The current rollover process for 401(k) plans favors distributions to individual retirement accounts rather than the 401(k) plan that a new employer might offer, and a new government report suggests the Internal Revenue Service and the Labor Department could be doing more to make the process easier.
Typically 401(k) plan participants who leave their employers must decide what to do with their plan savings. Many decide to roll over their plan savings to IRAs, and there is concern that participants may be encouraged to choose rollovers to IRAs in lieu of options that could be more in their interests.
Among the factors contributing to the complexity are long waiting periods to roll over a 401(k) into a new employer plan, along with complex verification procedures to ensure the savings are tax-qualified, wide divergences in the paperwork for the plans, and inefficient practices for processing rollovers. Those factors combine to make IRA rollovers an easier and faster choice, especially since IRA providers often offer assistance to plan participants when they roll their savings into an IRA.
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Plan participants often receive guidance and marketing favoring IRAs when seeking assistance regarding what to do with their 401(k) plan savings when they separate from their employers, the report noted. The GAO found that service providers’ call center representatives encouraged rolling 401(k) plan savings into an IRA even when they had only minimal knowledge of a caller’s financial situation. Participants might also interpret the information they find in their plans’ educational materials about their plan service providers’ retail investment products as suggestions to choose those products.
The Labor Department’s current requirements do not sufficiently assist participants in understanding the financial interests that service providers may have in participants’ distribution and investment decisions, the GAO noted.
In addition to being subject to inefficient rollover processes and the marketing of IRAs, 401(k) plan participants separating from their employers may find it difficult to understand and compare all their distribution options. The information that participants currently receive about the plans is either too generic and without detail, leaving plan participants without an understanding of the key factors they need to know to make decisions about their savings. The information also may be too long and technical, leaving plan participants overwhelmed and confused. Labor Department regulations do not ensure that 401(k) plans provide complete and timely information to participants on all their distribution options. Industry experts told the GAO that participants could benefit from simplified, concise and standardized information.
The GAO recommended that the Labor Department and the IRS should take steps to reduce the obstacles and disincentives to plan-to-plan rollovers. For example, the report suggested that the IRS should revise its rules that allow plans and providers to send direct-rollover distribution checks to individuals rather than to the receiving entities to which the checks are written. The IRS and the Labor Department should also work together to communicate to plan sponsors the IRS's guidance on the relief from tax disqualification provided for plans that accept rollovers later determined to have come from a plan that was not tax qualified, the report recommended. The Labor Department should also ensure that participants receive complete and timely information, including enhanced disclosures, about the distribution options for their 401(k) plan savings when separating from an employer.
In response, the Labor Department and the Treasury Department generally agreed with the GAO’s findings and indicated they would explore ways to implement the recommendations.
