FLASHPOINT: And Not a Moment Too Soon (in Fact, a Little Late):
Mandatory Automatic Enrollment Guidance

By Ilene H. Ferenczy, Esq.

It was a busy week at Treasury.  Two big pieces of guidance practitioners have been waiting for were released.  This FlashPoint will discuss the proposed Mandatory Automatic Enrollment regulations.  Another FlashPoint is forthcoming shortly about the new proposed regulations relating to the increased catch-up contribution limits for participants in their early 60s and the delayed mandatory use of Roth for catch-up contribution for individuals over a certain wage threshold.

Proposed Treasury Regulations sections 1.414(w)-1 and 1.414A-1 were issued on Thursday, January 9, 2025 (“MAE Regs”).  These proposed regulations answer many of the questions that were still hanging as the 2025 year began and mandatory automatic enrollment (“MAE”) took effect. Our recent FlashPoint outlined what we believed were the open questions, and our best guess as to the answers.  Let’s see how we did.

Effective Date of MAE and the Proposed Regulations

The MAE Regs confirm that MAE must be added to applicable plans for plan years beginning after December 31, 2024, thereby confirming for the public that there is no permissible delay in instituting MAE for plans that need to do so.  However, the effective date of the MAE Regs themselves is plan years beginning six months after publication of final regulations.  So, if the Treasury issues final regulations in fall or winter 2025 (which would be extremely fast), the regulations would not be effective for a calendar year plan before 2027!

A reasonable, good faith interpretation of Code Section 414A is required in the meantime.  Interestingly enough, there is not a specific statement in the preamble that adherence to the MAE Regs constitutes such an  interpretation, but it is presumably the case.  The real question is:  what other “choices” that a plan sponsor makes in relation to the law versus the regulations will be considered to be reasonable and in good faith?

Which Participants Are Subject to MAE?

One of the areas of real controversy that needed to be addressed quickly was who needs to be automatically enrolled, and the MAE Regs have filled that need.

Long-Term Part-Time Employees: Covered

First, the Preamble to the MAE Regs clarifies that there is “no provision in section 414A … that excludes any category of employee from the automatic enrollment requirements … if the plan is subject to section 414A.”  As a result, the MAE must be applied to “all employees in the plan who are eligible to elect to have contributions made on their behalf under the CODA or pursuant to the salary reduction agreement (including long-term part-time employees…)” [Emphasis added]  [For those keeping score:  1 point for our FlashPoint – we predicted that.]

Participants with Affirmative Elections:  Can Be Excluded

The MAE Regs acknowledged that the EACA rules customarily allow certain exclusions from automatic enrollment but outlined that only one such exclusion would apply for MAE purposes: you don’t need to automatically enroll someone who has an affirmative election (either to defer or not to defer) on file.  Keep in mind, however, that these MAE rules do not modify the analogous rules for non-MAE EACAs.  Therefore, a plan that voluntarily provides for an EACA may exclude a broader group of employees from the auto enrollment (such as people who entered prior to the institution of automatic enrollment) than do the MAE Regs.  [2 points for us.]

Participants Who Entered the Plan Before January 1, 2025: Covered, with Dispensation

I thought that the government would interpret the rules to permit a plan to exclude those who were participants when MAE came into effect from the automatic enrollment.  Derrin was less optimistic.  Derrin, it turns out, was right … for the most part.  While the MAE Regs require the broader enrollment, the Preamble clarifies that, if the plan did not apply MAE to participants who were already in the plan but did not make an affirmative election, they must do so by the first plan year for which final regulations are effective (e.g., 2027). Moreover, the default deferral rate for these employees must be computed as though they had been subject to MAE since 2025.  The complexity of administering this timing, and for participants to understand it, will likely be a source of confusion and operational failures. It may make sense just to cover the right people under the MAE provision sooner rather than later.  [1 point for Derrin, half a point for Ilene, -1 for anyone that has to track this.]

Plan Mergers: Sponsors of MEPs and PEPs Can Breathe a Sigh of Relief

One of the biggest questions that remained after the interim guidance that the IRS published relating to MAE Regs had to do with multiple employer plans (“MEPs”).  When the MAE Regs refer to MEPs, they are also covering Pooled Employer Plans (“PEPs”), so don’t worry that our PEP friends are left out. Notice 2024-2 left a significant gap in its discussion of mergers into and spin-offs out of MEPs.

GF Plans Merged into a MEP Continue to Be Grandfathered

One of the most significant exemptions from MAE is for pre-enactment plans (or what we call Grandfathered Plans or “GF Plans”).  A GF Plan is any 401(k) plan for which a CODA provision had been adopted by December 29, 2022, even if the CODA was effective after that date, or any 403(b) plan in effect by such date (regardless of when the CODA was adopted).  GF Plans are exempt from MAE.

So, the big open question for MEPs and PEPs was: if a MEP or PEP was formed after December 29, 2022, and if a GF Plan merged into the MEP or PEP, did the GF Plan retain its MAE exemption?

