The Pros and Cons of Tapping into Your 401(k) in Times of Need

These are uncertain times, at best. And for those of you diligent enough to be saving for your retirement, the volatile stock market has become particularly unsettling. History has shown the best course of action is to take no action at all, so if that’s a viable option, you may want to forget your password for a few months, focus on staying healthy, and revisit your retirement plan assets at a less humbling time. However, we recognize that isn’t a realistic option for everyone. Should you find yourself in a more dire situation, here are the options as they pertain to your 401(k) as well as the various points to consider before making any short-term decisions.  

Temporarily discontinue or reduce deferrals:

If immediate cash flow is more important to you than long-term savings, you should have an easy way to change the amount you contribute each pay period to your retirement plan.

Loans:

If your plan allows it, you may borrow from your own account balance and pay yourself back through loan repayments via a payroll deduction. If your employment terminates, most plans permit loans to be taken soon after separation of employment.

  • Pros:
    • Funds can become available in as little as seven business days.
    • Loan amounts are not subject to taxation and interest rates are likely lower than credit cards.
  • Cons:
    • You will be double taxed on the loan repayments. While loan amounts aren’t taxable, loan repayments are made on an after-tax basis and therefore, you are paying taxes on this money before you have the chance to pay it down. Additionally, if you’re using a traditional 401(k), you will be taxed on this money again when  you take your distribution from the plan.
    • If you take out a loan while you’re still employer and then terminate employment, your plan may require you to pay back the loan quickly and that may cause a financial hardship.


Hardships:

If you find yourself in a time of financial hardship (defined as an immediate and heavy financial need – medical  expenses, burial  expenses, to avoid foreclosure on the primary residence), you may be able to withdraw funds from your plan without facing tax penalties. We are closely watching whether the government will permit hardship withdrawals to be made more easily in today’s unique environment. In the meantime, hardships are only available if the plan allows it – or your employer amends the plan to allow them – and an application with proof of hardship must be approved by the plan administrator.

  • Pros:
    • Funds can be available to the participant within ten business days once your provider receives all supporting documentation in good order.
  • Cons:
    • Once the hardship is taken, there is no option to contribute it back into the plan and, therefore, any losses are locked in.
    • You may be required to take a loan before you can receive a hardship distribution.
    • Taking any money out will reduce the amount you will have at retirement, not to mention that you lose any interest and dividends you earned on the amount withdrawn.


In-Service Distributions:

Some plans offer an opportunity for participants to withdraw from their retirement plan even if they cannot satisfy the hardship standard and while they’re still employed by the plan sponsor. There may be an age requirement to access funds from a safe harbor plan, so be sure to check your plan to confirm whether you qualify for this type of withdrawal.

  • Pros:
    • Participants can generally receive funds from their account within ten days of the provider receiving the request.
  • Cons:
    • As with a hardship distribution, there is no option to contribute this withdrawal back to your plan so you are locking in market losses.
    • Withdrawals reduce the amount you will have at retirement, not to mention that you lose any interest and dividends earned on the amount withdrawn.
    • Some in-service withdrawals may be taxed, especially for participants younger than age 59 1/2.

Please note that there is some talk of forgiving certain penalties in light of the current situation. We will keep you updated on any relevant changes.

Vestwell is not a law firm or tax advisor. Participants may wish to consider hiring their own professional before making any changes to their retirement plan, as there could be tax consequences and other adverse impacts on their retirement plan.

