What is Automatic Enrollment?

Michael Totten
Michael Totten
Businesswoman talking on a mobile phone
Businesswoman talking on a mobile phone

Automatic enrollment is a 401(k) retirement plan feature that forces employees to opt out of the plan if they do not want to participate. If an employee does not pro-actively opt out, they are automatically enrolled in the plan. This means a percentage of the employee’s salary will be deducted as a contribution to the 401(k) plan. The percentage is referred to as the automatic enrollment default rate.

The purpose of automatic enrollment is to boost participation in retirement plans. Many industry insiders and lawmakers fear that most Americans are not saving enough money for retirement. As a response, plan provisions such as automatic enrollment that increase retirement plan participation are a key element of a general strategy to avoid a future crisis. Legislation has also been enacted to target employee retirement plan participation.

The way automatic enrollment works is that an employer will adopt the automatic enrollment provision, also known as an automatic contribution arrangement, in the company’s 401(k) plan. The provision specifies a default percentage that will be used for employees who do not opt out of the plan. A typical default percentage is 3%. Using that as an example, employees would have 3% of their salary deducted from their paychecks and deposited into the 401(k) plan on their behalf. The resultant benefit to the plan is greater participation, as many people will not take the necessary steps to cancel participation.

A requirement of an automatic enrollment feature is that employees must be given timely notice of the need to opt out if they do not want to be enrolled. The notice has to be provided at least 30 days before the date the employee is automatically enrolled. Also, a subsequent annual notice must be given to all plan participants at least 30 days before the beginning of each plan year.

Additionally, the plan must specify a default investment that participants who are automatically enrolled will be set up with in the event they do not select their own investments. Due to the liability potential of choosing a poor investment option for participants, legislation exists that provides some protection for employers. The legislation is called the Qualified Default Investment Alternative (QDIA) and it was enacted under the Pension Protection Act.

The QDIA allows employers to receive legal protection by choosing a default investment that meets the guidelines of the QDIA regulations. The primary relief for employers is that they will not be liable for any losses incurred due to market fluctuations.

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