Force-Out of Small Balances

[Catch22PGM]

A 401(k) plan has many participants making very small contributions - $4-$5 a week in some cases.  The plan sponsor records participant termination dates with the recordkeeper after each pay period.  The recordkeeper has taken it upon themselves to forfeit small balances for former employees after the plan sponsor enters their termination date.  They are forfeiting employee pre-tax and Roth salary deferrals without any direction from the plan trustees and with no apparent reason other than it's their "policy" not to cut a check for less than $25.  In one instance they forfeited $80 of an employee's pre-tax salary deferrals - about $20 at a time because the plan sponsor made 3 $20 deposits after the employee's termination date was entered.  All of the others we have found were $10 or under.

Has anyone out here come across this practice and is there anything I'm missing that would allow it?  The plan document certainly doesn't say a small balance can be forfeited vesting be damned.  I'd feel better about it if some of the experts on BenefitsLink have experience with similar approaches by recordkeepers and/or have had the IRS or DOL approve the practice.

[EBECatty]

Maybe the recordkeeper has a $25 distribution fee?

[Riley Britton]

In our business if the fee eats up the balance then the part. gets nothing. 

[BG5150]

Check the service agreement to see if the plan administrator agreed to have this happen automatically.

I understand if the fee is more than the amount, the r/k keeps it.

Is the money really being forfeited?  Or is it being taken as a fee?  If put into the forfeiture account, that is not allowed, as deferrals are alway 100% vested.

What if the deferral is, say, $100?  What happens then?

I do not like the fact that these "distributions" happen right away. 

Side note:  2 of those 3 deposits after termination were probably late.  Did anyone address that fact?

[Catch22PGM]

BG5150 - The money is really being forfeited by the recordkeeper - it is not being eaten up by fees. The deposits were not late - partially due to how their payroll periods work and some was on post-severance comp paid after the employee's final pay check.

The recordkeeper is running these "sweeps" after every payroll. Does anyone else see this as a major problem? Their "compliance team" has yet to respond to my questions which makes me even more uneasy with the situation. I would like to send them something legaleeze - or something from regulations - telling them they can't keep doing this but I haven't found anything that would be spot-on.

[Peter Gulia]

Without condoning any plan or service provisions and without suggesting a lack of other ways to manage the problem, there might be a practical way for an employer to avoid an unwise or unfortunate effect of what’s described above.

In the data the employer uploads to the recordkeeper, might the employer wait to record an employee’s severance-from-employment date?

For example, an employer might wait until the later of:

n weeks, pay periods, or months after the internally recorded severance-from-employment date;

when the employer decides that all after-severance pay has been paid.

Such a plan-administration procedure would be designed only to slow down an involuntary cash-out distribution. The procedure would include an escape to upload a severance-from-employment date if doing so becomes needed to support processing of a participant’s requested distribution.

I do not suggest a retirement plan’s employer/administrator even consider this idea unless it gets advice from its labor-and-employment lawyer and its employee-benefits lawyer.

[Lou S.]

3 hours ago, Catch22PGM said:

BG5150 - The money is really being forfeited by the recordkeeper - it is not being eaten up by fees.

 

A search for a new record keeper may be in order.

[CuseFan]

1 hour ago, Lou S. said:

A search for a new record keeper may be in order.

That was my very first thought, regardless of all the other issues. A RK that administers a plan to their conveniences/policies in contradiction to plan participant's best interests and IRS/DOL laws and regulations does not deserve this client's business. If they can't properly handle small accounts then they need to limit their clientele to plans w/o such, IMHO. 

[Bird]

21 hours ago, Peter Gulia said:

In the data the employer uploads to the recordkeeper, might the employer wait to record an employee’s severance-from-employment date?

We generally try not to update such records at all at the RK level.  On bigger plans where everthing is uploaded in one big file, it can't be avoided and in fact can be somewhat helpful if we allow immediate distributions, but otherwise we try to keep them on a need-to-know basis (and they don't need to know a term date until it is time to process a distribution).

[bito'money]

I don't think this practice is compliant with ERISA, so I'd be surprised to hear from their "compliance" department coming out from behind the curtain on this any time soon. 

It's probably discriminatory against NHCEs, and an operational failure (not operating the plan in accordance with its terms) to boot. 

Some problems with not reporting a termination status change or termination date timely can include (1) incorrect vesting if based on elapsed time (unless you override vesting percentages), (2) potentially incorrect census counts for 5500 if not reported timely - such as waiting until distribution (3) not treating the person as terminated could cause you to treat them as "wired at work" inappropriately for DOL electronic disclosure purposes (4) not allowing them to elect a distribution when they should be allowed to.  

Most if not all of these (except the operational failure part) would not be a problem if it's a grandfathered governmental 401(k), for example.

If you are the plan administrator, and they are your recordkeeper, you can ORDER them to cease this practice and to fix it by restoring those amounts to their accounts. If you don't, you may have joined in on a breach.  

 

[Catch22PGM]

In case anyone was still curious, I finally received a response from the record keeper:

"Although there is no direct guidance on this issue, the statutory rules and other guidance applicable to plan administration require plan administrators to proceed in the best interest of the plan and participants. By consistently moving small balances to the plan forfeiture account, the plan saves administrative costs, retains dollars in the plan, and reduces transaction costs, thus furthering the objectives set out in ERISA and other regulations".

This particular record keeper bills the plan sponsor a per participant fee - the fees are not deducted from plan assets. The forfeitures are also being used by the employer to offset matching contributions. I subsequently pointed this out and that the practice of forfeiting small balances is acting in the best interest of the employer, not the plan or participants. I doubt I will get another response. I am going to pass along to my client the advice from Lou S: 

On 3/31/2022 at 12:17 PM, Lou S. said:

A search for a new record keeper may be in order.

 

[BG5150]

I would ask under what authority this is allowed.

These are not excess contributions being removed to a suspense account.

These are not non-vested funds being moved to the forfeiture account.

The funds are not being used to offset a fee.

This reeks of outright theft from the participant.