How the CARES Act Affects Defined Contribution Retirement Plans

The Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) offers new rules for loans and distributions made during the 2020 calendar year:

    • In order to be eligible for any of these new distribution rules, participants must be “qualified,” meaning they are diagnosed with COVID-19 by a CDC-approved test; have a spouse or dependent who is diagnosed; or experience “adverse financial circumstances” by being quarantined, furloughed, laid off, given reduced hours, or unable to work by a lack of child care due to the virus or disease. Plan administrators can rely on a participant’s statement that s/he meets these requirements.
    • Participants can take loans from their retirement plan for the lesser of up to $100,000 or the vested present value of their account; in other words, the maximum permissible loan amount has been doubled. Repayment can be delayed for up to one year with repayments and interest adjusted accordingly. Participants who currently have an outstanding loan with a repayment due after enactment of the CARES Act can also delay their loan repayment(s) for up to one year.
    • Distributions to qualified participants can be made for up to $100,000 with the 10% early withdrawal penalty tax waived. Additionally, the distribution amount can be included in gross income over three years. Participants can repay any distribution back into their retirement plan so that they are not locking in their losses and those repayments would not be subject to the retirement plan contribution limits.
    • Required Minimum Distributions (RMDs) for defined contribution plans can be temporarily waived, allowing participants to keep funds in their plans.
    • Cash balance plans have more time to meet their funding obligations by delaying the due date for contributions during 2020 until January 1, 2021. At that time, contributions will be due with interest. Plans that have not been fully funded as of December 31, 2019, and therefore have benefit restrictions, can continue to apply those restrictions throughout 2020.
    • Plans can adopt these rules immediately even if the plan does not currently allow for hardship distributions or loans, as long as the plan is amended on or before the last day of the first plan year after January 1, 2020. We can assist you in making any plan amendments.

The CARES Act gives the Department of Labor expanded power to postpone certain deadlines, and we can likely expect more guidance soon. There is a chance the 5500 filing deadline will be extended as well.

Vestwell is not a law firm or tax advisor. Participants may wish to consider hiring their own professional before making any changes to their retirement plan, as there could be tax consequences and other adverse impacts on their retirement plan.

Can I Shift Payment of My Company Retirement Plan Expenses?

Even with CARES Act and other relief, many companies are still experiencing financial stress and may wonder if they can transfer some of the costs of operating their retirement plan to participants. As is typical of regulatory questions, the answer is no for some and yes for others as long as certain requirements are satisfied.

Retirement plan expenses that can not be paid by the participant include so-called “settlor expenses.” These are the costs for services that provide a benefit to the plan sponsor, as opposed to plan participants, and generally relate to decisions regarding the amendment, establishment, or termination of a plan. A good example would be the cost for an evaluation of options to reduce the plan sponsor’s contributions to the plan. Sometimes the difference between settlor and other plan expenses is unclear so the Department of Labor (DOL) has published a set of fact patterns that may be helpful.

If the expenses that the sponsor wishes to shift are “settlor” expenses, then the next step is to check the plan documents for a definition of eligible expenses that can be paid by plan assets. This would be a good opportunity to make sure that these are the expenses actually being paid by the sponsor as a way to confirm that the plan documents align with how the plan has been operating. If the plan document does not expressly permit expenses to be paid by the plan, it can be amended to do so. The plan sponsor should also review the plan’s forfeiture account, which may also be used to pay certain plan expenses.

Once the sponsor identifies which retirement plan expenses can be paid for by the plan participants, s/he needs to decide how to allocate the expenses. The easiest option is a “per capita” option to simply divide the expense equally across all participants. For small plans, however, that method could quickly erode the balances for younger workers or participants with low balances. Another approach is  “pro rata” where expenses are spread proportionately among participants based on account balances. This method may impact company owners the most since they often have the larger balances in the plan. Whatever approach you take should be disclosed to participants so that they can make informed decisions about their plan. A clearly worded, transparent communication can help soften the blow.

A company sponsored retirement plan is a valuable benefit, and while plan sponsors may need to reevaluate expenses in times like these, providing employees with a dependable way to save for retirement remains important. There are many aspects of a plan that can be assessed to make times of financial pressure a little more palatable, so be sure to reach out to your financial advisor or recordkeeper to explore options.

