What
is ERISA?
The Employee
Retirement Income Security Act of 1974, or
ERISA, protects the assets of millions of
Americans so that funds placed in retirement
plans during their working lives will be there
when they retire.
ERISA is a federal law that
sets minimum standards for pension plans in
private industry. For example, if an employer
maintains a pension plan, ERISA specifies
when an employee must be allowed to become
a participant, how long they have to work
before they have a non-forfeitable interest
in their pension, how long a participant can
be away from their job before it might affect
their benefit, and whether their spouse has
a right to part of their pension in the event
of their death. Most of the provisions of
ERISA are effective for plan years beginning
on or after January 1, 1975.
ERISA does not require any
employer to establish a pension plan. It only
requires that those who establish plans must
meet certain minimum standards. The law generally
does not specify how much money a participant
must be paid as a benefit.
ERISA does the following:
Requires plans to provide
participants with information about the plan
including important information about plan
features and funding. The plan must furnish
some information regularly and automatically.
Some is available free of charge, some is
not.
Sets minimum standards for
participation, vesting, benefit accrual and
funding. The law defines how long a person
may be required to work before becoming eligible
to participate in a plan, to accumulate benefits,
and to have a non-forfeitable right to those
benefits. The law also establishes detailed
funding rules that require plan sponsors to
provide adequate funding for your plan.
Requires accountability of
plan fiduciaries. ERISA generally defines
a fiduciary as anyone who exercises discretionary
authority or control over a plan's management
or assets, including anyone who provides investment
advice to the plan. Fiduciaries who do not
follow the principles of conduct may be held
responsible for restoring losses to the plan.
Gives participants the right
to sue for benefits and breaches of fiduciary
duty. Guarantees payment of certain benefits
if a defined plan is terminated, through a
federally chartered corporation, known as
the Pension Benefit Guaranty Corporation.
What
are defined benefit and defined contribution
pension plans?
Generally speaking,
there are two types of pension plans: defined
benefit plans and defined contribution plans.
A defined benefit plan promises participants
a specified monthly benefit at retirement.
The plan may state this promised benefit as
an exact dollar amount, such as $100 per month
at retirement. Or, more commonly, it may calculate
a benefit through a plan formula that considers
such factors as salary and service - for example,
1 percent of average salary for the last 5
years of employment for every year of service
with an employer.
A defined contribution plan,
on the other hand, does not promise a specific
amount of benefits at retirement. In these
plans, the participant or the employer (or
both) contribute to the participant's individual
account under the plan, sometimes at a set
rate, such as 5 percent of their earnings
annually. These contributions generally are
invested on the participant's behalf. The
participant will ultimately receive the balance
in their account, which is based on contributions
plus or minus investment gains or losses.
The value of the account will fluctuate due
to changes in the value of investments. Examples
of defined contribution plans include 401(k)
plans, 403(b) plans, employee stock ownership
plans, and profit-sharing plans. The general
rules of ERISA apply to each of these types
of plans, but some special rules also apply.
A money
purchase pension plan is a plan that requires
fixed annual contributions from an employer
to a participant's individual account. Because
a money purchase pension plan requires these
regular contributions, the plan is subject
to certain funding and other rules.
What
are simplified employee pension plans (SEPs)?
An employer may sponsor a simplified employee
pension plan or SEP. SEPs are relatively uncomplicated
retirement savings vehicles. A SEP allows
employers to make contributions on a tax-favored
basis to individual retirement accounts (IRAs)
owned by the employees. SEPs are subject to
minimal reporting and disclosure requirements.
Under
a SEP, the employee must set up an IRA to
accept the employer's contributions. As a
general rule, the employer can contribute
up to 25 percent of the employee's pay into
a SEP each year, up to a maximum of $40,000.
Starting
January 1, 1997, employers may no longer set
up Salary Reduction SEPs. However, the Small
Business Job Protection Act of 1996 (Public
Law 104-188) permitted employers to establish
SIMPLE IRA plans beginning in 1997. A SIMPLE
IRA plan allows salary reduction contributions
up to $6,000 in 2001 ($7,000 in 2002).
If
an employer had a salary reduction SEP in
effect on December 31, 1996, the employer
may continue to allow salary reduction contributions
to the plan. Employees are generally permitted
to contribute up to 15 percent of pay, or
$10,500 for 2001 ($11,000 for 2002). SEP participants
may also be required to earn at least $450
(this number is indexed for inflation) (for
2001) to make salary reduction contributions.
