adopt the amendment, we would do so at no cost.
There are other considerations that should be taken into account before deciding on suspending the safe harbor contribution. We would be happy to talk this over with you to determine if this is an available and appropriate step for you.
It goes without saying that these are trying times for everyone. We just want to know that we are there with you to assist in getting you through them.