COVID-19: The Top 10 Questions Mid-Sized Businesses Are Asking

By Namely

The COVID-19 pandemic continues to present new changes and challenges for businesses and HR professionals daily. We understand that keeping up with the evolving legislation and the never-ending list of outstanding questions can feel impossible.

With help from the HR experts at ThinkHR, we wanted to highlight the top questions we’re receiving from HR professionals at mid-sized businesses—and provide their answers.

1. If employees don’t want to come in to work out of fear of COVID-19, can we require them to?

Typically, employees cannot refuse to work based only on a generalized fear of becoming ill if their fear is not based on objective evidence of possible exposure. However, in these unique circumstances where COVID-19 cases are on the rise and many states are implementing drastic measures to attempt to control the spread of the virus, it may be difficult to prove that employees have no valid reason to fear coming in to work.

This is especially true if your town or city has a “shelter-in-place” or “social distancing” rule in effect. In this case, it may be required to demonstrate to employees that your business is taking active steps to keep them safe. Some examples of this are modifying operations to better support social distancing and regularly disinfecting your office space.

2. Are we allowed to start taking temperatures of employees? If so, how do we go about this? 

The Equal Employment Opportunity Commission (EEOC) now allows employers to take employees’ temperatures during the COVID-19 pandemic. It is important to note that some individuals can have COVID-19 without a fever, so other safety precautions should not be removed just because employees don’t have a fever upon arrival to work.

For a list of other symptoms, visit the Center for Disease Control and Prevention (CDC)’s website here.

If you do decide to screen employee temperatures at work, keep in mind that significant precautions should be taken so that you do not increase risk by reusing a tool that comes into contact with the hands and/or mouths of multiple employees.

3. Under the new Families First Coronavirus Response Act (FFRCA) do we need to provide the required sick leave under this law in addition to the sick leave we already provide? 

Currently, there is nothing in the law stopping employers from creating one comprehensive policy that includes the sick leave required under the FFCRA as well as other sick leave an employer chooses or is required to provide. However, there is reason to be cautious in doing so for two main reasons:

  • When combining policies that intend to meet multiple requirements, you need to make sure to include the most employee-friendly provisions from each; and
  • Additional guidance may be given in the upcoming weeks to provide more details about how this leave should interact with existing leave policies.

4. How is our business supposed to afford the sick leave and FMLA leave mandated by the Families First Coronavirus Response Act?

On Friday, March 20, the U.S. Treasury, IRS, and U.S. Department of Labor announced their plans for making the paid leave provisions in the Families First Coronavirus Response Act (FFCRA) less burdensome for small businesses. Key points include:

  • To take immediate advantage of the paid leave credits, businesses can retain and access funds that they would otherwise pay to the IRS in payroll taxes. If those amounts are not sufficient to cover the cost of paid leave, employers can seek an expedited advance from the IRS by submitting a streamlined claim form that will be released next week.
  • The Department of Labor will release “simple and clear” criteria for businesses with fewer than 50 employees to apply for exemptions from the leave provisions related to school and childcare closures; and
  • There will be a 30-day non-enforcement period for businesses making a reasonable effort.
  • We encourage anyone with these concerns to read the linked announcement carefully. The full announcement can be found here: Treasury, IRS, and Labor Announcement on FFCRA Implementation.

5. Can we have certain employees work from home, but not others?

Yes. Employers may offer different benefits or terms of employment to different groups of employees as long as the distinction is based on nondiscriminatory criteria. For instance, a telecommuting option or requirement can be based on the type of work performed, employee classification (exempt v. nonexempt), or location of the office or the employee. Employers should be able to support the business justification for allowing or requiring certain groups to telecommute.

6. How do I make sure we are paying people correctly when they work from home?

You will want to pay an employee that is working from home the same way you would pay someone who is working in the office. Have employees log their time as usual for payroll processing. Nonexempt employees should take all the same breaks at home that they are required to take in the workplace.