The answer, it turns out, is YES, a very welcome and unexpected result.  [Ilene and Derrin guessed otherwise, so no points for us here, but Alison was convinced that this was the only logical result.]

You can find a table that outlines the rules for all the plan merger situations here. For more information, you can refer to our earlier FlashPoint on Notice 2024-2.

Spin-offs from GF Plans are GF Plans

The header says it all here.  If a portion of a GF Plan spins off to be its own plan, it continues to be GF.  This doesn’t just apply to a single employer plan but also applies to a participating employer’s portion of a MEP – i.e., the spun-off plan maintains the characteristics that its portion of the MEP had.

Mergers of non-CODA plans into a GF Plan

If a non-CODA plan, such as a regular profit-sharing plan, is merged into a GF Plan, the survivor continues to be grandfathered.

One More Thing (And it’s a Good One!)

The MAE Regs discuss one more M&A situation that is very helpful to plan sponsors and practitioners.  Pursuant to Notice 2024-2, if a non-GF Plan merges into a GF Plan in connection with a company transaction under Code section 410(b), and that merger occurs during the 410(b) transition period, the resulting plan is totally GF, even with regard to the non-GF acquired employees. The MAE Regs apply this rule to a merger of a plan into the MEP in connection with an acquisition by a participating employer of another company.

Here’s an example:  Buyitall is a participating employer in the XYZ MEP.  Buyitall’s portion of the MEP is a GF Plan.  In 2027, Buyitall engages in a purchase transaction with Gotme (it can be a stock or asset acquisition or merger of companies).  Gotme is the sponsor of a non-GF 401(k) Plan.  If Buyitall merges the Gotme Plan into the MEP within the transition period under Code section 410(b) (following the rules of the GF exception for mergers related to business transactions), it will be able to take advantage of that exception.  The result:  all Buyitall’s portion of the MEP (including the Gotme employees’ share, which was previously subject to MAE) is GF.  [We didn’t even go there, so no points for us on this one, either.]

Who’s the Employer?

The MAE statute does not address controlled groups.  The MAE Regs do, and they treat controlled groups and affiliated service groups as a single employer.  Moreover, the MAE Regs provide that plan amendments expanding coverage to include employees of related employers do not affect the plan’s grandfathered status. So, suppose ParentCo and ChildCo are in a controlled group. Each has a 401(k) plan, but only ParentCo’s plan is grandfathered. The coverage transition period ended years ago.

Amending ParentCo’s plan to expand coverage and include the ChildCo employees does not affect the GF status of the ParentCo plan.  However, if the non-GF ChildCo plan is merged into the ParentCo plan, because the merger would be unrelated to the acquisition of ChildCo, the ParentCo plan will cease to be a GF Plan. This may be one situation in which it is a better idea to maintain the ChildCo plan as a frozen plan, rather than merging the plans. Alternatively, ParentCo should embrace MAE.

Normally Employs Fewer Than 11 People:  You May Not Like This One …

Companies that “normally employ” fewer than 11 employees are exempt from MAE.  The phrase in quotes is vague, so what does the government mean by it?  You’ll be sorry you asked.

There is a section of the Treasury Regulations relating to the application of COBRA to companies that sets a standard for “normally employs” and the MAE Regs adopt that standard.  The good news:  self-employed individuals and corporate directors are not included in the normally employed count – only common law employees.  (That leaves out independent contractors, too.)

To determine whether the company normally employs 11 people, the following rules apply:

• A full-time employee counts as one person. A part-time employee is a fractional person based on the number of hours typically worked divided by the number of hours for a full-time employee (which cannot exceed 8 hours per day or 40 hours per week).
• The number of employees is then determined on either a daily basis or a per-payroll period basis. The basis used must be applied to all employees for the entire fiscal year of the employer.
• The company “normally employs” 11 people if there are at least 11 people during 50% of the fiscal year.
• If the employer participates in a MEP or PEP, this determination is made on an employer-by-employer basis.

MAE must be instituted by the first plan year beginning at least 12 months after the close of the employer’s fiscal year in which the sponsor exceeds 10 employees.

Once a plan meets the 11-employee threshold, there is no language in either the MAE regulations or the COBRA regulations that would indicate that MAE can be terminated if the company again returns to having fewer than 11 employees.  Even if this were permitted, such a flip-flop is not practical.

[We didn’t see this coming and thought that facts and circumstances would apply.  So, no points for us.  And we are glad that Treasury chose a concrete measurement, unwieldy though it may be.  Relying on facts and circumstances is always risky.]

New Business MAE Exemption

New businesses are exempt from MAE.  A “new business” for this purpose is a business (including a predecessor employer) that, as of the beginning of the plan year, has been in existence for fewer than three years.

