SECURE 2.0 Act of 2022 - Retirement savings reform legislation is here, again

Shortly after the Setting Every Community Up for Retirement Enhancement (SECURE) Act of 2019 was enacted to promote employer-sponsored retirement plans, encourage retirement savings and update certain aspects of retirement plan administration, new legislation was introduced in Congress designed to further enhance these goals. While these legislative proposals differed from one another in many respects, the bills all shared bipartisan and bicameral support. This collection of bills became colloquially known as “SECURE 2.0” in reference to the proposals expanding upon the original SECURE Act’s goals. Please refer to our prior alert for a history of these proposals.

In the waning days of the 117^th Congress, these various legislative proposals were reconciled and consolidated into a single piece of legislation, officially retitled the SECURE 2.0 Act of 2022 (SECURE 2.0), and hitched a ride as Division T of the Consolidated Appropriations Act of 2023 (CCA) to fund the federal government for fiscal year 2023. The CCA with SECURE 2.0 attached passed the Senate on December 22, 2022, passed the House on December 23, 2022 and was signed into law by President Joe Biden on December 29, 2022.

Amendment deadline

SECURE 2.0 has nearly 100 provisions impacting retirement savings. Summarized below are some key provisions relating to employer-sponsored defined contribution plans, the details of which, as well as other SECURE 2.0 provisions, we will discuss in future alerts and as implementing regulations are issued. Most of the mandatory provisions of SECURE 2.0 do not become effective until January 1, 2024 or later. Plan amendments are currently required by December 31, 2025 (for calendar year private employer plans) for the original SECURE Act, the CARES Act and SECURE 2.0, but this deadline could be extended.

Provisions effective immediately

Some of the optional provisions of SECURE 2.0 became effective upon enactment. While it may take some time before retirement plan service providers are ready to administer some of these provisions, employers may begin taking advantage of the following provisions as soon as possible.

Correction of “inadvertent” qualified plan errors through self-correction. Currently, the Internal Revenue Service’s (IRS’s) Employee Plans Compliance Resolution System (EPCRS) allows employers to self-correct certain types of plan errors on their own without submitting the correction to the IRS for approval. The deadline for correcting these errors under EPCRS turns on whether the error was or was not “significant” or “insignificant” as determined by all relevant facts and circumstances. SECURE 2.0 expands EPCRS to authorize employers to self-correct any “eligible inadvertent failure” as long as the failure is self-corrected within a “reasonable period after such failure is identified” and corrective actions begin before the IRS identifies the error. In addition, SECURE 2.0 requires the Department of Labor (DOL) to treat self-corrected plan loans as meeting the requirements of the DOL’s Voluntary Fiduciary Correction Program.

Matching and nonelective contributions may be designated as Roth. Effective upon enactment, employers may allow participants to elect to have their vested employer matching contributions or vested employer nonelective contributions designated as Roth contributions. Roth contributions are made on an after-tax basis, so the amount of the contribution would be includable in the participant’s income in the year of the deferral. If the designated Roth contributions remain in the Roth account for a minimum holding period (usually the end of the fifth tax year after the contribution is made), the original contribution plus any accumulated earnings on the contribution are not included in income in the year of the distribution.

Self-certification of hardship withdrawals. Plan administrators may rely on a participant’s self-certification that the participant’s requested hardship distribution is on account of one of the established safe-harbor hardship withdrawals under current IRS regulations, that the requested distribution amount does not exceed the amount required to satisfy the hardship need and that the employee has no alternative means reasonably available to satisfy the need. The Secretary of the Treasury may provide in regulations exceptions where the plan administrator has actual knowledge to the contrary.

Penalty-free withdrawal by terminally ill individuals. Plans may allow terminally ill individuals to take withdrawals from their retirement accounts without incurring the 10 percent early withdrawal penalty if a physician certifies that the individual has an illness that is reasonably expected to result in death in 84 months or less.

