At the end of 2022, President Biden signed the second major piece of retirement plan legislation in the past three years, the Setting Every Community Up for Retirement Enhancement 2.0 Act of 2022 (SECURE 2.0), which was generally intended to increase retirement savings for Americans. As is typical with tax and retirement plan legislation, the effective dates for many provisions were delayed to facilitate orderly implementation of the changes. This article highlights several of the significant changes that are effective in 2025 and 2026.
Catch-Up Contribution Changes
Tax Code Section 414(v) permits (but does not require) retirement plans to allow employees in 401(k), 403(b) and governmental 457(b) plans who are age 50 or older to make additional “catch up” contributions ($7,500 in 2025) that are in addition to regular salary deferral contributions. Prior to 2026, catch up contributions can be made on a pre-tax basis, or if post-tax Roth contributions are permitted by the plan, on a Roth basis. SECURE 2.0 made two significant changes to catch up contributions.
Under Section 603 of SECURE 2.0, for tax years beginning after 2023 catch-up contributions must be made on an after-tax Roth basis if made by employees whose FICA wages for the preceding calendar year from the employer sponsoring the plan exceeds $145,000, as annually indexed for inflation. However, in August of 2023, the Treasury Department and the IRS in Notice 2023-62 provided for a two-year administrative transition period due to the administrative complexity of the implementation of the change. The transition period will end on January 1, 2026 so employers need to start preparing this year for the change.
In addition, Section 109 of SECURE 2.0 amended Section 414(v) effective for plan years beginning after December 31, 2024 to permit employees who are ages 61 to 63 at any point in the year, to make even larger catch-up contributions equal to the greater of $10,000 (indexed to $11,250 in 2025) or 150 percent of the regular catch-up amount. Employees who turn age 64 at any point in a year have their limit revert back to the regular catch-up amount. Thus, for 2025, a 61 year old employee can make a regular contribution of $23,500 plus the above referenced $11,250 catch up contribution. On January 10, 2025, the IRS issued proposed regulations that provide guidance on numerus aspects of the new catch-up rules that will be effective in 2025 and 2026 including confirming that offering the higher catchup limit for employees ages 61 to 63 is optional.
Optional Roth Matching Contributions
Section 604 of SECURE 2.0 allows employers to offer employees the ability to elect to receive employer matching contributions as pre-tax or after-tax Roth contributions. Although this optional provision has been available since 2023, implementation has been delayed while plan service providers awaited IRS guidance on multiple issues. As service providers will be building out the necessary system capabilities to enable implementation of the Roth catch-up contribution changes, this will likely become a viable option for more employers in 2025 and 2026.
Part-time Employee Participation in Section 401(k) and 403(b) Plans
In order to increase retirement savings for a segment of the workforce, both SECURE 2.0 and the earlier 2019 SECURE 1.0 liberalized the eligibility rules for part-time employees. The legislation created an exception to the existing rule that an employer may require as much as 1,000 hours of service in a 12-month period in order for an employee to become eligible for a Section 401(k) or 403(b) plan. Under SECURE 2.0 employees who are credited with at least 500 hours of service in two consecutive 12-month eligibility computation periods (“long-term part-time employees”) for plan years beginning after December 31, 2024. Thus, any long-term part-time employee who worked the required 500 hours in 2023 and 2024 became eligible on January 1, 2025.
We have worked with multiple employers unaware of this new requirement as part-time employees are sometimes viewed as ineligible for all benefits based on expected weekly work schedules of under 30 hours a week that nevertheless result in the employee working well above 500 hours a year. It is critical that employers track hours worked for all part-time employees even those that are expected to work limited schedules or on limited duration assignments. Under existing IRS plan correction guidance, employers who fail to enroll employees in 401(k) or 403(b) plans are required to correct the error by (i) contributing on the employee’s behalf as though the employee made deferral contributions, and (ii) contributing any employer matching contribution for which the employee would have been eligible.
Automatic Enrollment
Section 101 of SECURE 2.0 Act added Tax Code Section 414A which generally provides that effective January 1, 2025, employers who established new Section 401(k) and 403(b) plans after December 29, 2022 must automatically enroll all employees at an initial contribution rate of at least 3% of the employee’s pay and automatically increase the initial contribution rate by one percentage point each year until it reaches at least 10% of pay. Employees can change the rate of contribution or completely opt out so that the requirement should not be interpreted as mandatory participation. On January 10, 2025, the IRS issued proposed regulations which address numerous aspects of the automatic enrollment requirement including the exception from the requirement for new and small businesses (fewer than 11 employees), church plans, and governmental plans.
Other Retirement Plan Changes
Lastly, SECURE 2.0 permits, but does not require employers to (i) treat student loan payments by employees as elective deferrals so that employees can still receive a matching contribution without making a salary reduction contribution, and (ii) offer multiple retirement plan withdrawal options including limited withdrawals for emergency expenses of up to $1,000 and a $10,000 withdrawals by employees who are victims of domestic abuse. Employers have been slow to adopt these options, but they may be attractive to certain employers.
Irrespective of whether a retirement plan provision is required or optional, it is important for employers and those who advise them to work closely with retirement plan service providers to correctly implement and administer the mandatory and optional changes described in this article.