To ensure employees are actually doing work at home, you can set up regular check-ins to see that things are getting done or have them document and report work completed daily. You may also require that employees remain available online via a messaging app and are available by telephone or for video conferences during working hours.

7. If we close temporarily, will employees be able to file for unemployment insurance? 

Depending on the length of the closure, employees may be able to file for unemployment insurance. Waiting periods range from 1–3 weeks and are determined by state law. Be prepared to respond to requests for verification or information from the state unemployment insurance department if you close for longer than the mandatory waiting period.

8. Can we reduce employee pay due to COVID-19?

Yes, you can reduce an employee’s rate of pay based on business or economic slowdown, as long as it is not done retroactively. For example, if you give employees notice that their pay will change on the 10th, and your payroll period runs from the 1st through the 15th, make sure that their next check still reflects the higher rate of pay for the first 9 days of the payroll period. Keep in mind new rates/salaries must still be at or above the federal or state minimum.

9. Can we reclassify exempt employees to nonexempt if their working hours will be greatly reduced?

If an exempt employee has so little work to do that it does not make sense to pay them the federal or state minimum (or you simply cannot afford to), they can be reclassified as nonexempt and be paid by the hour instead. However, this must not be done on a very short-term basis.

Although there are no hard and fast rules about how long you can reclassify someone, we would recommend not changing their classification unless you expect the slowdown to last for more than three weeks. Changing them back and forth frequently could cause you to lose their exemption retroactively and potentially owe years of overtime.

10. Do we still offer the same benefits during a furlough as we did before? What about a layoff or closure?

It is important to check with your benefits provider before you take action. Eligibility for benefits during a furlough or layoff will depend on the specifics of your plan. For health insurance, if an employee would lose their eligibility during a layoff or furlough, then federal COBRA or state mini-COBRA would apply.

Handling Uncertain Times With Wellness Platform LEON

By Sarah Mooney, LEON

1. This is such a time of personal introspection for everyone, yet there’s still work to be done. How do you suggest balancing the support of employees’ emotional needs with the need to meet deadlines and goals?

Emotions are spiraling because of uncertainty. It’s important to keep everyone grounded, and let the team know that despite the craziness they’re a valuable asset to the company. This enables employees to transition their mindset and focus on deliverables.

It’s also important to let everyone know that what’s happening is temporary, and although things are shuffling, it’s imperative that they realize the work being done is to put growth on hyper speed for when things return to normal.

2. Remote work can be more challenging for some than for others. How do you set your employees up for success knowing they all handle distance differently?

As always clear communication is key. However, there are other aspects that play a key role in building a foundation for remote success.

There’s no doubt that collaboration is becoming a little difficult. While employees were able to speak face-to-face, that luxury no longer exists. Employers need to find a way to enable collaboration. This can be via video conferencing, or mixing up some fun collaboration to boost everyone’s morale. We’ve started offering online virtual fitness events to brighten everyone’s mood and keep positive mentalities flowing. The benefit here is that we’re getting everyone to move and ultimately start producing endorphins in order to help with productivity. With so many distractions around the house, it becomes difficult to be productive. And in order to keep targets on track, and tasks complete within deadlines, you need a productive set of employees.

3. Unfortunately, many companies are having to face layoffs. How do you keep employees motivated when there is so much uncertainty?

Everyone is shaken by what’s happening. It’s important to gain their trust, that way their anxiety hovering around being laid off can be a distant memory.

It’s important to show your employees that their work is meaningful – of value and importance to the company. That way they start to feel a sense of security.

Be calm. Although always needed, it’s even more important now. Regardless of how a boss may feel, employees need someone to look up to for reassurance. An encouraging employer will remain calm, communicating a clear plan for moving forward.

Collectively, these changes can go a long way to retain employees’ trust, and improve their mentality in the face of a crisis.

