Leveraging Forfeitures for Enhanced Retirement Plan Management
In a climate marked by the relentless surge of inflation, fluctuating interest rates, and the ever-mounting expenses associated with conducting business operations, individuals and businesses are earnestly exploring avenues to optimize their financial resources. One option that is often overlooked is the strategic handling of forfeiture money within the company’s retirement plan.
Forfeitures occur when a terminated participant requests a distribution from the Plan and a portion of their account is not yet fully vested. A distribution is issued for the vested balance and the amount left behind is called a forfeiture. Forfeiture money will typically be placed in a suspense account within the Plan’s accounting system.
Let us consider a hypothetical scenario. A terminated participant has a total account balance of $1,000 and is 60% vested ($600). The remaining $400 is non-vested. The terminated participant will receive $600 as a distribution and the $400 of non-vested money will be forfeited and placed in a suspense account.
Plan Sponsors then have some latitude in how they use the forfeitures but there are significant timing restrictions. The Plan Documents include specific provisions for the use of forfeiture money. Broadly speaking, the IRS's position is that the Plan Sponsor is to use the forfeiture suspense account within a prescribed time period and not accumulate the funds year after year, even if it is a small forfeiture.
Plan sponsors can generally use the forfeiture money in 3 ways:
Pay allowable plan expenses;
Reduce or offset employer contributions in the current or following plan year; or
Add to employer contributions and reallocate to remaining participants.
Forfeitures may not be used to fund employee elective deferral contributions or participant loan payments with have been withheld from the employee’s compensation.
The following list is plan-related expenses for which the forfeiture account can be used:
Annual administration, including recordkeeping, compliance testing, and Form 5500.
Annual audit fees for an independent audit for large plan filers over 100 participants.
Investment management and advisory services, custodial fees, and trustee fees.
Mandated plan amendments and periodic restatements.
Premiums on the plan’s ERISA fidelity bond policy.
There are certain expenses which, by the nature of the service being provided, are deemed as Settlor Functions. This includes expenses which are not a direct benefit to the plan participants. It is of paramount importance to emphasize that such expenses should not be funded through the plan’s forfeiture account:
Discretionary plan amendments and the initial preparation of the plan document.
Plan illustrations and proposals for the purpose of evaluating potential changes to the plan design.
Fees and expenses in connection with plan corrective contributions, lost earnings, or other penalties associated with operational failures.
Many recordkeeping companies have specific forms to be completed to facilitate the use of the forfeiture account for payment of reasonable plan expenses or to offset and reduce the employer contribution funding. Your plan’s third-party administrator (TPA) can assist you and help navigate the processes involved in using the forfeiture suspense account.
In summary, plan sponsors can reduce plan-related expenses and contribution costs by strategically using the plan’s forfeiture account.