Frequently Asked Questions About Retirement Plans and ERISA
What is ERISA?
The Employee Retirement Income Security Act or ERISA is a Federal law that sets standards of protection for individuals in most voluntarily established, private-sector retirement plans. ERISA requires plans to provide participants with plan information, including important facts about plan features and funding; sets minimum standards for participation, vesting, benefit accrual, and funding; provides fiduciary responsibilities for those who manage and control plan assets; requires plans to establish a claims and appeals process for participants to get benefits from their plans; gives participants the right to sue for benefits and breaches of fiduciary duty; and if a defined benefit plan is terminated, guarantees payment of certain benefits through a Federally chartered corporation, the Pension Benefit Guaranty Corporation (PBGC).
What are the types of retirement plans?
There are two major types of retirement plans: defined benefit plans and defined contribution plans. A defined benefit plan promises a specified monthly benefit at retirement. The plan may state this promised benefit as an exact dollar amount, such as $100 per month at retirement. Or, more often, it may calculate a benefit through a plan formula that considers such factors as salary and service - for example, 1 percent of average salary for the last 5 years of employment for every year of service with an employer.
A defined contribution plan, on the other hand, does not promise a specific benefit amount at retirement. Instead, you and/or your employee contribute money to each employee's individual account in the plan. In many cases, your employees are responsible for choosing how these contributions are invested, and deciding how much to contribute from their paychecks through pretax deductions. You may add to your employees' accounts, in some cases by matching a certain percentage of the employee's contributions. The value of an employee's account depends on how much is contributed and how well the investments perform.
Are there different types of defined contribution plans?
Yes. Examples of defined contribution plans include:
401(k) Plans – In a 401(k) plan, your employee can make contributions from his or her paycheck before taxes are taken out. The contributions go into a 401(k) account, with the employee often choosing the investments based on options provided under the plan. In some plans, the employer also makes contributions, matching the employee's contributions up to a certain percentage. There is a dollar limit on the amount a participant may elect to defer each year and the amount that you may contribute on a participant's behalf . There are four different types of 401(k) plans: traditional 401(k), safe harbor 401(k), SIMPLE 401(k), and automatic enrollment 401(k).
Profit Sharing Plans – A profit sharing plan allows you, as the employer, each year to determine how much to contribute to the plan (out of profits or otherwise) in cash or employer stock. The plan contains a formula for allocating the annual contribution among the participants.
Employee Stock Ownership Plans (ESOPs) – An ESOP is a type of defined contribution plan that is invested primarily in employer stock.
Simplified Employee Pension Plans (SEPs) – A SEP is a plan in which you make contributions on a tax-favored basis to individual retirement accounts (IRAs) owned by your employees. If certain conditions are met, the employer is not subject to the reporting and disclosure requirements of most retirement plans. Under a SEP, an IRA is set up by or for an employee to accept the employer's contributions.
Savings Incentive Match Plans for Employees of Small Employers (SIMPLEs) – A SIMPLE is a plan in which a small business with 100 or fewer employees can offer retirement benefits through employee salary reductions and matching contributions (similar to those found in a 401(k) plan). It can be either a SIMPLE IRA or a SIMPLE 401(k). SIMPLE IRA plans impose few administrative burdens on employers because IRAs are owned by the employees and the bank or financial institution receiving the funds does most of the paperwork. While each has some different features, including contribution limits and the availability of loans, required employer contributions are immediately 100 percent vested in both.
What are the essential elements of a plan?
Each plan has certain key elements. These include:
- A written plan that describes the benefit structure and guides day-to-day operations;
- A trust fund to hold the plan's assets;
- A recordkeeping system to track the flow of monies going to and from the retirement plan; and
- Documents to provide plan information to employees participating in the plan and to the government.
How long before my employees become members of a retirement plan and become vested in their benefits?
Generally, a plan may require an employee to be at least 21 years old and to have a year of service with the company before the employee can participate in a plan.
Vesting means the employee has earned the right to benefits without the risk of forfeiting them. Employees immediately vest in their own contributions. Employees do not necessarily have an immediate right to contributions made by their employer. Federal law provides a maximum number of years an employer may require employees to work to earn the vested right to some or all of these benefits. For defined contribution plans, there are two basic vesting schedules. Under the three-year schedule, employees are 100% vested after three years of service under the plan. The six-year graduated schedule allows employees to become 20% vested after two years and to vest at a rate of 20% each year thereafter until they are 100% vested after six years of service. Plans may have faster vesting schedules.
Who is a fiduciary of a plan?