What
are 401(k) plans?
Your employer may establish a defined contribution
plan that is a cash or deferred arrangement,
usually called a 401(k) plan. A participant
can elect to defer receiving a portion of
their salary which is instead contributed
on their behalf, before taxes, to the 401(k)
plan. Sometimes the employer may match their
contributions. There are special rules governing
the operation of a 401(k) plan. For example,
there is a dollar limit on the amount a participant
may elect to defer each year. The dollar limit
in 2001 is $10,500 ($11,000 in 2002). The
amount may be adjusted annually by the Treasury
Department to reflect changes in the cost
of living. Other limits may apply to the amount
that may be contributed on a participant's
behalf. For example, if the participant is
highly compensated, they may be limited depending
on the extent to which rank and file employees
participate in the plan. An employer must
advise participant's of any limits that may
apply to them.
Although
a 401(k) plan is a retirement plan, participants
may be permitted access to funds in the plan
before retirement. For example, if a participant
is an active employee, the plan may allow
them to borrow from the plan. Also, the plan
may permit a withdrawal on account of hardship,
generally from the funds the participant contributed.
The sponsor may want to encourage participation
in the plan, but it cannot make participants'
elective deferrals a condition for the receipt
of other benefits, except for matching contributions.
The
adoption of 401(k) plans by a state or local
government or a tax-exempt organization is
limited by law.
What
are profit sharing plans or stock bonus plans?
A profit sharing or stock bonus plan is a
defined contribution plan under which the
plan may provide, or the employer may determine,
annually, how much will be contributed to
the plan (out of profits or otherwise). The
plan contains a formula for allocating to
each participant a portion of each annual
contribution. A profit sharing plan or stock
bonus plan may include a 401(k) plan.
What
are employee stock ownership plans (ESOPs)?
Employee stock ownership plans (ESOPs) are
a form of defined contribution plan in which
the investments are primarily in employer
stock. Congress authorized the creation of
ESOPs as one method of encouraging employee
participation in corporate ownership.
When should participants expect to receive
distributions from their pension plans after
terminating employment?
Generally, the law requires plans to pay retirement
benefits no later than the time a participant
reaches normal retirement age. But, many plans,
including 401(k) plans, provide for earlier
payments under certain circumstances. For
example, a plan's rules may provide that participants
in a 401(k) plan would receive payment of
his or her benefits after terminating employment.
The plan's SPD or Summary Plan Description
should set forth the plan’s rules for
obtaining the distribution as well as the
timing of distribution after termination of
employment.
How long does a participant have to wait to
become a member of a pension plan and to become
vested in their benefits?
Generally, a plan may require a person to
reach age 21 to be eligible to participate
in the plan and to have a year of service.
Vesting means the employee has earned a non-forfeitable
right to benefits funded by employer contributions.
Employees always have a non-forfeitable right
to their own contributions.
Beginning
in 2002, there are two basic vesting schedules.
Under the three-year schedule, workers are
100% vested after three years of service under
the plan. The six-year graduated schedule
allows workers to become 20% vested after
two years and to vest at a rate of 20% each
year thereafter until they are 100% vested
after six years of service. Plans may have
faster vesting schedules.
What
protections do the fiduciary rules of ERISA
provide?
ERISA protects plans from mismanagement and
misuse of assets through its fiduciary provisions.
ERISA defines a fiduciary as anyone who exercises
discretionary control or authority over plan
management or plan assets, anyone with discretionary
authority or responsibility for the administration
of a plan, or anyone who provides investment
advice to a plan for compensation or has any
authority or responsibility to do so. Plan
fiduciaries include, for example, plan trustees,
plan administrators, and members of a plan's
investment committee.
The
primary responsibility of fiduciaries is to
run the plan solely in the interest of participants
and beneficiaries and for the exclusive purpose
of providing benefits and paying plan expenses.
Fiduciaries must act prudently and must diversify
the plan's investments in order to minimize
the risk of large losses. In addition, they
must follow the terms of plan documents to
the extent that the plan terms are consistent
with ERISA. They also must avoid conflicts
on behalf of the plan that benefit parties
related to the plan, such as other fiduciaries,
service providers, or the plan sponsor.
Fiduciaries
who do not follow these principles of conduct
may be personally liable to restore any losses
to the plan, or to restore any profits made
through improper use of plan assets. Courts
may take whatever action is appropriate against
fiduciaries who breach their duties under
ERISA including their removal.
