The Benefits of Sweeping Small Account Balances Out of Retirement Plans

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By Eric Sholberg, CPA, AIFA

Employers can reduce risk and streamline the operations of their retirement plan by sweeping small 401(k) accounts of former employees. Doing so is an excellent way to reduce plan costs, ease administrative obligations, and fulfill fiduciary responsibilities. Small balances refer to vested balances of $5,000 or less (limited to money earned at the current company). Any part of the account balance from a former employer’s plan does not count against the limit.

Governing regulations allow for automatic rollovers for all accounts under $5,000, as long as the plan document provides for them. Given the benefits of making these types of distributions, it’s worth amending the plan if necessary. Through the ERISA fiduciary safe harbor, the government has a simplified process of effecting automatic rollover provisions to select a qualified IRA provider where these accounts can be directed and the investments where participant funds are rolled.

Why Sweeping Makes Sense

Leveraging the ERISA safe harbor provisions to make mandatory distributions of small accounts to former employees offers five benefits:

  1. Mandatory distributions help reduce plan expenses if the recordkeeper imposes a per-participant charge.
  2. Plans with a participant count below 120 can avoid the added cost and hassle of a plan audit.
  3. There is no longer a need to provide disclosures to participants rolled out of the plan.
  4. Mandatory distributions eliminate the responsibility for tracking former employees. What’s more, employers no longer need to search for missing participants that may fall into that group.
  5. Distributing account balances reduces fiduciary responsibility for the accounts of former employees. Employers have the benefit of a fiduciary safe harbor protecting them in implementing the rollover to an IRA.

Safe Harbor Protection

The safe harbor regulation protection stipulates the following requirements:

  • The rollover amount cannot exceed $5,000.
  • The account balance must be rolled over to an IRA offered by an entity authorized by the Internal Revenue Service to act as an IRA custodian. The rollover money must be invested in a product that meets the requirements for the preservation of principal and provides a reasonable return rate.
  • The fees and expenses for the IRA, including investment expenses, must not exceed the fees and expenses charged by the IRA provider for comparable, non-automatic rollover IRAs.
  • The participant must have the right to enforce the terms of the IRA.

Many providers offer turn-key rollover programs with platforms created to comply with the investments, expenses, and rights of participants as outlined under the safe harbor provisions.

For all the reasons and benefits listed above, we work with our clients to roll terminated participants with small balances out of their plans utilizing the rules and safe harbors allowed.

Eric Sholberg, CPA, AIFA serves as a retirement plan advisor at Brighton Jones.

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