DOL Proposes Safe Harbor and Issues Interpretive Bulletin on State-Based Savings Programs

Practical Law Legal Update w-000-8307 (Approx. 7 pages)

DOL Proposes Safe Harbor and Issues Interpretive Bulletin on State-Based Savings Programs

by Practical Law Employee Benefits & Executive Compensation

State-Based Savings Programs (SSPs)

California, Illinois and Oregon have established SSPs that essentially encourage employees to establish IRAs that are funded by payroll deductions. These SSPs require most employers that do not offer retirement savings arrangements to deduct specified amounts from employees' pay and remit those amounts to state-administered IRAs for the employees. SSPs with automatic enrollment typically require employers to deduct amounts on behalf of employees, unless an employee affirmatively elects not to participate.

As currently designed, these SSPs:

Do not require, provide for or permit employers to make matching or other contributions to employees' accounts.
Require that employers act as a conduit for information regarding the SSP, including disclosures of employees' rights and program features. These disclosures are often based on state-prepared materials.

Some states and practitioners have expressed concern that SSPs of this type may:

Inadvertently cause employers to establish ERISA-governed plans. For a discussion of the criteria courts use to determine whether a retirement arrangement constitutes an ERISA-governed plan, see Practice Note, Severance Benefit Plans and Agreements: Overview: Severance Arrangements Subject to ERISA.
Be preempted by ERISA (see Practice Note, Title I of the Employee Retirement Income Security Act of 1974: Overview: State Law Preemption).

Current Guidance Addressing Payroll Deduction Arrangements Under ERISA

IRAs are governed by the Internal Revenue Code (Code) and are not generally covered under ERISA because they are considered to be "individual" in nature. ERISA coverage of IRAs is contingent on an employer (or employee organization) establishing or maintaining the arrangement (29 U.S.C. §§ 1002(1) – (2)). The DOL previously provided guidance that helps employers determine if their involvement in voluntary payroll deduction arrangements, including sending employee contributions to IRAs, would amount to establishing or maintaining an ERISA-governed plan.

In 1975, the DOL issued a safe harbor regulation that clarifies the circumstances under which IRAs funded by payroll deductions would not be treated as ERISA plans (29 C.F.R. § 2510.3-2(d)). This regulation essentially permits an employer to:

Allow a vendor to provide employees with information about an IRA product.
Facilitate payroll deductions for employees who voluntarily initiate action to sign up for the IRA. Automatic enrollment is not permitted under this regulation.

Under this regulation, the employer may not make contributions and must not endorse the product to employees. In 1999, the DOL issued Interpretive Bulletin 99-1 (29 C.F.R. § 2509.99-1) to explain that an employer may furnish materials from IRA vendors, answer employee inquiries about the program and encourage retirement savings through IRAs generally so long as the employer:

Clarifies its neutrality concerning the program to employees.
Limits its involvement to collecting the deducted amounts and remitting them promptly to the IRA sponsor (29 C.F.R. § 2509.99-1(c)).

The currently effective SSPs are similar to arrangements covered under the 1975 IRA safe harbor. However, the 1975 safe harbor does not envision state involvement in the IRA program or use of automatic enrollment.

Proposed Regulation Establishing Safe Harbor for SSPs

The proposed regulation provides that for purposes of Title I of ERISA, the terms "employee pension benefit plan" and "pension plan" do not include an IRA (as defined in 26 U.S.C. § 7701(a)(37)) established and maintained pursuant to a state payroll deduction savings program if the program satisfies all of the required regulatory conditions (29 C.F.R. § 2510.3-2(h)). SSPs are only eligible for the safe harbor if they use IRAs, including both traditional and Roth IRAs.