The IRS has asked for comments as to whether information is needed as to what constitutes a predecessor company for this purpose.  As it stands, there is no clarification on that issue, but the language in Treas. Reg. 1.415(f)-1(c)(2) seems a logical place to start.

The QDIA Requirement and Plans with No Participant-Direction

The MAE rules require that the automatic enrollment structure meet the requirements for an eligible automatic contribution arrangement (“EACA”), including both the permissible withdrawal provision and the requirement that there be a QDIA for automatically enrolled participants.  This begs the question: what about 401(k) plans that don’t provide for participant direction of investments?

This question is not answered.  The MAE Regs reiterate the QDIA obligation, without much elucidation.  This clearly requires practitioner comments. Until the final regulation is issued, Ilene and Derrin think it would be a reasonable interpretation of the statute for a trustee-directed plan to invest automatic deferrals in QDIAs, without expanding to allow participant direction of investment.

What Effect Does a Plan Amendment Have on MAE and Grandfathering?

Generally, none.  The MAE Regs outline that an amendment to the plan, even those that expand the availability of the salary deferral feature to additional employee groups or controlled group or affiliated service group members, does not affect the GF status of the plan.

“Initial Period” and Contribution Clarification

The “Initial Period” is used to determine when any automatic increase must be applied.  If the plan is using the minimum MAE percentages, the initial period is when the 3% MAE rate is used.  The initial period also defines when the rate of deferral must increase.

In general, the “initial period” for purposes of the 3% automatic enrollment rate is defined in the same manner as it is for QACAs, i.e., the period from the date when the participant is eligible to defer to the last day of the plan year following the year that includes the beginning date.

Increases of 1% (no more, no less) are required to happen for each successive plan year, unless the rate is 10% or more.  The plan can limit the rate to a lower amount to avoid violations of Code sections 401(a)(17), 401(k), 402(g), 415, or the limits on deferrals for starter 401(k) and safe harbor 403(b) plans. A plan can also provide the rate of deferrals that is in effect for an employee immediately prior to the date MAE first applies to the employee is not reduced.

If someone becomes ineligible to make deferrals for at least an entire plan year after becoming covered by MAE and then returns to eligibility for deferrals (such as a rehired employee), the plan may elect to start the initial period all over again.  Similarly, if an employee is not automatically enrolled because they have an affirmative election in place for at least a full plan year and the election is revoked or canceled, the plan may elect to reset the initial period to be after the revocation. This provision could be used to facilitate a “sweep” of employees deferring less than the default percentage into automatic enrollment.

Permissible Withdrawals

The proposed regulations repeat the statutory requirement that plans subject to MAE allow permissible withdrawals under the EACA rules.  This provides a brief period after automatic deferrals first apply to a participant in which the participant can withdraw those deferrals, plus earnings.

Combining Notices

The MAE Regulation package also proposes to modify the regulations to Code section 414(w), dealing with EACAs.  This change clarifies that no EACA notice is needed for unenrolled participants (if the plan provides the “annual reminder notice” discussed in Code §414(bb) and ERISA §111(c)), and that the EACA and PLESA notices may be combined with the QDIA and SH notices, so long as the combined notice:

• Includes all required content of all the combined notices;
• Clearly identifies the issues being addressed in the notice;
• Is furnished at a time that meets the requirements (and with a frequency that meets the requirements) of all combined notices;
• Is written in a manner calculated to be understood by the average participant; and
• Does not obscure or fail to highlight the primary information for each of the combined notices.

Note that all participants eligible to defer are “covered employees” of the EACA.  While participants with affirmative elections are exempted from the default deferrals, they must nonetheless receive the annual EACA notice.

Conclusion

To the extent that the automatic enrollment that was put into effect as of January 1, 2025, for a plan does not conform to the MAE Regs, you need to determine if the interpretation given to the sections that are not in conformance are reasonable and in good faith.  If so, you can continue the practice until the MAE Regs are finalized.  If not, you should modify the practice immediately and determine if any corrective measures are required.  An example of an interpretation that we think is likely not in good faith is the exclusion from MAE of participants other than those who were participants prior to January 1, 2025.  (For example, if you excluded Long-Term Part-Time employees or those who were employed, but were not participating prior to the beginning of 2025, that is probably something that needs to be repaired right away.)  If you need help framing a correction, or our thoughts on whether a particular practice constitutes a reasonable, good faith interpretation of the law, let us know.

We will keep you posted on further developments.  But, if you want to talk or even vent the meantime, call or email.  After all, we are your ERISA solution!

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Catch our ERISApedia webcast on MAE, to take place at 2 p.m. EST on January 22.  [Go to www.erisapedia.com to sign up]

If you are at the NIPA BMC this week, be sure to say hi to Ilene.

Also, be sure to sign up to see Ilene and Derrin at the FIS Advanced Pension Conference (presented virtually) from January 29 through January 31.  Or come say hi in person to the entire FBLC gang at Pensions on Peachtree, April 24 and 25, in Atlanta.