Ahh, 401(k) eligibility.
We won’t go as far as saying this is the biggest pain in the posterior when it comes to 401(k) administration. But it is a pain. Our job today is to give you the information you need to make it a little less of one.
In this guide, we’ll walk you through everything you need to know to set yourself up for success with 401(k) eligibility. That’s…
Ready to get started? Let’s jump right in!
The almighty Internal Revenue Code mandates that 401(k) retirement plans abide by specific regulations for participant eligibility.
401(k) eligibility determines who can participate in your 401(k) retirement plan, when they can participate, whether or not they get employer contributions, and when they’re eligible to receive those contributions.
As you can imagine, 401(k) eligibility rules have pretty major implications for your plan’s success. They can make or break a plan - both in terms of the work required to run it (and avoid a compliance error), and in the overall success and usefulness of the 401(k).
Here are the top reasons why getting 401(k) eligibility right is so important:
Eligibility requirements can have a large impact on your 401(k) administration workload. A complex eligibility situation means more on your plate at the end of the day.
Eligibility requirements are often set with 401(k) nondiscrimination testing in mind. The requirements for being eligible to participate in a businesses 401(k) plan can help exclude employees who typically won’t participate (like young and part-time workers).
Let’s not sugarcoat the situation. The eligibility management process is a tedious and oftentimes manual process. Among other bureaucratic headaches, you have to deal with:
It’s a lot to stay on top of, and making a mistake is easier than you think.
For instance, if you fail to notify an employee of their eligibility, and they would’ve enrolled if they had known, your company might be on the hook to make what could be a sizable contribution to your employee’s retirement account.
And on top of that, the process of uncovering these mistakes (often during a 401(k) audit) isn’t much fun either.
Now that we have your attention, let’s dive into how 401(k) eligibility actually works.
When it comes to allowing employees into the plan, 401(k) eligibility requirements are allowed to be as lenient as you wish. However, the regulations of the Internal Revenue Code limit how restrictive plan eligibility can be. In general, there are two types of requirements that plans can impose on their employees:
An employee age requirement prevents employees under a specific age from participating in the plan.
The maximum age requirement: 21 years
What age requirements do other plans use? Here’s a breakdown from the IRS:
Instead of, (or in addition to) an age requirement, the IRS allows for a service requirement, which is an amount of time or number of hours within a certain period of time that an employee must have worked before they’re eligible for participation.
Service requirements can use a couple methods for determining eligibility: by the hours worked during a particular time frame, or by the time elapsed. These are calculated starting from the “employment commencement date” - when the employee began working.
The maximum service requirement: 1000 hours of time worked during a 12 month period, or if using the elapsed time method -12 months.
Here’s a breakdown from the IRS on how common different minimum service requirements are:
Service Requirement Caveat: If a plan opts for the time-elapsed method, then the plan is subject to “service spanning” rules. These rules mean that if an employee was hired, left without completing a year of service, and then returned after less than a year from their termination date - that employee would now be eligible for participation provided enough time has passed from their original date of hire and their return date.
Entry dates determine when, after attaining eligibility, the employees are able to be enrolled into the plan.
Though there aren’t specific requirements for your entry dates, these can have a greater impact on your 401(k) administration workload than any other aspect of 401(k) eligibility.
Frequent or immediate entry dates, for example (while attractive to participants), necessitate remembering and tracking a variety of dates and eligibility schedules. Naturally, the more employees you have, the more variation, and the more burdensome this ongoing task becomes.
There are also employee eligibility requirements to consider for employer contributions, whether matching or nonelective. When it comes to employer contributions, there are a few types of eligibility requirements:
As with simply enrolling into the plan, employers may set minimum age or service requirements that must be met before an employee is eligible to receive employer contributions. The maximum allowed age requirement is 21 years old. The maximum allowed service requirement is 1 year or 1 year with 1000 hours worked. However, if the employer contributions are 100% vested immediately, the maximum allowed service requirement is 2 years (although in this case, if there’s an hours worked requirement, that still must be met within the first 12 months of employment, or within any given plan year after that… leave it to the government to make things overly complex).
For any given year, employers also have the option of mandating that employees be employed on the last day of the year, or have worked a minimum number of hours that year in order to receive any employer contributions made that year.