Safe Harbor Conditions

The safe harbor sets out several conditions that SSPs must satisfy to be eligible for the safe harbor, including:

The SSP must be established and administered by a state government pursuant to state law, which is responsible for investing the employee savings or selecting investment alternatives for employees to choose.
The state must assume responsibility for the security of payroll deductions and employee savings.
The state must adopt measures to ensure that employees are notified of their rights under the SSP and create a mechanism for enforcement of those rights.
Participation in the program must be voluntary for employees. The safe harbor expressly permits states to require employers to automatically enroll employees, unless employees affirmatively elect not to participate in the program.
The SSP must not:
- require that an employee or beneficiary retain any portion of contributions or earnings in her IRA;
- impose any restrictions on withdrawals; or
- impose any cost or penalty on transfers or rollovers permitted under the Code.
All rights of the employee or beneficiary under the SSP must be enforceable only by:
- the employee or beneficiary (or a designated representative); or
- the state (or its designated agency or instrumentality).
The employer's activities must be limited to those ministerial functions required by state law, which must be limited to all or some of the following:
- collecting employee contributions through payroll deductions and remitting them to the SSP;
- providing notice to the employees and maintaining records regarding payroll deductions;
- providing information to the state necessary to facilitate the operation of the SSP; and
- distributing information about the SSP to employees from the state and permitting the state to publicize the program to employees.
The employer may not:
- contribute to the SSP;
- have discretionary authority, control or responsibility under the SSP; or
- receive any direct or indirect compensation in connection with the SSP other than reimbursement of actual costs of the program.

The safe harbor expressly provides that an SSP will be considered voluntary if it requires automatic enrollment, provided employees have a right to opt out. It also expressly permits the SSP to offer employees a choice of IRA sponsors and choose a default IRA sponsor in the absence of an employee's affirmative election.

Effective Date

The proposed regulation will be effective 60 days after the date the final rule is published in the Federal Register. Written comments must be received by the DOL by January 19, 2016.

Practical Impact and Open Questions

The safe harbor the DOL created in this proposed regulation sets enforceability guidelines for employers operating in California, Oregon and Illinois that may be subject to the currently effective SSPs in those states and establishes a roadmap for states currently considering implementing SSPs. Small companies and start-up companies in these states that do not offer retirement savings programs may be most directly impacted by SSPs, though some state programs exempt some of the smallest companies.

The proposed regulation does not address several important issues that may raise implementation questions and concerns for employers operating in states that offer SSPs, including:

Whether employees that participate in the SSP must be:
- employed within the state that establishes the SSP;
- residents of that state; or
- employed by employers doing business within that state. The DOL is soliciting comments on whether the safe harbor should be limited to require some connection between the employers and employees covered by the program and the state that establishes the program.
Potential compliance costs to employers to comply with a state-mandated SSP, particularly with respect to updating their payroll systems and providing relevant notices and disclosures to employees.

Employers and other parties who may be impacted by this new safe harbor should consider submitting comments to the DOL on these issues.

Interpretive Bulletin on SSPs

The DOL simultaneously issued Interpretive Bulletin 2015-02 (IB 2015-02) aimed at states interested in helping employers establish ERISA-governed plans that describes three different types of state-based approaches to SSPs that should not be preempted by ERISA. IB 2015-02 does not address the state-administered payroll deduction IRA programs covered by the safe harbor in proposed regulation 29 C.F.R. Section 2510.3-2(h).

IB 2015-02 describes the following types of state-based SSPs that should not be preempted by ERISA:

Marketplace Approach. Under the marketplace approach, the state would establish a "marketplace" to connect eligible employers with retirement plans available in the private sector. The marketplace would not itself be an ERISA-governed plan, and the arrangements available to employers through the marketplace could include ERISA-covered plans and other non-ERISA savings arrangements. Washington currently offers this type of SSP.
State Prototype Plan Approach. Under the state prototype plan approach, the state would provide a prototype plan that employers could adopt. Each employer that adopts the prototype would sponsor an ERISA plan for its employees, and the state or a designated third-party could assume responsibility for most administrative and asset management functions. For more information on prototype plans generally, see Practice Note, Pre-approved Plans: Design Choices, Tax-qualification Rules and Best Practices.
Multiple-Employer plan (MEP) Approach. Under the MEP approach, states would establish a MEP that eligible employers could join rather than establishing their own separate plan. The MEP would be run by the state or a designated third-party.

IB 2015-02 sets out the DOL's views that Sections 3(2), 3(5), and 514 of ERISA as applied to these three state approaches would not cause the states that establish the SSPs to be preempted by ERISA.

DOL Proposes Safe Harbor and Issues Interpretive Bulletin on State-Based Savings Programs | Practical Law