The experts all seem to agree: 401(k) plans should be set up to automatically distribute small ($5K or less) balances of former employees into IRAs using well established safe harbor procedures. Yet not every plan takes advantage of the opportunity.

Why not? Most plausible explanation: No one has called it to their attention.

A rare plan sponsor might also reject the idea on grounds of not wanting to force any decisions on former employers.

These small accounts may not be top of mind for advisers because they are, indeed, small and advisers would not be encountering the former employees who own them in their routine dealings with active plan participants.

 Benefits for Sponsors

Here are some of the basic benefits that sponsors will enjoy by amending their plans and making arrangements for mandatory distributions, according to Jerry Kalish, President of National benefit Services Inc. in Chicago and a regular contributor to this publication. These are also reasons why most sponsors will appreciate the recommendation from advisors to amend their plans to provide for mandatory distributions.

  • It may reduce the cost of administering the plan that would have fewer accounts, i.e., some administrators’ fees are based on number of participants, and/or eliminating the cost of the reporting and disclosure requirements.
  • It may also reduce the number of participants sufficient to avoid an audit which is required if there are 100 or more participants.
  • Using safe harbor rules, it can eliminate the plan sponsor’s fiduciary obligations to the small account holders.

Regarding reporting requirements, regulations requiring plans to provide periodic notification to former employees of their distribution options disappears, eliminating the need for sponsors to keep up with there they are.
However, even after a mandatory distribution provision is put in place, the sponsor must initially notify former employees of their options, but indicate that if no election is made, the funds will be distributed to an IRA. That notification can be made by a vendor that specializes in receiving mandatory distributions.

Bruce Ashton, an ERISA attorney with the DrinkerBiddle firm, says “the legal and practical issues” of adding a mandatory distribution provision “aren’t particularly hard.”  

Ashton also reports that “both fiduciary and non-fiduciary advisers can be compensated by automatic rollover providers for referrals.” The circumstances under which that is possible, along with a detailed explanation of other aspects of the topic, were detailed by Ashton and co-author Fred Reish in a white paper titled, “The Benefits of Mandatory Distributions” here.


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