Safe Harbor plans may not impose these additional requirements.
As with any other eligibility requirement, having these does add some complexity to your plan and can increase your administrative workload. Here’s a breakdown showing how common these types of requirements are:
Though 401(k) eligibility requirements put a lot of restrictions on who can be kept out of the plan (or for how long), there are several categories of employees that may be (and often are) outright excluded from participation. These may include:
A yet bigger problem (or at least, a bigger task) is the sending of 401(k) eligibility notices...
As we mentioned, a major part of the 401(k) eligibility workload is managing employee eligibility notifications (in addition to the regular annual or plan change notices). These notices, like most things involved with the operation of a 401(k), are many and tedious*:
*exactly how tedious this is, depends, among other things, on your entry dates.
In addition to sending these notifications prior to an employee’s eligibility into the plan, many of these notices must also be delivered annually, 30 days before the beginning of the new plan year.
The more simple your eligibility requirements, the less work it is to track and manage. Pretty self-evident, right?
Basically, age or service requirements add another element of employee information that must be tracked. If you mandate an age requirement, you have to track the ages of your employees (best double-check all those birthdates in your HRIS system).
With a service requirement, you will likely have to pull and cross-reference reports from your Human Resources Information System (HRIS) and/or payroll.
Want to keep things super-simple from an administrative standpoint? Go with the simplest eligibility requirements you can.
Dual eligibility cycles (for instance, one for enrollment, one for employer contributions) can help businesses tailor their plans to better fit their employee situation, but they also effectively double the work you need to do to track everything.
Often, businesses may also have different eligibility requirements (and plan offerings) for different types of employees. Full-time employees, for example, may be offered participation after only a month, while part-time employees (who are more likely to leave the business or not contribute to the plan) may be required to wait a year. Like with dual eligibility cycles, this means keeping track of two (or more) different eligibility systems and enrollment schedules, which means pulling at least 2 reports every time a plan entry date approaches.
When it comes to eligibility administration, employee 401(k) entry dates can actually have one of the biggest impacts on your workload (and just how insane it can be).
For example, immediate entry means that the exact date an employee becomes eligible depends on when they were hired. Which means you have to keep track of a different date for every employee - a situation that gets more overwhelming the bigger your business.
By contrast, you can set up monthly, quarterly or semi-annual entry dates. This essentially means that employees can only join at set days of the year, which drastically lowers the amount of reports you’d otherwise have to pull to stay on top of eligibility and send the required notifications on time.
Sidenote: Businesses change. And their 401(k) needs may change too. If your plan is already set up but struggling with administration & compliance, making amendments to the plan’s eligibility requirements may help lighten the workload.
As we mentioned, managing eligibility notices is an important project, and it’s easy to fall behind or slip up.
Help prevent this by creating your eligibility tracking reports at least 2 weeks in advance of the earliest notification deadline.
Doing things manually is all well and good - especially if you have a good process and lots of time on your hands.
For the rest of us though, thankfully, there’s a better way.
Some forward-thinking 401(k) providers are already offering automated eligibility tracking. They’ll essentially keep track of your employees - when they were hired, and when they become eligible - and will then send notices as required. As you can imagine, this can save you a lot of time and all but eliminate the risk of making a mistake.
Sound good? We think so too.
Next step: Ask your Third-Party Administrator or Recordkeeper if they offer an automation solution. Or...
Our All-In-One 401(k) Solution handles all the day-to-day busywork that goes into running a 401(k), including tracking eligibility and sending required notices.
Yep, that’s right! No more pulling employee eligibility spreadsheets. Just plug in your payroll and recordkeeper (a surprisingly quick process), then sit back, relax, maybe get yourself a Mai Tai, and then watch the new participants roll into the plan.
On top of making your life dramatically easier, with 3(16) Fiduciary Services, ForUsAll takes legal responsibility for plan administration, so we’re first in line if and when the DoL comes knocking. Schedule a quick, 10 minute demo of our solution today!
Like everything in 401(k) administration, eligibility is a lot to manage. But with knowledge about your plan design and a few best practices, you can keep things from getting out of control (or out of compliance).
And as always, if you have any questions about how you can make 401(k) administration simple and easy, feel free to reach out!
Give your employees more than just a 401(k), join the movement.