Terminating a 401(k) plan is a complex process with several important considerations, and it's crucial to ensure it’s the right decision for your company. Depending on your circumstances, there may be alternatives to plan termination, such as changing or reducing employer contributions, increasing eligibility requirements, converting to a new 401(k) provider, merging with another plan, or freezing the plan.
If your company is undergoing a merger or acquisition, you should also consider the impact on the 401(k) plan before the transaction is completed.
If you would like to move forward with a plan termination, here is the information you should know about.
When can I terminate a 401(k) plan?
The IRS requires a 401(k) plan to be established with the intent to be ongoing. However, termination of a plan may be warranted in certain circumstances, such as a change in ownership, business circumstances, or legal requirements.
Some scenarios may also warrant mandatory plan termination, including company dissolution or the death or retirement of a sole proprietor.
Once a request to terminate is received by Guideline, the trustee will be required to sign and date a plan termination amendment via a task on their dashboard. Currently, only the trustee can complete the plan termination task. If necessary, you can find information about changing your plan’s trustee here.
The plan will remain active until all the required documents are completed and approved.
The termination process
Once we've received all signed documentation, our team will get started on the termination process as outlined below. It generally takes at least 90 days from the plan termination date to wind down the plan and distribute all assets, but complications like uncashed checks can extend the timeline.
Once the plan is terminated, the following steps apply:
Full vesting of all accounts:
Per IRS requirements, the account balances of all active and former participants affected by a plan termination will become fully vested, regardless of whether they’ve satisfied vesting service conditions. In addition, it is somewhat common for terminating plans to have experienced a partial plan termination in the recent past that would vest participants who may have already terminated. It is your responsibility to let us know if your plan has experienced a partial plan termination.
Participant notification of the plan’s termination:
Guideline will provide all participants with a notice that includes instructions on how to request a distribution of their assets. Note that although participants can request distributions, the request will be held and not processed until the account review is completed.
Final account review:
Any IRS required non-discrimination testing will be completed. A final account review will also be conducted to ensure all outstanding issues have been addressed and any required plan contributions have been made. A few things to be aware of if the plan’s termination is mid-year (prior to December 31):If the plan is safe harbor, it will be required to undergo ADP and, if applicable, ACP testing for the year of termination unless the plan sponsor is 1) operating at an economic loss as described in IRS Code Section 412(c)(2)(A) for the plan year; or 2) involved in transaction that results in becoming part of or ceasing to be part of a legally related group.
Employer contributions limits, including the annual additions limit and the annual compensation limit, will be prorated and may result in forfeitures and other corrections. In addition, self-employed owners will not be able to contribute to the plan for the year of termination. This is because self employed owners are deemed to earn income on December 31 of the applicable plan year (see IRS Reg. 1.401(k)-2(a)(6)(iii)) and if no income is earned for a plan year, no contributions can be made to the plan.
Process participant distributions and close the 401(k) trust:
Once the account review has been completed, our team will process participant distribution requests. Per your direction, we will transfer any remaining funds from participants who did not respond to our distribution requests or fail to cash the check related to a requested distribution within 90 days to an IRA at a third-party (or a taxable savings account, if applicable).
Final Form 5500 filing:
Guideline will prepare and file the final Form 5500. This must be filed no later than seven months after the trust account has been fully liquidated and cannot be filed before full liquidation.
How to prevent delays in the termination process
To help the termination process stay on track, please keep on eye on the following within your Guideline dashboard:
Pending tasks or notifications
It is important to stay up to date with all pending tasks and notifications and complete them as they are received. For instance, there may be tasks related to missing company or compensation information needed for compliance testing purposes.
Any outstanding required contributions can hold up the plan termination process and prevent Guideline from closing the trust account. Therefore, you’ll want to confirm that a valid and active bank account remains connected to the plan. Should you need to update your banking information, you can do so within the Settings section of your dashboard.
Billing
Please keep in mind that billing for monthly service fees will continue for up to three months from either the termination date or date of submission, whichever is later. However, billing will not continue past the service end date. You can learn more about how billing works for terminating plans here.