When
must employers deposit withheld employee contributions
into a 401(k) plan or other pension plan?
Employers must transmit employee contributions
to pension plans as soon as they can reasonably
be segregated from the employer’s general
assets, but not later than the 15th business
day of the month immediately after the month
in which the contributions either were withheld
or received by the employer.
Can a pension be attached for family support?
In general, pension benefits cannot be taken
away from a participant by people to whom
they owe money. The law makes a limited exception,
however, when family support is at stake.
Thus, a state court can award part or all
of a participant's pension benefit to their
spouse, former spouse, child or other dependent
by issuing a qualified domestic relations
order, which must be honored by the plan.
The person named in such an order is called
an alternate payee. The court's order can
be in the form of a state court judgment,
decree or order, or court approval of a property
settlement agreement.
What
requirements must be met for a domestic relations
order to be qualified?
When a plan receives a domestic relations
order purporting to divide pension benefits,
it must first determine whether the order
is a qualified domestic relations order (QDRO).
The order must relate to child support, alimony,
or marital property rights and be made under
state domestic relations law. To be qualified,
the order should clearly specify your name
and last known mailing address and the name
and last address of each alternate payee.
It also must state the name of your plan;
the amount or percentage - or the method of
determining the amount or percentage - of
the benefit to be paid to the alternate payee;
and the number of payments or time period
to which the order applies. The order cannot
provide a type or form of benefit not otherwise
provided under the plan and cannot require
the plan to provide an actuarially increased
benefit. And if an earlier QDRO applies to
your benefit, the earlier QDRO takes precedence
over a later one.
In
certain situations, a QDRO may provide that
payment is to be made to an alternate payee
before the participant is entitled to receive
their benefit. For example, if the participant
is still employed, a QDRO could require payment
to an alternate payee to begin on or after
their earliest retirement age, whether or
not the plan would allow you to receive benefits
at that time.
Can
a plan be terminated?
Although pension plans must be established
with the intention of being continued indefinitely,
employers may terminate plans. If a plan terminates
or becomes insolvent, ERISA provides participants
some protection. In a tax-qualified plan,
a participant's accrued benefit must become
100 percent vested immediately upon plan termination,
to the extent then funded. If a partial termination
occurs in such a plan, for example, if an
employer closes a particular plant or division
that results in the termination of employment
of a substantial portion of plan participants,
immediate 100 percent vesting, to the extent
funded, also is required for affected employees.
What
is the role of the U.S. Department of Labor
in regulating pension plans?
The U.S. Department of Labor enforces Title
I of ERISA, which, in part, establishes participants'
rights and fiduciaries' duties. However, certain
plans are not covered by the protections of
Title I. They are:
Federal,
state, or local government plans, including
plans of certain international organizations.
Certain
church or church association plans.
Plans
maintained solely to comply with state workers'
compensation, unemployment compensation or
disability insurance laws.
Plans
maintained outside the United States primarily
for non-resident aliens.
Unfunded
excess benefit plans - plans maintained solely
to provide benefits or contributions in excess
of those allowable for tax-qualified plans.
The
U.S. Department of Labor's Employee Benefits
Security Administration is the agency charged
with enforcing the rules governing the conduct
of plan managers, investment of plan assets,
reporting and disclosure of plan information,
enforcement of the fiduciary provisions of
the law, and workers' benefit rights. For
more information, call EBSA's Toll-Free Employee
& Employer Hotline number at: 1.866.444.EBSA
(3272).
What
other federal agencies regulate plans?
The Treasury Department's Internal Revenue
Service is responsible for ensuring compliance
with the Internal Revenue Code, which establishes
the rules for operating a tax-qualified pension
plan, including pension plan funding and vesting
requirements. A pension plan that is tax-qualified
can offer special tax benefits both to the
employer sponsoring the plan and to the participants
who receive pension benefits. The IRS maintains
a taxpayer assistance line for employee plans
at 202.283.9516 (1:30-3:30 p.m. EST, Monday-Thursday).
The
Pension Benefit Guaranty Corporation, PBGC,
a non-profit, federally-created corporation,
guarantees payment of certain pension benefits
under defined benefit plans that are terminated
with insufficient money to pay benefits. The
PBGC may be contacted at:
Pension Benefit
Guaranty Corporation
1200 K Street NW
Washington, DC 20005-4026
Tel 202.326.4000
Toll free 800.400.7242