Qualified disaster recovery distributions and increased loan amounts. SECURE 2.0 makes permanent distribution and increased loan limit options that would be available to participants affected by federally declared disasters. Participants who live in a federally declared disaster area would be allowed to take a distribution within 180 days of the disaster of up to $22,000 without incurring the 10-percent early-withdrawal penalty. Any taxable distribution would be included in income over period no longer than three years, and the distribution could be recontributed to a plan within three years. Participants who took principal residence distributions to buy or construct a home located in the federally declared disaster area could recontribute the distribution. An affected participant would also have the option, if the plan allows, of taking a loan with increased loan limits of the lesser of $100,000 (rather than $50,000) or 100 percent (rather than 50 percent) of the participant’s vested account balance. This provision is retroactively effective for disasters occurring on or after January 26, 2021, based on the enactment of prior disaster relief legislation.

More changes to required minimum distributions. The original SECURE Act revised the required beginning date for required minimum distributions (RMDs) for participants who had not reached age 70 ½ by January 1, 2020 (effectively, anyone born on or after July 1, 1949) to April 1 of the year following the year in which the participant reaches age 72. SECURE 2.0 further increases the age to 73 for anyone who reaches age 72 after December 31, 2022, and age 73 before January 1, 2033 (effectively, anyone born January 1, 1951 through December 31, 1959). Although this provision is effective January 1, 2023, this means that participants who reached age 72 in 2022 still must commence RMDs by April 1, 2023, as scheduled. SECURE 2.0 extends the required beginning date for participants who reach age 72 in 2023 (and age 73 in 2024) to no later than April 1, 2025. For any participant who reaches age 74 after December 31, 2032, the age is raised to 75 (effectively anyone born on or after January 1, 1959). This creates an overlap for participants born in 1959, because they will all reach age 73 before January 1, 2033 and age 74 after December 31, 2032. This overlap will likely be corrected by a future technical amendment (perhaps in SECURE 3.0?) sometime before 2033. Also, the excise tax penalty for failing to take an RMD is reduced from the current amount of 50 percent of the RMD to 25 percent. Further, if all RMDs due are taken and the excise tax paid within two years (and before an excise tax is assessed or a notice of deficiency is sent), the penalty is reduced to 10 percent.

Relaxed rules on inadvertent benefit overpayments. Under existing law, if a plan pays out benefits that are greater than those provided by the terms of the plan, the plan is required to notify participants receiving overpayments that the amounts were not eligible for rollover and attempt to recoup those overpayments from participants. If recoupment is unsuccessful, a plan fiduciary or other party must reimburse the plan for the overpayment. SECURE 2.0 relaxes these rules and provides that a plan will not be required to recoup “inadvertent benefit overpayments” from participants, and participants may treat such overpayments as eligible rollover distributions. If a plan decides to recoup overpayments from participants either through collection efforts or future benefit offsets, new limits apply as to the amount and timing that plans will be able to recover. Plan fiduciaries will no longer be required to make a plan whole for inadvertent benefit overpayments, although plan sponsors still must satisfy all minimum funding and impermissible forfeiture requirements.

Provisions effective January 1, 2024 or later

The required and optional provisions that will become effective January 1, 2024, (or later, as indicated below) include:

Catch-up contributions for employees making more than $145,000 may only be designated as Roth contributions. Under current law, catch-up contributions to a qualified retirement plan can be made on a pre-tax or Roth basis if permitted by the plan’s terms. SECURE 2.0 provides that all catch-up contributions must be designated as Roth contributions for employees whose compensation in the prior year exceeds $145,000 (subject to inflation adjustments). Compensation for this purpose means wages that are subject to the Federal Insurance Contribution Act (FICA). Plans that do not currently allow Roth contributions but do allow catch-up contributions will have to be amended to either allow Roth catch-up contributions for at least affected participants or not allow catch-up contributions.

Higher catch-up limits for participants aged 60 to 63. Currently, participants in 401(k), 403(b), 457(b) or SIMPLE IRA plans over age 50 can make additional pre-tax catch-up contributions up to $7,500 (subject to inflations adjustments). Under SECURE 2.0, the annual catch-up contribution limit will be increased for individuals age 60 through age 63 to the greater of (i) $10,000, or (ii) 150 percent of the regular catch-up amount as indexed for 2024. SIMPLE plans have other amount limitations. Catch-up contributions will be subject to Roth tax treatment for affected participants as discussed above. This provision will apply to catch-up contributions beginning in 2025.

