Correcting 401(k) Auto-Enrollment Failures

ERISA experts Fred Reish and Joan Neri answer a question about addressing a plan sponsor client’s error in implementing automatic enrollment.

Q: I am a registered investment adviser who provides advisory services to 401(k) plan committees. Some of my client plans include auto-enrollment features, and I am aware that a few of them have had administrative problems with implementing the automatic-enrollment feature by missing enrollment for some eligible employees. I want to educate my client about addressing these issues. Is there a way to correct this error without jeopardizing the tax-qualified status of the plan and, if so, will the employer have to make an additional contribution–i.e., a qualified nonelective contribution?

A: The good news is that the SECURE 2.0 Act of 2022 includes a special safe harbor correction provision that addresses this issue. The SECURE 2.0 safe harbor is similar to the special safe harbor correction method which expired on December 31, 2023 (the “pre-2024 safe harbor”) set forth under the IRS’ Employee Plan Compliance Resolution System, which describes correction procedures for addressing a wide range of plan operational errors.

Never miss a story — sign up for PLANADVISER newsletters to keep up on the latest retirement plan adviser news.

The SECURE 2.0 safe harbor establishes a permanent correction procedure for auto-enrollment failures after December 31, 2023. If the error is corrected under the SECURE 2.0 safe harbor procedures, then the plan’s tax-qualified status will not be jeopardized. Also, if the correction procedures are followed, the employer will not need to make a qualified nonelective contribution for the missed deferrals, although the employer will need to make a matching contribution if the employee would otherwise have been entitled to the matching contribution.

There are five key conditions to address the issue, discussed further below.

  1. Covered Errors

Fred Reish

The failure must be due to a reasonable administrative error that resulted in one of the following:

  • A failure to implement an automatic-enrollment or automatic-escalation feature with respect to an eligible employee;
  • A failure to implement an affirmative election made by an eligible employee covered by the automatic-enrollment feature; or
  • A failure to provide the eligible employee with an opportunity to make an affirmative election because the employee was improperly excluded from the plan.

Although the term “reasonable administrative error” is not defined, it is reasonable to conclude that an innocent mistake would qualify, whereas an intentional error would not. For instance, unintentionally omitting an eligible employee from census data used to implement the automatic enrollment feature would likely satisfy this condition.

  1. Correction Period

The time period for correcting the error depends upon whether the error is first discovered by the employer or by the employee (who then informs the employer of the error).

If the employee notifies the employer of the error, the correction must be made by the date of the first payday for that employee on or after the last day of the month following the month in which the employee notified the employer. For example, if an employee notified her employer on January 1, 2025, the correction must be made by the first payday on or after February 28, 2025.

If the employer first discovers the error, then the correction must be made by the date of the first payment of compensation to the affected employee on or after the last day of the 9.5-month period after the end of the plan year during which the error occurred. For example, if on January 1, 2024, ABC Company failed to enroll Ann Jones due to an implementation error, and Ann does not inform ABC Company of the error, ABC Company has until the date of the first payment of compensation made to Ann on or after October 15, 2025, to begin deducting deferrals from her paycheck, unless Ann affirmatively opts out of the automatic-deferral feature. The act makes clear that the correction may occur before or after the participant has terminated employment.

If the mistake was not due to a reasonable administrative error, or if the correction is not made within these time limits, the consequences to the employer are more severe. As a result, it is critical that mistakes are found and corrected on a timely basis.

  1. Matching Contribution (if Provided by the Plan)

Joan Neri

If the plan provides for matching contributions and the employee would have been entitled to a matching contribution had the missed deferrals been made, the plan sponsor must make a corrective allocation of matching contributions on behalf of the employee in an amount equal to the matching contribution the employee would have been entitled to, adjusted to account for earnings had the missed deferrals been made. In other words, the matching contribution must be made as if the employee were automatically enrolled at the right time. In this case, the missed deferrals could be calculated as if the employee were enrolled at the initial deferral rate under the plan and, if the plan included automatic deferral increases, any missed matching contributions would need to be accordingly increased.

The Department of Labor has not yet provided guidance on how to calculate the missed earnings. We think one reasonable approach would be to use the earnings on the qualified default investment alternative that the employee would have been defaulted into if the employee did not make an investment election. If the correction procedures outlined here are followed, then no employer contribution—such as a QNEC—is required to account for the missed deferrals themselves.

