In an effort to increase the number of Americans who are saving for retirement – roughly 50 percent of employees have no retirement savings at all – the Automatic IRA Actof 2010 has been introduced in the Senate by Sen. Jeff Bingaman (D-NM) and in the House by Rep. Richard Neal (D-MA). The bill establishes IRA accounts for all employees and sets up automatic payroll deductions.
While employees can participate in IRAs whether they are offered in the workplace or not, only approximately 10 percent do. The rationale for the legislation is the success of the automatic enrollment in 401(k) plans of a few years ago. When these accounts were established by law, there was a dramatic increase in participation, reaching as high as 90 percent of eligible employees. The belief is that, by establishing automatic IRA accounts, tens of millions of workers will be eligible for these plans, and an expected $15 billion will be added to savings annually.
Which businesses will be affected by the Auto IRA Act if it is passed?
The law would be phased in over a period of years, initially applying to businesses that do not already offer a qualified retirement plan and have more than 100 employees. By the fourth year, employers with 10 or more employees (without qualified plans) would be expected to comply. Employees who are counted for this purpose are those who earned at least $5,000 in the prior year. Employers who offer qualified retirement plans but only to certain units or divisions of their workforce will need to make automatic IRA plans available.
Also exempt are businesses that have been in existence for less than two years, as well as government entities and churches.
Which employees qualify?
Employees who have been on the job at least three months and have reached 18 years of age by the beginning of the year are eligible.
What will the cost be to employers?
The only costs to employers should be minimal and administrative in nature. Employers will be able to take a tax credit of up to $250 for each of the first two years the Auto IRA is in operation.
Assuming an employee takes no action, what will happen?
Employees will be offered the ability to opt-out at any time. If they choose to participate, they can select a percentage of their paycheck to be withheld and deposited into their own IRAs, subject to limits. If they do nothing, a payroll deduction of 3 percent (the default amount) will be withheld from paychecks and deposited into the employee’s IRA.
How much can employees contribute?
Auto IRA contributions are subject to limitations of $5,000 per year, or an additional $1,000 for employees 50 years of age and older. Employer contributions are not permitted with Automatic IRAs.
What other rules apply to employee participation?
Employees who make contributions to automatic IRAs also may qualify for the Saver Credit.
Employees can choose between a Roth IRA and a traditional IRA. In the absence of a decision, the default will be a traditional IRA.
Following is a list of additional requirements employers need to know about setting up and maintaining an Auto IRA:
- Accounts must be portable and not bound by employment with a particular employer. Accounts must be able to roll into and out of other IRAs and qualified accounts.
- Fees charged for such IRAs must be reasonable and not inflated when the account has a low balance.
- Currently, small businesses that start new qualified retirement plans may be entitled to a credit for up to three years that is equal to the lesser of $500 or 50 percent of the start-up cost of the plan. The proposed law raises that amount to $1,000.
- Employers are obligated to send all employee contributions to the IRA provider by the end of the month following the month in which the contributions would have been paid if they had not been withheld from paychecks. Failing to send contributions within this time frame could result in an excise tax.
- Employers are prohibited from self-dealing in the establishment and maintenance of IRAs.
- Employers must see to it that employees receive standardized forms explaining the Auto IRA program and the investment decisions available to participants.
- Employers would have no ERISA fiduciary liability if they use government-approved providers or the default investment, which is a principal preservation fund for balances under $5,000 or a lifestyle fund for larger balances.
Must a government preferred provider be selected?
Employers can select a provider on their own. They also can visit Web site that will be made available by the U.S. Treasury to assist employers in finding an Auto IRA provider.
Because there are not a large number of small-business qualified plans to choose from, employers can band together to offer a multiple-employer plan. The Treasury and the Department of Labor will issue guidance to reduce the likelihood that noncompliant members of multiple-employer plans will taint the entire plan.
In addition, employers can allow their employees to find an IRA provider of their own choosing.
What if the employer fails to establish an Auto IRA?
The penalty for failing to establish an appropriate Auto IRA is an excise tax of $100 for each employee who should have been covered. Employers who innocently err have the ability to self-correct and avoid the penalties.
What are industry observers saying about the proposed legislation?
“Anything that facilitates savings is a very, very good thing, but the question in my mind is whether or not participants will receive the fiduciary protection they need,” said Matthew Hutcheson in an interview with Investmentnews.com. Hutcheson is the founder of Matthew Hutcheson LLC, an independent fiduciary firm. “What I worry about is that retail brokers and advisers will pretty much own that market.”
CFOZone.com expressed several concerns, including:
- The “infinitesimal default deferral rate” of 3 percent, without the possibility of employer contributions, would not result in real savings for anyone.
- Employers “get a measly $250 tax credit to cover administrative costs.”
- And, like Hutcheson, CFOZone worries that the major beneficiaries will not be the participants. “Mostly this bill will be a potential goldmine for financial services companies, at least those on the official government list of approved providers.”
Jan Jacobson, senior counsel for retirement policy at the American Benefits Council was quoted on Treasuryandrisk.com as saying, “We’d like to see more [generous] coverage in general, and in terms of the auto IRA itself we would prefer to have it voluntary, with incentives for employers to put it in.”
While it’s clear many take cautious views of the Auto IRA bill, they also agree that Americans are sorely in need of retirement savings. The success of automatic enrollment in 401(k) plans has provided a model that seems to indicate that Auto IRAs can increase savings.