Transamerica Retirement Services’
Perspective on Automatic 401(k) Plans

• Information on automatic 401(k) plans included in the Pension Protection Act of 2006
• Who are good candidates to adopt the automatic enrollment feature? 
• What should employees know about the automatic enrollment feature?
• Other Industry Expert's Perspective

Information on automatic 401(k) plans included in the Pension Protection Act of 2006

The Pension Protection Act of 2006 addresses employer concerns regarding “automatic” 401(k) plans which encompass plan provisions including automatic enrollment, automatic deferral increases, and Qualified Default Investment Alternatives. Effective dates vary by provision (see below).

General Provisions for Eligible Automatic Enrollment Arrangement:

• Automatic enrollment, automatic deferral increases, and Qualified Default Investment Alternatives are optional for employers.
• An employee notice similar to the current safe harbor notice is required.
• Federal law (i.e., ERISA) now preempts state withholding laws provided the annual employee notice requirement is satisfied and the plan meets the default investment guidelines prescribed by the DOL.
• Automatic enrollment applies to all employees, including highly compensated employees, but may exempt certain employee groups.
• Default funds must be invested in Qualified Default Investment Alternatives in accordance with guidelines established by the Department of Labor (DOL). Final regulations are expected to be issued by DOL in February 2007.
• Automatically-enrolled employees have a 90-day penalty-free opt-out period, provided the plan satisfies the notice requirement.
• Employees who opt out will be entitled to a corrective distribution (contributions made during first 90 days plus income). The corrective distribution is taxable, is disregarded in the ADP test and exempt from the 10 percent early withdrawal tax. Refunds are now taxed in the year of distribution.
• Excess ADP/ACP contributions if returned to participants within 6 months following the plan year-end will be exempt from the 10 percent excise tax.

Optional Safe Harbor Provisions:

• 100 percent match of first 1 percent of pay, plus 50 percent match of the next 5 percent of pay (maximum 3.5 percent of pay); or a 3 percent of pay nonelective contribution.
• Entry level deferral contribution must be between 3 percent and 10 percent, and must not be less than 4 percent in year two, 5 percent in year three, and 6 percent in each year thereafter.
• 100 percent vesting after 2 years.
• Exempt from ADP/ACP tests, and deemed to meet the top-heavy requirements, if certain conditions are met.

Employers should carefully weigh the approach they will take when adopting automatic 401(k) plan features as well as the safe harbor provisions.

Back to Top

Who are good candidates to adopt the automatic enrollment feature?

• Plans that have low participation rates and/or low deferral rates
• Plans that have a history of failing the nondiscrimination tests.
• Employers who are interested in maximizing benefits for their highly-compensated employees.
• Plans that have low to moderately-low turnover.

Back to Top

What should employees know about the automatic enrollment feature?

• Be aware that they are enrolled; that their contributions are on a tax-deferred basis; and that the rules and regulations of 401(k) plans apply.
• They can opt out at any time within 90 days of being automatically enrolled.
• The funds have been invested for them, and it is up to them to determine whether the investment choices are appropriate for them based on their risk tolerance, time horizon, desired retirement income level, current and future financial situations, and investment preferences. They should also know that selecting investment choices is their responsibility.
• They can change their auto deferral rate and default investment choices.
• They should check if their automatic 401(k) plan also includes an automatic deferral increase feature. This feature is set up for scheduled future increases to their salary deferral rate established at enrollment.
• It is the employees’ responsibility to be familiar with the investment choices offered to them. They should also review material that are provided to them, including enrollment kits, information on the employer’s Web site, information on the provider’s Web site, and any correspondence sent to them regarding their retirement accounts. 

Back to Top

Other Industry Expert’s Perspective

• AARP – Automatic 401(k) Overview for Employers
• Hewitt Associates – Hewitt Study:  Company Efforts Positively Impact U.S. Employees' 401(k) Saving Habits (United States)
• The Brookings Institution – The Retirement Security Project-The Automatic 401(k): A Simple Way to Strengthen Retirement Savings
• Academic Perspective – Save More Tomorrow:  Using Behavioral Economics to Increase Employee Saving by Professor Richard H. Thaler and Professor Shlomo Benartzi

By clicking on one of the above links, you are connecting to a site that is not owned or controlled by TCRS. These links are provided to you for your convenience and does not serve as an endorsement by TCRS of any information or contacts that you may find on this site. It is possible that the site may have different privacy policies, cookie controls, and security standards than TCRS’ site.

Back to Top