  1. Implementation on Nondiscriminatory Basis

The correction must be implemented for all similarly situated participants in a nondiscriminatory manner. For instance, if an employer plan sponsor fails to automatically enroll 10 employees due to the same implementation error, the correction process for all 10 employees should be implemented at the same time and in the same manner.

  1. Notice to Affected Employees

The plan sponsor must provide notice of the error to the affected employee not later than 45 days after the date on which correct deferrals begin. Under current IRS guidance, the notice should include the information required under the pre-2024 safe harbor. For active participants, this information includes a description of the error, a statement that deferrals have begun and an explanation of how the participant may change his or her deferral percentage.

Concluding Thoughts

When you conduct meetings with your 401(k) clients who have auto-enrollment features, you can educate them about this safe harbor correction program. For most clients who established 401(k) plans on or after December 29, 2022 (the enactment date of the SECURE Act 2.0 of 2022), the implementation of automatic enrollment will be required starting January 1, 2025 (for calendar year plans). Those clients should know about this correction program if an employee is not properly enrolled in the plan.

Capital One Facing 401(k) Plan Forfeiture Suit

Capital One Financial Corp. and its board of directors are facing a lawsuit over the usage of 401(k) plan forfeitures, joining a list of more than 20 companies that have faced similar complaints.

Capital One Financial Corp. and its board of directors are facing a lawsuit brought by former employees over the usage of 401(k) plan forfeitures, joining more than 20 other companies that have been sued over forfeitures this year.

In Singh et al. v. Capital One Financial Corp. et al., filed last week in U.S. District Court for the Southern District of New York, the banking company was accused of breaching its duties under the Employee Retirement Income Security Act by using participant-forfeited funds to reduce company contributions to the plan instead of using the funds to reduce or eliminate the amounts charged to participants for plan administrative costs.

Want the latest retirement plan adviser news and insights? Sign up for PLANADVISER newsletters.

According to the lawsuit, which cites the plan’s Form 5500 filings, more than $42 million was “improperly steered” from paying administrative costs and instead used to “benefit the company.”

The Capital One Financial Corp. Associate Savings Plan contained more than $10 billion in assets and had 68,271 participants, according to its most recent Form 5500.

The plaintiffs also allege that Capital One did not obey the language related to managing plan forfeitures from its own plan documents. According to the lawsuit, the plan document stated that all amounts forfeited under the plan must be first used to pay plan administration costs and next to reduce and be considered part of employer matching contributions for the plan year in which the forfeiture occurs.

“As a direct and proximate result of the breaches of fiduciary duties alleged herein, the plan and its participants suffered millions of dollars of losses due to the failure to utilize forfeited accounts to pay plan expenses,” the complaint alleges. “Had defendants complied with their fiduciary obligations, the plan would not have suffered these losses, and the plan’s participants would have had more money available to them for their retirement.”

In addition, Capital One and its board were accused of failing to monitor and evaluate the performance of the plan committee, as well as failing to remove committee members whose performance was “inadequate” by “continuing to engage in conduct that benefited the company.”

Forfeiture Litigation Trend

A recent law alert from the Wagner Law Group, written by Michael Schloss, stated that to date there have been 25 forfeiture lawsuits filed in a variety of jurisdictions—11 in federal courts in California.

Six decisions on motions to dismiss have been issued so far. Two motions were denied outright and one motion was granted without leave to refile. The three remaining motions were granted, including a recent one against Clorox, but with leave for all plaintiffs to amend their complaints.

Schloss pointed out that many of these cases assume that forfeiture accounts hold only nonvested employer contributions, but the plaintiffs argue that this is likely an incorrect assumption. Form 5500 information demonstrates that many forfeiture accounts also contain other vested and distributed amounts, such as vested plan assets transferred conditionally from the accounts of missing or nonresponsive participants and uncashed checks.

“Because none of the recent forfeiture complaints or court decisions to date has focused on the use of forfeiture amounts arising from sources other than nonvested employer contributions, there is as of yet no allegation or court decision considering how these additional facts may impact the legal analysis of their use to fund employer contributions,” Schloss wrote.

As forfeiture cases continue to unfold, the law firm advised plan sponsors to review the forfeiture provisions of their own defined contribution plans to determine what, if any, actions might reduce the risk of litigation.

ERISA attorneys, when commenting on other cases, have also recommended that plan sponsors ensure they are abiding by the language in their plan documents when it comes to forfeitures.

The plaintiffs in the Capital One case are represented by law firm Capozzi Adler, and representation for Capital One has not yet been named in the legal filing.

Capital One did not immediately respond to a request for comment.

«