Many of the actions involved in operating a plan make the person or entity performing them a fiduciary. Using discretion in administering and managing a plan or controlling the plan's assets makes the person a fiduciary to the extent of that discretion or control. Thus, fiduciary status is based on the functions performed for the plan, not just the person's title.
A plan must have at least one fiduciary (person or entity) named in the written plan or through a process described in the plan, as having control over the plan's operation. The named fiduciary can be identified by office or by name. For some plans, it may be an administrative committee or a company's board of directors.
A plan's fiduciaries will ordinarily include the trustee, investment advisers, all individuals exercising discretion in the administration of the plan, all members of a plan's administrative committee (if it has such a committee), and those who select committee officials. Attorneys, accountants, and actuaries generally are not fiduciaries when acting solely in their professional capacities. The key to determining whether an individual or an entity is a fiduciary is whether they are exercising discretion or control over the plan.
Do all decisions I make with respect to the plan make me a fiduciary?
No. A number of decisions are not fiduciary actions but rather are business decisions you make as an employer. For example, the decisions to establish a plan, to determine the benefit package, to include certain features in a plan, to amend a plan, and to terminate a plan are business decisions not governed by ERISA. When making these decisions, you are acting on behalf of the business, not the plan, and, therefore, are not a fiduciary. However, when you (or someone you hire) take steps to implement these decisions, that person is acting on behalf of the plan and, in carrying out these actions, may be a fiduciary.
What are the responsibilities of a fiduciary?
Fiduciaries have important responsibilities and are subject to standards of conduct because they act on behalf of participants in a retirement plan and their beneficiaries. These responsibilities include:
- Acting solely in the interest of plan participants and their beneficiaries and with the exclusive purpose of providing benefits to them;
- Carrying out their duties prudently;
- Following the plan documents (unless inconsistent with ERISA);
- Diversifying plan investments; and
- Paying only reasonable plan expenses.
The duty to act prudently is one of a fiduciary's central responsibilities under ERISA. It requires expertise in a variety of areas, such as investments. Lacking that expertise, a fiduciary will want to hire someone with that professional knowledge to carry out the investment and other functions. Prudence focuses on the process for making fiduciary decisions. Therefore, it is wise to document decisions and the basis for those decisions. For instance, in hiring any plan service provider, a fiduciary may want to survey a number of potential providers, asking for the same information and providing the same requirements. By doing so, a fiduciary can document the process and make a meaningful comparison and selection.
What happens if I do not follow the basic standards of fiduciary conduct?
Fiduciaries who do not follow the basic standards of conduct may be personally liable to restore any losses to the plan, or to restore any profits made through improper use of the plan's assets resulting from their actions.
Are there ways that I can limit my fiduciary liability?
Yes. Fiduciaries can limit their liability in certain situations. One way fiduciaries can demonstrate that they have carried out their responsibilities properly is by documenting the processes used to carry out their fiduciary responsibilities.
There are other ways to reduce possible liability. Some plans, such as most 401(k) and profit sharing plans, can be set up to give participants control over the investments in their accounts and limit a fiduciary's liability for the investment decisions made by the participants. For participants to have control, they must be given the opportunity to choose from a broad range of investment alternatives. Under Labor Department regulations, there must be at least three different investment options so that employees can diversify investments within an investment category, such as through a mutual fund, and diversify among the investment alternatives offered. In addition, participants must be given sufficient information to make informed decisions about the options offered under the plan. Participants also must be allowed to give investment instructions at least once a quarter, and perhaps more often if the investment option is volatile.
Plans that automatically enroll employees can be set up to limit a fiduciary's liability for any plan losses that are a result of automatically investing participant contributions in certain default investments. There are four types of investment alternatives for default investments as described in Labor Department regulations and an initial notice and annual notice must be provided to participants. Also, participants must have the opportunity to direct their investments to a broad range of other options, and be provided materials on these options to help them do so.
However, while a fiduciary may have relief from liability for the specific investment allocations made by participants or automatic investments, the fiduciary retains the responsibility for selecting and monitoring the investment alternatives that are made available under the plan.
Am I required to get insurance for the plan?
Those who handle plan funds or other plan property generally must be covered by a fidelity bond. A fidelity bond is a type of insurance that protects the plan against loss resulting from fraudulent or dishonest acts of those covered by the bond.
What are my fiduciary responsibilities for depositing employee contributions into the plan?
If your plan provides for salary reductions from employees' paychecks for contribution to the plan (such as in a 401(k) plan), then you must deposit the contributions in a timely manner. The law requires that participant contributions be deposited in the plan as soon as it is reasonably possible to segregate them from the company's assets, but no later than the 15th business day of the month following the payday. If you can reasonably make the deposits sooner, you need to do so.