Matching contributions on student loan repayments. Employers may make matching contributions in their 401(k), 403(b), 457(b), or SIMPLE IRA plans based on an employee’s repayments of the employee’s higher education student loans. The match eligibility, vesting and amount would be the same that applies under the plan for regular employee elective deferral contributions. To determine the amount of match, the employer can rely on the employee’s annual certification of loan repayment amounts.

Emergency savings account feature for retirement plans. Employers may choose to add an emergency savings account feature to their retirement savings plan to allow only non-highly compensated employees to contribute up to $2,500 total (or an employer-set lower amount) designated as Roth contributions only. The feature can be designed with automatic enrollment of no more than 3 percent of the participant’s compensation. The emergency savings contributions would be treated the same as other employee deferral contributions for employer match and maximum contribution limits. The first four withdrawals each year from this emergency account cannot be subject to withdrawal fees or charges. At termination, the participant can rollover the account like a Roth account. The employer can remove this feature from the plan at any time.

Additional penalty-free in-service withdrawals and distribution options. Several provisions in SECURE 2.0 would allow additional in-service withdrawals or distributions from retirement accounts that would be exempt from the 10 percent early withdrawal penalty that would otherwise apply. These include:

• Personal emergency expenses. Participants may withdrawal up to $1,000 per year without incurring the 10 percent penalty for early withdrawal from their retirement account, such as 401(k) or IRA, for unforeseeable or immediate financial needs relating to personal or family emergency expenses. The plan sponsor can rely on the participant’s written certification of need. Participants may repay the distribution within three years. No additional emergency distribution can be taken during the three years after withdrawal unless the amount is repaid.
  
  
• Domestic abuse victims. Participants who are the victims of domestic abuse can be allowed to withdraw up to the lesser of $10,000 (subject to inflation adjustments) or 50 percent of the participant’s vested account balance. The plan sponsor can rely on the participant’s certification that the request if for an eligible distribution to a domestic abuse victim. Withdrawn amounts can be recontributed under the existing rules applicable to recontributions of qualifying birth or adoption distributions enacted in the original SECURE Act.
  
  
• Long-term care contracts. Plans may allow participants to take distributions to pay for long-term care insurance premiums without incurring the 10-percent penalty for early withdrawal, up to the lesser of 10 percent of the participant’s vested account balance or $2,500 (subject to inflation adjustments). Participants will be required to provide the plan with a long-term care premium statement provided by an issuer who has registered with the Secretary of the Treasury. This provision becomes effective for distributions made after December 29, 2025.

No pre-death RMDs for Roth accounts in employer-sponsored plans. Currently, Roth IRAs are excluded from the pre-death RMD rules, primarily because most distributions of Roth balances do not create a taxable event. SECURE 2.0 extends this exemption from the pre-death RMD rules to Roth accounts held in qualified employer-sponsored plans, which are currently not exempt from the RMD rules.

Correction of elective deferral errors in automatic enrollment plans made permanent. The IRS’s current EPCRS program contains a safe harbor for correcting participant deferral errors in plans that have automatic deferral and escalation arrangements, which is currently set to sunset December 31, 2023. Under this safe harbor, deferral errors can be corrected without a required employer contribution to make up for the missed employee deferrals if the error is corrected within 9 ½ months before the end of the plan year in which the failure occurred, certain notice requirements are met, and the employer makes up any missed employer contributions, adjusted for earnings, that would have been made if the deferral error had not occurred regardless if the requirements of the safe harbor are met. SECURE 2.0 permanently codifies this correction procedure outside of EPCRS in new Internal Revenue Code section 414(cc).

Starter 401(k) and 403(b) plans for employers with no retirement plan. Employers that do not currently sponsor a retirement plan may choose to establish and maintain a deferral-only “starter 401(k) plan” or a “starter 403(b) plan.” Under these starter plans, only employees are allowed to make contributions to the plan, and the employer is not permitted to make any matching or profit-sharing contributions. Starter 401(k) and 403(b) plans are required to automatically enroll employees into the plan at a “qualified percentage” from 3 percent to 15 percent uniformly applied, unless the employee opts out of participation or elects an alternative deferral percentage. In addition, starter 401(k) and 403(b) plans are not subject to the 402(g) contribution limits applicable to standard 401(k) and 403(b) plans but are instead subject to much smaller limits of $6,000 for elective contributions and $1,000 for catch-up contributions (these amounts are subject to inflation adjustments and also happen to be the same contribution limits for IRAs). Starter 401(k) and 403(b) plans are not subject to nondiscrimination or top-heavy testing.