Dollar Cost Averaging: Managing Risk During a Downturn

As we navigate this period of market turmoil, there is a great deal of advice around how to manage (or leave alone) your retirement plan. It’s particularly common to hear finance analysts and pundits talk about the benefits of dollar cost averaging (DCA) since it’s a popular way to manage investment risk during periods where the market may be declining or volatile.

According to Investopedia, “dollar cost averaging is an investment strategy in which an investor divides up the total amount to be invested across periodic purchases of a target asset in an effort to reduce the impact of volatility on the overall purchase.” So rather than investing a lump sum, you can invest that amount over a period of time, such as 25% in each of the next four months.

The idea is that diversification doesn’t just apply to investments; it applies to timing. Market timing is impossibly hard, so rather than investing all at once where you can lose a large amount if markets fall, you can invest that sum over a period of time. There’s been a wide body of research on the topic, showing that in periods of market volatility, dollar cost averaging can be very effective.

There are two ways you can use dollar cost averaging with your 401(k):

  1. If you’re putting away a percentage of your paycheck, congratulations! You’re already dollar cost averaging. Keep saving for retirement and follow your retirement strategy.
  2. If you’re thinking about reallocating your portfolio, you can shift your allocation towards stocks incrementally over a period of time rather than immediately.

Outside of your 401(k), if you have money to invest outside of your “emergency savings” and other investment goals, you can practice dollar cost averaging by investing it over a period of time rather than immediately. Let’s say you intend to move $4,000 to an account. Rather than moving it all at once, you can move $1,000 for each of the next four months. In effect, you’re reducing your risk in the event the market continues to fall.

If you’re trying to implement a dollar cost averaging strategy, be sure to ask an investment advisor. Or, if you’re a self-help learner, there are plenty of resources online.

Vestwell is not a law firm or tax advisor. Participants may wish to consider hiring their own professional before making any changes to their retirement plan, as there could be tax consequences and other adverse impacts on their retirement plan.

Effective Ways to Manage Your Retirement Plan During Uncertain Times

COVID-19 might be causing a meltdown on Wall Street, but it doesn’t have to create a meltdown in your office. You’re likely facing pressure to answer questions (and maybe even make decisions) regarding your company sponsored retirement plan, so it’s imperative to stay informed. This webinar covers common participant challenges during times of uncertainty and how to address them. We also discuss some of the actions plan sponsors can take should they find themselves required to cut plan costs. Read the full debrief here.

Unprecedented Times Can Call for Precedented Measures: Exploring Effective Ways to Reduce Retirement Plan Expenses During Uncertain Times

By Allison Brecher, General Counsel, Vestwell

There is not much written about how retirement plan sponsors should weather situations like the one we’re facing now, mostly because these are unprecedented times. However, the virus that’s causing a meltdown on Wall Street shouldn’t create a meltdown in your office. Knee-jerk reactions like eliminating all equities or terminating a plan altogether can have far reaching consequences. While the ideal outlook is to stay the course, we recognize that not all companies are in the position to do so. So what are the most effective options for sponsors looking to their 401(k) or 403(b) plans as a way to manage costs?

Effective alternatives to plan termination.

While staying the course is often the best route in times like these, that’s not necessarily an option for all companies. In instances where short term cash flow is imperative to survival, there are a number of options as it relates to company retirement plans.

1. Consider placing employees on a leave of absence rather than laying them off.

Federal law recently gave states flexibility to provide unemployment benefits in multiple scenarios related to COVID-19. For example, states can now pay benefits where the employer temporarily ceases operations due to the virus, an employee is quarantined with the expectation of returning to work after the quarantine is over; and an employee leaves employment due to a risk of exposure or to care for a family member. Depending on your state, it may be possible and preferable to place an employee on a leave of absence, rather than terminating their employment. During this time, employees remain plan participants, but cannot make deferrals since they will not be receiving a paycheck. This may be an ideal solution for employers who intend to rehire these same employees after the crisis period ends. It also avoids the problem of the plan potentially becoming subject to partial termination rules, which would occur when a  significant number of employees are separated from employment. A partial termination would require immediate full vesting and distribution of  balances for all severed employees, and could otherwise be more expensive for the sponsor.

