Late in 2022 and just before the new year, the US Congress passed a bill known as “SECURE 2.0” in what has been described as one of the biggest changes to how Americans save for retirement in recent years.
The scope of the bill is large – it impacts individuals, employers, and businesses who participate in the retirement savings market. At a high-level, the law seeks to address key challenges in the retirement savings system, including:
Whether the law ultimately succeeds depends on implementation and take-up. Here’s a rundown of some of its most important measures and how they could affect you.
To date, employers have not been required to auto-enroll employees in retirement plans (though some have voluntarily done so). Under SECURE 2.0, this changes; now, businesses implementing new 401(k) or 403(b) plans will be required to automatically enroll eligible employees with a minimum contribution of at least 3% of their salary. Over time, that default contribution amount will increase by one percentage point each year until it reaches a minimum of 10% but no more than 15% of the employee’s salary. There are some exceptions, including very small employers that will not be required to enroll employees.
In addition to requiring auto-enrollment for more employers, the bill increases incentives for small businesses to offer retirement plans in the form of a tax credit. The tax credit is now 100% of all administrative costs associated with the retirement account instead of 50% previously, though only companies with 100 or fewer employees qualify.
Another change that could benefit employees with low balances is optional auto-portability, which essentially means employees may be able to have their old 401(k) automatically moved to their new employer’s plan. However, this option will only be available for balances below $7,000 and employees must be given notice and have the ability to opt out.
RMDs – or required minimum distributions – are the mandatory withdrawals from 401(k)s once you reach a certain age. Before SECURE 2.0, savers were required to begin taking RMDs from their 401(k) accounts at age 72. Under SECURE 2.0, the age at which RMDs must be taken increases to 73 in 2023 and to 75 in 2033. In addition, starting in 2024, investors in Roth 401(k) accounts will no longer be required to take RMDs at any point.
Since before SECURE 2.0, savers over the age of 50 have benefitted from higher contribution limits (though not unlimited) to retirement accounts; this allows savers to “catch up” in later years if they’re not financially ready for retirement yet. SECURE 2.0 raises the limit so that older savers can contribute more. For IRAs, the contribution limit will now rise along with inflation (instead of being stuck as it is currently). For 401(k)s, SECURE 2.0 is most impactful for those between ages 60 and 63; they benefit from a “special catch up” that can be as high as 150% of the standard catch up contribution limit – that would be almost $10,000 in 2025 when this goes into effect.
SECURE 2.0 tasks the Department of Labor (DOL) with creating a new database to assist workers in finding retirement accounts, including 401(k)s, that they may have forgotten about when switching jobs. While this may sound like a silver bullet, it won’t magically solve the problem of forgotten accounts: the database will just contain contact information for plan administrators and the individual will still have to go through a lengthy process to reclaim and rollover those assets. The law stipulates that this database will be available for use within two years, though exact details and timelines are not yet known.
One little known dynamic of the 401(k) market is that employees who leave a company can have their 401(k) automatically transferred without their consent, sometimes referred to as a forced rollover (technically called a “mandatory distribution”) to a “safe harbor” IRA by their employer if their balance is below a certain threshold. Previously, this threshold was $5,000, but SECURE 2.0 raises it to $7,000.
SECURE 2.0 aims to fix a few shortcomings of our retirement system – but it’s not yet clear whether it’ll make a dent or not. There are a few specific areas where the new provisions may fall short in their goals.
Auto-enrolling employees in 401(k)s and other similar accounts is generally a good idea – there’s good evidence that it works to increase retirement savings levels from other countries. But it doesn’t do anything to help those Americans who don’t have access to an employer sponsored 401(k) in the first place. There are approximately 30% of private sector workers who don’t have access to a 401(k) because their employer doesn’t offer one (for some industries this number is far lower – it’s only 42% for the service industry). This is probably the single greatest criticism of the law – if anything, it might not go far enough to help improve retirement savings in the US.
A “lost and found” for left behind 401(k) and other retirement accounts is a great idea. But the law currently imagines this as a directory with plan sponsor contacts. It doesn’t help Americans roll over those assets, which is typically the most painful part, and leaves much of the work to the individual. That’s why so many Americans cash out or leave accounts behind in the first place – the rollover process is confusing and burdensome, so millions of people just don’t do it every year.
While a lost and found directory is a good start, it’s by no means a solution to the forgotten 401(k) problem. Similarly, the optional auto-portability provisions are a helpful step in allowing certain individuals to more easily roll over a 401(k) to a new 401(k), but they do nothing for the many more millions of Americans who seek to roll over into individual retirement accounts (IRAs). These are both steps in the right direction, but they may be too incremental to have a big impact.
While automatic rollovers can help employers offboard “smaller balance” accounts from their 401(k) plans and can potentially prevent people from “cashing out,” they can also create confusion and additional work for 401(k) accountholders to ultimately track down and reclaim their money.
In addition, one unfortunate aspect of automatic rollovers is that an individual’s money has to be transferred into a low-returning investment like a money-market mutual fund in order to qualify as a “safe harbor IRA”. While rates have recently gone up providing some return to these funds, in the past they have earned very little while incurring administrative fees that resulted in lower balances than would otherwise have been obtained by leaving the money in a 401(k).
Increasing the number of 401(k)s that are subject to these automatic rollovers may thus end up being a double-edged sword.
Delaying RMDs may seem like a straightforward win for savers – and in many cases, it is. However, there is one potential downside of this: it may encourage people to delay using their saved up funds from 401(k)s and instead start taking Social Security benefits earlier.
If you wait to take Social Security until age 70, you can maximize the value of your Social Security benefits; conversely, taking Social Security earlier means you receive less in each check. Many financial advisors suggest waiting as long as possible to take Social Security to get the maximum value of the benefit over time. As a result of SECURE 2.0, it’s possible that further extending the minimum age for RMD will encourage more people to take social security earlier because they know they can hold their retirement funds in a tax advantaged 401(k) for longer. If this means more people take Social Security before age 70, they’ll actually be settling for less Social Security with no guarantee that they’ll make up for it with a delayed RMD from a 401(k). Another side effect of delaying RMDs is that the tax burden of those RMD would increase as the account balance increased – the larger the balance, the more must be withdrawn under RMD rules, meaning the tax burden would also increase.
At Capitalize, we’re excited whenever there are efforts taken to improve the retirement savings system. We know it’s full of challenges for Americans from figuring out how much to save, what to invest in, or how to transfer our assets as we change jobs over time. While SECURE 2.0 makes improvements in a few key areas, other changes seem too incremental to make a big impact. Technology and private sector innovation will need to play a large role in saving many of the challenges Americans face today.