Understanding the New Guidance on Pension-Linked Emergency Savings Accounts

04 Mar 2024 Understanding the New Guidance on Pension-Linked Emergency Savings Accounts

The SECURE 2.0 Act of 2022 introduced a new savings tool for employees: pension-linked emergency savings accounts (PLESAs). PLESAs are individual accounts connected to defined contribution plans, like 401(k)s, specifically designed to allow and motivate employees to save for urgent financial needs.

Employers could start offering PLESAs for plan years beginning after December 31, 2023, so some eligible employees may have started contributing to a PLESA as early as January 1, 2024.

On January 17, 2024, the Employee Benefits Security Administration issued guidance that includes 20 frequently asked questions and responses about pension-linked emergency savings accounts. Below is an overview, based on the guidance, of how pension-linked emergency savings accounts work.

PLESA basics

PLESAs are savings accounts that are tied to an employee’s elective deferrals for a defined contribution plan, including 401(k)s, 403(b)s, and 457(b)s. Employees can contribute to these accounts through convenient payroll deductions in the same manner they contribute to their retirement plan.

For employees, PLESAs offer a streamlined avenue to set aside emergency savings that grow tax-free. For employers, PLESAs are a value-added benefit that can help attract and retain talent while potentially boosting tax deductions. These accounts are not mandatory for employers or employees, so they can be used at each party’s discretion.

Eligibility

Eligibility for PLESAs extends to employees who are eligible to take part in their employer’s defined contribution plan, excluding highly compensated employees. Highly compensated employees (HCEs) are those who earned more than $150,000 in the preceding year, as of 2023. In the event an employee transitions to an HCE after initially qualifying, they are barred from making additional contributions to a PLESA. However, they retain the right to withdraw any existing account balance according to the general terms of the plan.

Notably, even employees who choose not to participate in their employer’s defined contribution plan can still contribute to a PLESA if one is offered.

Contributions

Contributions to PLESAs are subject to several limitations. The maximum balance attributable to participant contributions is capped at $2,500. Employers have the discretion to set a lower account balance limit if they choose. However, they cannot set annual limits for participant contributions, as this could restrict a participant from replenishing their account after a withdrawal. Employers may also dictate whether the $2,500 limit includes earnings in addition to contributions or if the limit refers to contributions alone. If contributions lead to a PLESA balance exceeding the maximum, participants can shift those contributions to their linked account or take a distribution of the excess.

From a tax perspective, PLESAs are treated as designated Roth accounts. While contributions to a PLESA are not tax-deductible, the funds in the account can grow tax-free.

Withdrawals

Participants can take tax-free withdrawals from a PLESA for any reason without incurring the tax penalties ordinarily associated with early withdrawals from a retirement account. A participant does not need to provide any evidence of an emergency to make a withdrawal.

While employers have the discretion to permit more frequent withdrawals, they cannot restrict withdrawals to less than once per calendar month.

Employer requirements and obligations

While the basic concept of PLESAs is relatively straightforward, employers must navigate a myriad of rules when establishing and managing these new accounts.

Enrollment and notice

Employee participation in a PLESA is voluntary, but employers can automatically enroll participants, subject to certain restrictions. Before an employee is automatically enrolled in a PLESA program, the employee must be given written notice and the chance to opt out.

Automatic enrollment must also cap the employee’s elective contribution percentage at 3% or less of the employee’s compensation. However, employers can provide participants the option to elect a higher or lower rate.

Investment requirements

PLESAs must be invested in cash, interest-bearing accounts, or investments designed to maintain a dollar value equal to the initial investment. Essentially, investments should preserve the principal, given the need for liquidity.

Contributions and matching

Employer matching for PLESA contributions is a somewhat complex balancing act with many moving parts. While employers cannot contribute to PLESAs directly, they must consider employee contributions to the PLESA when making matching contributions to the linked retirement plan. If an employer matches retirement contributions up to 6% of the employee’s salary, for instance, any contributions the employee makes to the PLESA should be matched at the same rate. However, employers do not have to consider PLESA contributions that exceed the statutory maximum. To better illustrate this rule, let’s consider the 2024 limits for defined contribution plans:

• Individuals under age 50 can contribute up to $23,000 to their retirement plan annually.

• Individuals aged 50 and older can contribute an additional $7,500 to their retirement plan annually.

• The total contribution limit, including matching employer contributions, is currently $69,000 for those under 50 and $76,500 for those 50 and older.

If a participant is less than 50 years old and contributes $15,000 to their retirement account, plus $2,500 to their PLESA, their employer could potentially match the total $17,500 in contributions pursuant to their matching agreement. In this case, the employee’s contributions, as well as the matching contributions, do not exceed the 2024 limit. If, however, the employee maxed out their contributions, they could still contribute $2,500 to their PLESA, but the employer would not have to match the PLESA contributions to the extent they exceeded the limit.

The employer’s matching contributions must be added to the participant’s retirement account, not the PLESA. Unlike the PLESA, an employer’s matching contributions are not available to the employee for periodic withdrawal. Instead, the matching contributions are only accessible once vested, and subject to the withdrawal rules for the defined benefit plan.

Withdrawals

PLESAs are designed to be convenient and accessible for participants. The first four withdrawals from a PLESA cannot be subject to any fees. Following these four withdrawals, reasonable fees may be applied. However, they must align with existing Department of Labor (DOL) guidance and general fiduciary standards under ERISA.

Anti-abuse procedures

To reduce the risk of misuse, such as employees exploiting the PLESA for repeated employer matches, employers can set rules limiting how often or how much they match PLESA contributions.

For example, employers can prioritize matching funds for contributions made outside of the PLESA first. Employers can also cap the PLESA contributions eligible for a match. These controls can help prevent strategic gaming of the system.

Reporting

Eligible retirement plans must separately account for PLESAs, but plan sponsors have the flexibility to hold PLESA assets in a segregated omnibus account. This structure ensures clear delineation and transparency in financial records.

Because PLESAs were not authorized until January 1, 2024, reporting requirements have not been released to date. The DOL is currently adding a PLESA feature to the 2024 Form 5500, so plan administrators should stay vigilant for updates regarding new reporting requirements.

Next steps

This article is intended to provide a brief outline of the IRS and DOL guidance for employee PLESAs that is available to date. It is not to be construed as legal advice and is not a substitute for speaking with an expert advisor.

PLESAs can be a great value-added benefit for employers already providing access to defined contribution plans. If you would like more information or tailored advice about setting up or managing a PLESA in your business, please contact our office.

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