2. Deploy a partial plan termination.

A plan termination can seem simple at first glance, but it’s anything but. In order to shut down a plan entirely, all balances must be 100% immediately vested which means a sponsor is often paying out company matches earlier than anticipated. Because the plan must promptly distribute all assets, loans must be repaid immediately, potentially creating further hardship for participants. Additionally, sponsors must wait one year after fully terminating a plan before they can start a new one, opening up hiring, retention, and tax implications down the road. Lastly, it’s important to note that termination may not be an option for all plan sponsors (e.g.  when other retirement plans are held or are part of a controlled group of related employers) so it’s imperative to understand plan design.

Instead of a full termination, sponsors can consider a less expensive approach of a partial termination. This generally occurs when an employer terminates a significant percentage of employees, usually about 20% of headcount, or amends the plan to reduce benefits significantly. It’s a facts and circumstances approach and, while it would still require immediate full vesting and distributions to affected  participants, it can be less onerous on the sponsor than a full termination.

3. Explore billing changes.

Some sponsors pay for plan expenses out of the sponsor’s corporate assets. If a plan provider agrees to a bill delay, it could soften the impact during times of crisis. Alternatively, since the decision of whether to pay for plan expenses is a fiduciary decision made by the sponsor, the sponsor that is paying most of the plan-related expenses from corporate assets can shift that burden to the Plan.

4. Reduce or suspend employer contributions.

For some plans, employers may be able to suspend the employer match or profit sharing contribution for up to three years without terminating the plan. For most plans where the employer match is completely discretionary, this is a fairly simple solution that can quickly reduce costs, especially given that most employee matches are between three to six percent. There is no advance notice required and the employer is free to eliminate contributions immediately.  For safe harbor  plans, however, employers must provide eligible employees with notice, the plan must be amended, and the change takes effect 30 days after the notice is delivered or the plan is amended (whichever is later). The plan must also still satisfy certain compliance testing requirements and participants must be given an  opportunity to reduce their deferrals knowing they may not receive a previously expected employer match. With respect to the nonelective contribution, the employer may need to demonstrate a business hardship or economic loss to the IRS.

5. Amend the plan.

Subject to certain limitations, plans may be amended in the middle of the plan year to help sponsors reduce costs. For instance, a plan can be amended to extend the required service period for employees who are not already eligible to participate, thus saving costs. While not always legally required, notice should be provided as soon as possible in order to maintain good will between employees and the employer and to comply with fiduciary responsibility rules under ERISA. Employees may still be upset, but a timely, clearly written notice provided as far in advance as possible might help alleviate their disappointment.

6. Freeze the plan.

Defined contributions plans, such as cash balance plans, can be frozen, which can help reduce a sponsor’s financial obligations in the short-term. Profit sharing plans that do not have any employee deferrals can also be frozen. The frozen plan still remains subject to compliance and minimum funding requirements, but it gives sponsors flexibility regarding plan operations. A plan can either be fully frozen, where all benefit accruals for all participants cease, or sponsors can implement a so-called “soft freeze” option that stops benefit accruals for some employees based on age, tenure, or job classification.

Regardless of which approach makes the most sense, plan sponsors should remember that they’re still fiduciaries who need to act in the best interests of their plan and its participants. Therefore, plan terms must be reviewed carefully before any action is taken and employees should be made aware of any changes. By exploring options and selecting the least disruptive — yet effective — measure, we can try to maintain some sense of stability during a time that is anything but.

 

Vestwell is not a law firm or tax advisor and we do not offer legal, tax, or investment advice. You may wish to consult your own financial or legal advisor before making any decisions regarding your retirement plan or any distributions.