For plans with fewer than 100 participants, salary reduction contributions deposited with the plan no later than the 7th business day following withholding by the employer will be considered contributed in compliance with the law.
Who is responsible for ensuring that plan contributions are deposited to the plan?
For all contributions, employee and employer (if any), the plan must designate a fiduciary, typically the trustee, to make sure that contributions due to the plan are collected. If the plan and other documents are silent or ambiguous, the trustee generally has this responsibility.
Can I hire a service provide to handle some fiduciary functions?
Yes. A fiduciary can also hire a service provider or providers to handle fiduciary functions. You will need to set up the agreement so that the service provider then assumes liability for those functions selected. If an employer appoints an investment manager that is a bank, insurance company, or registered investment adviser, the employer is responsible for the selection of the manager, but is not liable for the individual investment decisions of that manager. However, an employer is required to monitor the manager periodically to assure that it is handling the plan's investments prudently and in accordance with the appointment.
If there are others who serve as plan fiduciaries, am I liable for their actions?
Yes. All fiduciaries have potential liability for the actions of their co-fiduciaries. For example, if a fiduciary knowingly participates in another fiduciary's breach of responsibility, conceals the breach, or does not act to correct it, that fiduciary is liable as well.
What should I consider when hiring a service provider?
Hiring a service provider in and of itself is a fiduciary function. When you consider prospective service providers, provide each of them with complete and identical information about the plan and what services you are looking for so that you can make a meaningful comparison between the service providers.
For a service contract or arrangement to be reasonable, service providers must provide certain information to you about the services they will provide to your plan and all of the compensation they will receive. This information will assist you in understanding the services, assessing the reasonableness of the compensation (direct and indirect), and determining any conflicts of interest that may impact the service provider's performance.
You should also consider:
- Information about the firm itself: financial condition and experience with retirement plans of similar size and complexity;
- Information about the quality of the firm's services: the identity, experience, and qualifications of professionals who will be handling the plan's account; any recent litigation or enforcement action that has been taken against the firm; and the firm's experience or performance record;
- A description of business practices: how plan assets will be invested if the firm will manage plan investments or how participant investment directions will be handled; and whether the firm has fiduciary liability insurance.
You should document your selection (and monitoring) process. If you use an internal administrative committee, you should educate committee members on their roles and responsibilities.
Do fiduciaries need to consider the fees a service provider will charge the plan?
Yes. Fees are just one of several factors fiduciaries need to consider in deciding on service providers and plan investments. When the fees for services are paid out of plan assets, as a fiduciary, you will want to understand the fees and expenses charged and the services provided. While the law does not specify a permissible level of fees, it does require that fees charged to a plan be "reasonable." After careful evaluation during the initial selection, the plan's fees and expenses should be monitored to determine whether they continue to be reasonable.
In comparing estimates from prospective service providers, ask which services are covered for the estimated fees and which are not. Some providers offer a number of services for one fee, sometimes referred to as a "bundled" services arrangement. Others charge separately for individual services. Compare all services to be provided with the total cost for each provider. Consider whether the estimate includes services you did not specify or want. Remember, all services have costs.
Some service providers may receive additional fees from investment vehicles, such as mutual funds, that may be offered under an employer's plan. For example, mutual funds often charge fees to pay brokers and other salespersons for promoting the fund and providing other services. There also may be sales and other related charges for investments offered by a service provider. The information provided by service providers should include a description of all compensation related to the services to be provided that the service providers expect to receive directly from the plan as well as the compensation they expect to receive from other sources.
Who pays the fees?
Plan expenses may be paid by the employer, the plan, or both. In addition, expenses paid by the plan may be allocated to participants' accounts in a variety of ways. In any case, the plan document should specify how fees are paid.
Can I hire a service provider to provide investment information to my employees?
Yes, in fact more and more employers are offering participants help so they can make informed investment decisions. Employers may decide to hire an investment adviser offering specific investment advice to participants. These advisers are fiduciaries and have a responsibility to the plan participants. On the other hand, an employer may hire a service provider to provide general financial and investment education, interactive investment materials, and information based on asset allocation models. As long as the material is general in nature, providers of investment education are not fiduciaries. However, the decision to select an investment adviser or a provider offering investment education is a fiduciary action and must be carried out in the same manner as hiring any plan service provider.
Am I required to monitor my plan's service providers?
