An important issue for 401(k)plan sponsors is whether amounts withheld from employee paychecks are deposited into the plan’s trust account in a timely manner. The Department of Labor (“DOL”)devotes significant enforcement resources to cases involving the delinquent remittance of employee contributions, and nearly 90% of applications under the DOL’s Voluntary Fiduciary Correction Program relate to this issue. In an effort to provide employers with additional compliance certainty, the DOL has issued a proposed rule that would provide employers sponsoring plans with fewer than 100 participants (“small plans”) a seven-business-day safe harbor period to deposit withheld employee contributions. This guidance gives all plan sponsors a better understanding of the DOL’s view of when such withheld contributions must be deposited.
The DOL’s vigilance on this topic is based on basic trust law principles and ERISA. Assets of a qualified employee benefit plan must be held in trust, and ERISA provides that “the assets of a plan shall never inure to the benefit of any employer.” Moreover, the direct or indirect use of plan assets for the benefit of an employer is a “prohibited transaction” under ERISA.
Violation of these principles can be expensive for plan sponsors. Individuals or entities that participate in prohibited transactions are subject to an excise tax equal to 15% of the amount involved in the transaction, and if the prohibited transaction is not corrected within the taxable period in which it occurs, an additional 100% tax on the amount involved may be assessed. There is even the potential for criminal prosecution. Given these potential consequences of mishandling plan assets, the critical issue for sponsoring employers is: When do employee contributions that are withheld from a paycheck become “plan assets?”
ERISA itself does not contain a definition of the term “plan assets.” DOL regulations provide, however, that “the assets of the plan include amounts that a participant has withheld from his wages by an employer, for contribution to the plan as of the earliest date on which such contributions can reasonably be segregated from the employer’s general assets.” The regulation further provides that withheld funds may not, under any circumstances,be retained by the employer later than “the 15th business day of the month following the month in which such amounts would otherwise have been payable to the participant in cash.”
Prior to the release of the proposed safe harbor, a facts and circumstances test was applied to determine whether employee contributions were deposited in a timely manner. Now, since the DOL has announced that employers may rely on this rule immediately,benefit plan contributions withheld by employers sponsoring small plans will not be considered plan assets during the safe-harbor period. Thus, even if a small plan sponsor reasonably could segregate employee contributions from general assets in less than seven days, the safe harbor acts to protect such employers from liability.
Significantly, in the preamble to the proposed rule, the DOL explains that the data collected in the course of its investigations indicate that small plans typically need more time than larger plans to segregate participant contributions from their general assets. The DOL has solicited comments on the proposed rule, and has indicated that if the comments it receives suggest that large plans would similarly benefit from a formal safe harbor, the DOL may incorporate one into the final rule. Based on the commentary in the preamble, such a safe harbor would likely be no longer than seven days, and could even be considerably shorter.
Based on this guidance, 401(k)plan sponsors with fewer than 100 participants should make every effort to take advantage of this safe harbor.Larger employers should review their current practices and verify that employee funds are in fact being deposited into the plan’s trust account as soon as reasonably possible.