SECURE Act 2.0...the rest is commentary: Part 2 - 403(b) plan expansion and enhancement

Blog Post

Over the last 15 years, section 403(b) tax-sheltered annuities, commonly known as 403(b) plans, have been becoming more like their qualified plan cousin, the 401(k) plan. Despite this trend towards uniformity, legal, investment, and administrative differences have persisted. The SECURE 2.0 Act of 2022 (SECURE 2.0) includes a number of provisions that eliminate some of these remaining differences.

This post will provide a brief overview and comments on some of the notable SECURE 2.0 provisions relating to 403(b) plans.

Long-term part-time employee eligibility – application to 403(b) plans and acceleration of requirements

The Setting Every Community Up for Retirement Enhancement Act of 2019 (the original SECURE Act or “SECURE 1.0”) established new requirements that would over time require 401(k) plans include long-term part-time employees. SECURE 2.0 applies these requirements to 403(b) plans. In addition, SECURE 2.0 accelerates the eligibility requirements, which will result in long-term part-time employees becoming eligible sooner than before. Specifically, under SECURE 2.0, 403(b) plans will have to include an eligibility requirement under which a part-time employee who completes at least 500 hours of service in each of two consecutive years will become eligible. Although 403(b) plans already had to comply with a “universal availability” requirement that required broader eligibility than the 401(k) plan rules, the long-term part-time employee eligibility requirement expands eligibility even further.

Effective Date: Effective for plan years starting after December 31, 2024.

Comments: Sponsors of 403(b) plans will need to evaluate the impact this may have on the contribution cost of a plan, that is, expected additional matching contributions for newly eligible part-time employees. While the added contribution cost may be relatively modest, this change likely will require changes to administrative procedures (adding procedures for checking whether the hours were met in the prior two years, etc.), which will likely require change orders and fees. Sponsors should be sure to begin discussing this new set of requirements later in 2023 to be ready for 2025.

403(b) plan financial hardship withdrawals to mirror 401(k) plan rules 

Historically, the rules relating to hardship withdrawals from a 403(b) plan have been more restrictive than the analogous rules for 401(k) plans. Most notably, a 403(b) plan could make a hardship withdrawal only from employee contributions, not including earnings, a limitation not applicable to a 401(k) plan. SECURE 2.0 will allow (but not require) 403(b) plans to pay hardship withdrawals from employer non-elective and matching contributions and also from earnings on elective deferrals.

Effective Date: Effective for plans years beginning after December 31, 2023.

Comments: This change is optional so 403(b) plan sponsors should affirmatively consider whether to implement the change. Further, this will likely require 403(b) plan recordkeepers to revise their systems and administrative procedures and so they may be looking to recoup that investment by charging implementation and/or additional annual or transactional fees. A sponsor wanting to implement this immediately upon it taking effect should begin speaking with its recordkeeper now. 

403(b) Plans permitted to participate in multiple employer plans

A multiple employer plan (MEP), a type of plan with a long history in the qualified plan realm, is now available for 403(b) plans. In general, a MEP is a plan sponsored by an organization such as an association that allows unrelated employers to participate in it, each having their own “sub-plan” under the umbrella of the MEP.

Effective Date: Effective for plans years beginning after December 31, 2022.

Comments: First, it remains to be seen what types of organizations establish 403(b) MEPs and whether they gain traction in the market. If so, they may be particularly attractive to smaller employers because a MEP is often able to leverage its total pool of participants and assets into services and investments at prices a small plan would not be able to obtain. The downsides are less flexibility over plan design and little, if any, control over plan investments, something typically handled by the “main” MEP sponsor.

Investment in collective investment trusts

Historically, 403(b) plans have been able to invest only in annuity contracts and mutual funds. A collective investment trust (CIT) is an investment fund that may invest and function just like a mutual fund – often with the same investment strategy and name as mutual funds offered by the same financial institution – but is not a SEC registered investment company. Despite this, CITs have become broadly accepted as investments for qualified plans, including participant-directed 401(k) plans. SECURE 2.0 amends section 403(b) to permit investment in CITs. That said, there are issues under securities law that are not addressed in SECURE 2.0 and these remain barriers to 403(b) plans. So, until further legal development, a 403(b) plan cannot, as a practical matter, invest in a CIT.

Other notable changes to 403(b) plans

Additional changes continue the theme of 403(b) convergence with 401(k) plans, including the following that apply to both types of plans:

  • Mandatory automatic enrollment
  • Increased catch-up contribution limits and requirement that catch-up contributions be Roth contributions for “High-Paid Participants” (a participant having wages in the preceding year exceeding $145,000)
  • Student loan payment matching contributions (optional)
  • Emergency savings accounts and emergency distributions (optional)

The mandatory features will surely increase administrative complexity and overall plan costs (administrative costs and contributions) that will have to be taken into account by employers when considering benefit strategy and finances. The optional features have various pros and cons, each including increased administrative complexity, costs, and benefits. 

SECURE 2.0...the Rest is Commentary series will be providing thoughts and observations on issues and questions relating to SECURE 2.0 as we work through questions and issues with clients, as the IRS and DOL issue guidance, and as trends emerge. Click here to read Part 1.

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