Yes. You should establish and follow a formal review process at reasonable intervals to decide if you want to continue using the current service providers or look for replacements. When monitoring service providers, some of the steps you should take include:
- Evaluating any notices received from the service provider about possible changes to their compensation and the other information they provided when hired (or when the contract or arrangement was renewed);
- Reviewing the service providers' performance;
- Reading any reports they provide;
- Checking actual fees charged;
- Asking about policies and practices (such as trading, investment turnover, and proxy voting); and
- Following up on participant complaints.
When fiduciaries or service providers are dealing with plan assets, are there any transactions that are prohibited under ERISA?
Yes. Certain transactions are prohibited under the law to prevent dealings with parties who may be in a position to exercise improper influence over the plan. In addition, fiduciaries are prohibited from engaging in self-dealing and must avoid conflicts of interest that could harm the plan.
What types of transactions are prohibited?
Under ERISA, certain parties (called parties in interest) are prohibited from doing business with the plan. They include the employer, the union, plan fiduciaries, service providers, and statutorily defined owners, officers, and relatives of parties in interest.
Some of the prohibited transactions are:
- A sale, exchange, or lease between the plan and party in interest;
- Lending money or other extension of credit between the plan and party in interest; and
- Furnishing of goods, services, or facilities between the plan and party in interest.
Other prohibitions relate solely to fiduciaries who use the plan's assets in their own interest or who act on both sides of a transaction involving a plan. Fiduciaries cannot receive money or any other consideration for their personal account from any party doing business with the plan related to that business.
Does ERISA provide for any exceptions to the prohibited transactions rules?
Yes. There are a number of exceptions (or exemptions) in the law that provide protections for the plan in conducting necessary transactions that would otherwise be prohibited. The Labor Department may grant additional exemptions. The exemptions issued by the Department can involve transactions available to a class of plans or to one specific plan. Both class and individual exemptions are available at www.dol.gov/ebsa (click on Compliance Assistance). For more information on applying for an exemption, see the procedures on the exemption Web pages.
Are employers required to provide participants with specific documents about the plan?
Yes. The documents that must be furnished to participants and beneficiaries include--
- The Summary Plan Description (SPD) is a plain language explanation of the plan and must be comprehensive enough to apprise participants of their rights and responsibilities under the plan. It also informs participants about the plan features and what to expect of the plan. This document is given to employees after they join the plan and to beneficiaries after they first receive benefits. SPDs must also be redistributed periodically and provided on request.
- The Summary of Material Modification (SMM) apprises participants and beneficiaries of changes to the plan or to the information required to be in the SPD. The SMM or an updated SPD for a retirement plan must be furnished automatically to participants within 210 days after the end of the plan year in which the change was adopted.
- An Individual Benefit Statement (IBS) provides participants with information about their account balances and vested benefits. Plans that provide for participant-directed accounts must furnish statements on a quarterly basis. Individual account plans that do not provide for participant direction must furnish statements annually. Traditional defined benefit pension plans must furnish statements every three years.
- When plans allow participants to direct their investments, fiduciaries need to take steps to regularly make participants aware of their rights and responsibilities under the plan related to directing their investments. This includes providing plan and investment-related information, including information about fees and expenses, that participants need to make informed decisions about the management of their individual accounts. Participants must receive the information before they can first direct their investment in the plan and periodically thereafter – primarily on an annual basis with information on the fees and expenses actually paid provided at least quarterly. The initial plan related information may be distributed as part of the SPD provided when a participant joins the plan as long as it is provided before the participant can first direct investments. The investment-related information needs to be presented in a format, such as a chart, that allows for a comparison among the plan's investment options. A model chart is available. The information provided quarterly may be included with the IBS. If you use information provided by a service provider that you rely on reasonably and in good faith, you will be protected from liability for the completeness and accuracy of the information.
- If a plan automatically enrolls employees, the Automatic Enrollment Notice details the plan's automatic enrollment process and participant's rights. The notice must specify the deferral percentage, the participant's right to change that percentage or not make automatic contributions, and the plan's default investment. The participant generally must receive an initial notice at least 30 days before he or she is eligible to participate in the plan. Employers that provide for immediate eligibility can provide this initial notice on an employee's first day of employment if they allow participants to withdraw contributions within 90 days of their first contribution. An annual notice also must be provided to participants at least 30 days prior to the beginning of each subsequent plan year.
- A Summary Annual Report (SAR) outlines in narrative form the financial information in the plan's Annual Report, the Form 5500 (see question below), and is furnished annually to participants. Traditional defined benefit pension plans that are required to provide an annual plan funding notice are not required to furnish an SAR.
