Many organizations rethink every significant expense when cash flow gets tight. This often includes contributions to 401(k)s or other retirement plans. Recently, under broader cost cutting efforts, several large employers have reduced or temporarily suspended their 401(k) matches.
In such times, you may also consider eliminating your match as a small or midsize employer. However, this decision doesn’t come without planning and diligent research. Determine what changes you’re allowed to make and whether a less drastic adjustment could achieve the necessary savings before doing anything.
Review Your Plan Document
The concept behind employer matches is simple. You motivate employees to participate in a retirement plan by promising to match their contributions up to a certain percentage. For example, an organization might contribute 50 cents for every dollar participants defer from their salaries, up to 6% of pay.
Depending on the plan’s terms, you may have the flexibility to discontinue matching. But you’ve got to be sure. Some plan types require specified employer contributions. For instance, safe harbor 401(k) plans and Savings Incentive Match Plans for Employees (SIMPLEs) generally require either matching or nonelective contributions. Safe harbor 401(k)s also restrict certain midyear changes and may require advance notice to participants.
Bottom line: Don’t assume you can discontinue matches — even temporarily — just because you need to cut costs. Before making a change, review the plan document and consult your third-party administrator and other professional advisors. Mishandling the process can result in corrective contributions, additional administrative costs, and frustrated participants.
Look Beyond Immediate Savings
Discontinuing your match can improve near-term cash flow, but the full financial impact may be hard to measure and largely negative. Participants typically view matching contributions as part of their total compensation. So, eliminating them may hurt morale — especially if you announce the change abruptly or it appears inconsistent with other organizational spending.
The decision can also make recruiting more difficult. It may even inspire current employees to accept competing job offers, and replacing a valued worker could cost more than preserving the match. So, compare the expected savings with potential cost increases associated with hiring and turnover.
Plan testing warrants attention, too. Traditional 401(k)s generally must undergo annual nondiscrimination testing to verify that contributions for owners and other highly compensated employees aren’t disproportionately large compared with those for rank-and-file participants. Discontinuing your match could discourage entry- and midlevel earners from participating or cause them to contribute less. That could make it more difficult for the plan to pass its tests and limit how much highly compensated employees can contribute.
Explore Other Options
If you absolutely need to cut costs, consider reducing rather than eliminating your match to preserve at least some of its value to employees. Depending on what’s allowed under your plan document, you may be able to lower the matching rate or reduce the percentage of compensation eligible to be matched.
Business owners may want to explore whether a discretionary profit-sharing contribution would be more feasible. Unlike regular matches, profit-sharing contributions aren’t directly connected to employee salary deferrals. If permitted by the plan, sponsors can generally decide from year to year whether to make one and, if so, how much to contribute. This approach may allow the business to reward participants in more lucrative years without committing to the same expense when it’s anticipating a more difficult 12-month stretch.
In addition, if your plan allows employer matches to be subject to a vesting schedule, look into whether and how you can make adjustments. Required safe harbor and SIMPLE contributions are generally fully vested, but matches under some traditional 401(k) plans may become vested over time. A permissible vesting schedule helps support retention and limit the negative cost impact of matching the salary deferrals of employees who work for the organization for only a short time.
Keep in mind, changing a vesting schedule generally can’t reduce participants’ vested rights in benefits they’ve already accrued. Also, job candidates may find a stricter schedule less appealing.
Do Your Due Diligence
Your employer-sponsored retirement plan should support both your organization’s workforce strategy and financial performance. Although there’s certainly no harm in reevaluating your approach to matching, perform careful due diligence, and consider alternatives before making a move. We can help you model the cost of various contribution formulas and analyze the tax and cash-flow effects of any change. Contact our employee benefit plan team.
