Understanding Corrective Distributions: A Guide for Retirement Plan Compliance
For companies that offer a retirement plan as part of their employee benefits package, annual non-discrimination testing is an annual exercise to ensure equitable benefits for all employees. These compliance tests verify that highly compensated employees (HCEs) and non-highly compensated employees (NHCEs) benefit reasonably from the retirement plan. Failure to meet these requirements can result in Corrective Distributions, impacting both the company and its employees.
What are corrective distributions?
Corrective Distributions occur when a retirement plan fails non-discrimination compliance testing. These tests compare the average contribution rates between HCEs and NHCEs. If the HCEs contribute significantly more than NHCEs, exceeding a 2% gap, the company must initiate Corrective Distributions. This requires HCEs to receive a refund of part of their contributions, depending on the degree to which the plan failed. While intended to ensure fairness, this process can be complex and disruptive.
Why do corrective distributions matter?
Increased administrative burden
Corrective Distributions require additional time and resources. After identifying the amount necessary to correct the failure, the company must coordinate with affected employees to process these refunds. This process can strain HR teams and delay other priorities, adding costs and time.
Impact on HCE retention
Corrective Distributions can reduce the value of the retirement benefit for HCEs, limiting their ability to save as much as planned and receive the tax benefits. Over time, this diminished benefit may impact retention among highly compensated employees, especially if they feel their contributions are restricted.
How OpenPlan can help with compliance and corrective distributions
Non-discrimination testing and Corrective Distributions can be challenging for any business. The OpenPlan approach is to create customized solutions that help companies pass compliance testing while optimizing benefits for all employees.
One way to pass compliance testing is to install safe harbor provisions on a plan, but those require a significant commitment of employer contributions. An effective way to pass compliance testing without adding extensive employer contributions is to raise the contribution rates of NHCEs through engagement and education. We work closely with our clients to design strategies that fit their unique employee demographics, budget, and company goals.
Not every solution is suitable for every company. OpenPlan provides tailored plan design consulting, ensuring our recommended strategies are effective for each client’s situation. From plan adjustments to ongoing compliance oversight, OpenPlan offers a suite of services to make managing retirement plans easier and more effective for companies:
- Investment Fiduciary Services: We take on the ownership and liability of selecting and monitoring fund options and model portfolios, acting as a trusted investment fiduciary.
- Vendor Management and Benchmarking: We oversee recordkeeper and administrative partners, regularly benchmarking all vendors, including ourselves, seeking to ensure top performance and value.
- Financial Wellness Benefits: Besides broad-based education, employees gain unlimited 1:1 access to our Advisor Support team of licensed financial professionals, who can answer questions and offer guidance tailored to each employee’s unique financial situation.
Corrective distributions may be necessary when non-discrimination tests fail, but they don’t have to become a recurring issue. By proactively working to increase NHCE engagement and contributions, companies can meet compliance requirements and enhance their retirement benefits for all employees. OpenPlan’s comprehensive support in plan design, compliance, and employee financial wellness helps ensure a balanced, beneficial retirement plan for everyone.
Ready to streamline your compliance process and improve your retirement plan’s performance? Contact OpenPlan today to learn more about our customized solutions.
This content is for informational and educational purposes only and should not be construed as individualized advice or a recommendation for any specific product, strategy, or course of action. Brighton Jones, its affiliates, and employees do not provide personalized investment, financial, tax, or legal advice through this communication. This material is not intended to, and does not, create a fiduciary relationship under ERISA or any other applicable law. For individualized advice tailored to your specific circumstances, please consult with your adviser.
