Retirement plans administrators can eliminate major headaches by automatically rolling over low balance accounts of terminated employees to Individual Retirement Accounts (IRAs). Those headaches primarily surround lost participants, un-cashed checks, the per-head recordkeeping costs and the fiduciary liabilities associated with terminated employees. Even if you aren’t concerned about the recordkeeping costs and ongoing fiduciary liability, I argue, based on issues brought up by our clients, that every plan should implement an Automatic Rollover provision and include accounts below $1,000 in that process.
Before continuing with my observations, let’s review the rules on Automatic IRA Rollovers. Department of Labor regulations state that you can distribute account balances to terminated employees that have a vested balance of less than $5,000. This $5,000 level does not include any rollovers into the plan and the earnings associated with those assets. So, in some cases, even accounts with more than $5,000 qualify for automatic rollover.
Furthermore, the regulation states that if the qualifying balance is between $1,000 and $5,000, any non-voluntary distribution (no distribution election within 30 days after termination of employment) must be made to an IRA established by the plan for the benefit of the participant. Individuals with account balances less than $1,000 may also be rolled into an Automatic Rollover IRA or those individuals can simply be sent a check, minus 20% mandatory withholding, making the distribution subject to taxes and potential penalties.
It is difficult enough to run a qualified retirement plan, but dealing with terminated participants simply complicates the matter. Why? Aside from the cost that can now be deducted from their accounts, these individuals tend to get lost. Statements get returned. Correspondence goes unanswered. As for distributions under $1,000, the participant getting lost is even more significant because in many cases the distribution check goes un-cashed. Plus, after the 1099R is filed and the withholding is sent to the government, you can’t change your mind and roll them into an IRA. Some larger company plans have thousands of stale, un-cashed checks. The employers or recordkeeper try their best to find them by getting a good address, but this is time consuming and expensive.
These un-cashed checks really become a problem when a company is terminating a plan or the plan becomes abandoned. In these instances, you can’t rollover the taxable distributions into an IRA because a 1099R has been issued, taxes have been withheld and presumably tax returns file on that amount.
The solution is easy: Automatically Rollover to an IRA all qualifying account balances of less than $5,000. If they get lost, it is the responsibility of the IRA provider to find them. The risk of not doing so, in my opinion, outweighs any benefits gained from keeping the assets in the plan.
