Guest Article

(From the February 26, 2007 issue of Deloitte's Washington Bulletin, a periodic update of legal and regulatory developments relating to Employee Benefits.)

Roth 401(k) Gaining Traction, PSCA Survey Finds

Congress and the IRS have broken down some key barriers to Roth 401(k) features over the last year or so, and employers apparently are taking notice. The Profit Sharing/401k Council of America's (PSCA) Roth 401(k) Survey 2007 found just over 22 percent of 401(k) plan sponsors currently offer Roth 401(k) features, and 61 percent are either planning to add or are considering adding such features in the future. When the PSCA did the same survey late in 2005 -- just before the Roth 401(k) option became legally available -- only 17 percent of 401(k) plan sponsors said they were planning to add a Roth 401(k) feature, and another 41 percent were considering doing so.

A number of factors could explain this change, but two stand out. In late 2005 the IRS still had not issued final regulations relating to Roth 401(k) features, so there was still a lot of uncertainty about how these features would work. However, the IRS issued final regulations on Roth 401(k) features early in 2006.

A second significant factor is the Pension Protection Act (PPA) of 2006 (P.L. 109-280), which makes the law authorizing Roth 401(k) features permanent. Before the PPA, Roth 401(k) features were scheduled to sunset on December 31, 2010. As a result, 401(k) plans were faced with the prospect of only being able to allow Roth contributions for a maximum of five years. Even worse, this sunset raised questions about whether those employees who elected to make Roth contributions would ever be able to satisfy the law's five-year holding period requirement for taking tax-free withdrawals. Almost 42 percent of the companies who said they did not plan to offer a Roth feature in 2005 cited this as a reason for their decision.

According to the 2007 Survey, this change in the law is making employers more likely to offer Roth 401(k) features. In fact, 69 percent of those who currently do not offer Roth 401(k) features said the PPA has made it more likely they will offer a Roth 401(k) feature in the future.

(Employer) Size Matters

When it comes to innovative plan designs, large employers usually lead the way. But Roth 401(k) features appear to be an exception to that rule. According to the PSCA Survey there is a negative correlation between employer size and the incidence of Roth features. More than onethird (36.4 percent) of 401(k) plan sponsors with fewer than 50 employees offer Roth 401(k) features, compared to only 13.6 percent of 401(k) plan sponsors with 5,000 or more employees.

But even if small employers have led the way so far, larger employers appear to be the true growth market for Roth 401(k) features. According to the PSCA Survey, sponsors with 5,000 or more employees are almost twice as likely as those with less than 50 employees to be planning to add a Roth 401(k) feature in the future. And 58 percent of plan sponsors with more than 5,000 employees are considering adding a Roth 401(k) feature in the future, compared to only 43.9 percent of those with fewer than 50 employees.

Reasons for Not Implementing Roth 401(k) Feature

In 2005 the leading reason given for not implementing a Roth 401(k) feature was the additional administrative burden. A majority (54.7 percent) of plan sponsors surveyed in 2007 still cite the added administrative burden as a reason for not adding a Roth feature to their 401(k) plans. But it has fallen to number three on the list, behind concerns about educating participants (59.5 percent) and lack of participant demand (56.8 percent). Other notable reasons include insufficient regulatory clarification (24.6 percent) and cost (8.7 percent).

About the PSCA Survey

The PSCA survey data are based on responses from 429 401(k) plan sponsors. Approximately 45 percent of the participating companies sponsor plans with 1,000 or more participants. Another one-fifth (21.4 percent) sponsor plans with between 200 and 999 participants, and 18.2 percent sponsor plans with between 50 and 199 participants. The final 15.4 percent sponsor plans with fewer than 50 participants.

The information in this Washington Bulletin is general in nature only and not intended to provide advice or guidance for specific situations. If you have any questions or need additional information about articles appearing in this or previous versions of Washington Bulletin, please contact: Robert Davis 202.879.3094, Elizabeth Drigotas 202.879.4985, Taina Edlund 202.879.4956, Laura Edwards 202.879.4981, Mike Haberman 202.879.4963, Stephen LaGarde 202.879-5608, Erinn Madden 202.572.7677, Bart Massey 202.220.2104, Laura Morrison 202.879-5653, Martha Priddy Patterson 202.879.5634, Tom Pevarnik 202.879.5314, Tom Veal 312.946.2595, Deborah Walker 202.879.4955. Copyright 2007, Deloitte.