- The Blackout Period Notice requires at least 30 days' (but not more than 60 days') advance notice before a 401(k) or profit sharing plan is closed to participant transactions. During blackout periods, participants (and beneficiaries) cannot direct investments, take loans, or request distributions. Typically, blackout periods occur when plans change record-keepers or investment options, or when plans add participants due to a corporate merger or acquisition.
Do I have to file any reports with the Federal Government for the plan?
Yes. Plan administrators generally are required to file a Form 5500 Annual Return/Report with the Federal Government. The Form 5500 reports information about the plan and its operation to the U.S. Department of Labor, the Internal Revenue Service (IRS), and the Pension Benefit Guaranty Corporation (PBGC). These disclosures are made available to participants and the public. Depending on the number and type of participants covered, the filing requirements vary. The form is filed and processed electronically under the ERISA Filing Acceptance System II (EFAST2). For more information on the forms, their instructions, and the filing requirements, see www.efast.dol.gov and Reporting and Disclosure Guide for Employee Benefit Plans. There are penalties for failing to file required reports and for failing to provide required information to participants.
Is help available for employers who make mistakes in operating a plan?
Yes. The Department of Labor's Voluntary Fiduciary Correction Program (VFCP) encourages employers to comply with ERISA by voluntarily self-correcting certain violations. The program covers 19 transactions, including failure to timely remit participant contributions and some prohibited transactions with parties in interest. The program includes a description of how to apply, as well as acceptable methods for correcting violations. In addition, the Department gives applicants immediate relief from payment of excise taxes under a class exemption.
In addition, the Department's Delinquent Filer Voluntary Compliance Program (DFVCP) assists late or non-filers of the Form 5500 in coming up to date with corrected filings.
Can a fiduciary terminate its fiduciary duties?
Yes, but there is one final fiduciary responsibility. Fiduciaries who no longer want to serve in that role cannot simply walk away from their responsibilities, even if the plan has other fiduciaries. They need to follow plan procedures and make sure that another fiduciary is carrying out the responsibilities left behind. It is critical that a plan has fiduciaries in place so that it can continue operations and participants have a way to interact with the plan.
Can a plan be terminated?
Although plans must be established with the intention of being continued indefinitely, employers may terminate plans. If a plan terminates or becomes insolvent, ERISA provides participants some protection. In a tax-qualified plan, a participant's accrued benefit must become 100 percent vested immediately upon plan termination, to the extent then funded. If a partial termination occurs in such a plan, for example, if an employer closes a particular plant or division that results in the termination of employment of a substantial portion of plan participants, immediate 100 percent vesting, to the extent funded, also is required for affected employees.
What other resources are available?
The U.S. Department of Labor's Employee Benefits Security Administration (EBSA), the agency charged with enforcing the rules governing the conduct of plan managers, investment of plan assets, reporting and disclosure of plan information, enforcement of the fiduciary provisions of the law, and workers' benefit rights, offers more information on its web site and through its publications. The following are available on EBSA's web site at www.dol.gov/ebsa or by calling 1.866.444.3272.
- Reporting and Disclosure Guide for Employee Benefit Plans
- 401(k) Plans for Small Businesses
- Understanding Retirement Plan Fees and Expenses
- SEP Retirement Plans for Small Businesses
- SIMPLE IRA Plans for Small Businesses
- Automatic Enrollment 401(k) Plans for Small Businesses
- Automatic Enrollment Sample Notice (Web only)
- Adding Automatic Enrollment to Your 401(k) Plan
- Profit Sharing Plans for Small Businesses
- Retirement Plan Correction Programs
- VFCP Fact Sheet | FAQs | Calculator
- DFVCP Fact Sheet | FAQs | Calculator
- Savings Fitness: A Guide to Your Money and Your Financial Future
- Taking the Mystery Out of Retirement Planning
- What You Should Know about Your Retirement Plan
- Top Ten Ways to Prepare for Retirement
- Women and Retirement Savings
What other federal agencies regulate plans?
The Treasury Department's Internal Revenue Service is responsible for the rules that allow tax benefits for both employees and employers related to retirement plans, including vesting and distribution requirements. The IRS maintains a taxpayer assistance line for retirement plans at: 1.877.829.5500 (toll-free number). The call center is open Monday through Friday.
The Pension Benefit Guaranty Corporation (PBGC) is a Federally created corporation that guarantees payment of certain pension benefits under most private defined benefit plans when they are terminated with insufficient money to pay benefits. You may contact the PBGC at:
Pension Benefit Guaranty Corporation
1200 K Street, NW
Washington, DC 20005-4026
Toll free: 1.800.400.PBGC (7242)