Increase in cash-out limit and exemption for certain automatic portability transactions. Under current law, employers are allowed to distribute a participant’s account without the participant’s consent if the account balance is less than $5,000, which is often referred to as a “mandatory cash-out.” Under SECURE 2.0, this mandatory cash-out limit will increase to $7,000 beginning in 2024. For mandatory cash-outs that exceed $1,000, the distribution may only be made to an automatic rollover IRA established in the participant’s name. SECURE 2.0 allows for distributions that would otherwise be deposited into an automatic rollover IRA to be automatically transferred to an account in the participant’s new employer’s eligible retirement plan. Before making an automatic portability transaction, the participant must be given advance notice and the ability to opt out. SECURE 2.0 contemplates the automatic portability transaction will be facilitated by an “automatic portability provider” that is allowed to charge fees to the account. This provision is effective December 29, 2023.

Mandatory automatic enrollment. Effective for any new 401(k) or 403(b) plan established on or after January 1, 2025, such plans must be designed to comply with the eligible automatic contribution arrangement (EACA) features previously enacted in the Pension Protection Act of 2006, that allows automatically enrolled participants to elect within in the first 90 days to have all automatic deferrals returned to them. Under SECURE 2.0, the feature must also include automatic enrollment of all employees who do not opt out to defer at least 3 percent and up to 10 percent of their compensation, and include an auto escalation provision that must increase deferrals 1 percent annually until reaching at least 10 percent and may go up to 15 percent. New businesses in existence for less than three years and small businesses with fewer than ten employees will be exempt from these requirements. Covered employers newly joining an existing multiple employer plan or a pooled employer plan on or after January 1, 2025 must meet the automatic enrollment requirements with respect to their employees.

Inclusion of long-term part-time employees. The original SECURE Act added a provision that required 401(k) plans (but not 403(b) plans) to make employees who are at least 21 and have completed at least 500 hours of service in three consecutive years beginning on or after January 1, 2021 eligible to at least make participant elective deferrals to the Plan. This rule will still apply for employees who have met this requirement by 2024. SECURE 2.0 reduces from three to two the number of consecutive years that an employee must complete at least 500 hours of service, effective January 1, 2025. For this purpose, only service before 2021 may be disregarded, but SECURE 2.0 clarifies that pre-2021 service may also be disregarded for vesting purposes for these employees, an important clarification. SECURE 2.0 also makes the long-term part-time rules applicable to ERISA-covered 403(b) plans.

Changes for employee stock ownership plans (ESOPs). SECURE 2.0 allows certain non-exchange traded securities to qualify as “publicly traded employer securities” for ESOP purposes if certain minimum requirements are met. SECURE 2.0 also expands the gain deferral provisions currently applicable to non-publicly traded C corporation ESOPs of up to 10 percent of the deferral to sales of employer stock to S corporation ESOPs effective for sales made after December 31, 2027.

Retirement savings lost and found. SECURE 2.0 directs the DOL to create a national online retirement savings lost and found database within two years of enactment. Plan administrators will be required to provide certain information to the DOL for the database beginning after 2023. Retirement savers will be able to search for old retirement account balances through the database.

Action items for employers

Although most of the required provisions of SECURE 2.0 are not effective until 2024, employers should start planning now to review any desired immediately effective provisions they may want to adopt, and those provisions they will or must adopt in 2024 and beyond. Employers will need to coordinate with their service providers to ensure that the provisions the employer would like to implement can be effectively administered once adopted. Employers will also need to start thinking about what internal processes may need to be revised, and programming changes that may be needed for its payroll systems. Employers should also develop a communications strategy for rolling out any retirement savings enhancements, which will allow participants to take full advantage of any desired options.

For more information, please contact any of the members of our Employee Benefits and Executive Compensation group.

*Sherry Klenk is a consultant with DLA Piper’s Employee Benefits and Executive Compensation group, based in Chicago. Reach her at sherry.klenk@dlapiper.com.

**Gary Gagnon is a law clerk with DLA Piper's Corporate group, based in Washington, DC. Reach him at gary.gagnon@us.dlapiper.com.