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Glossary of Retirement Plan Terms

Retirement Plan Terms

A collection of retirement terms with simple definitions and examples to help you navigate retirement plans and understand them better.

401(k) Plan:

A defined contribution profit sharing plan that gives employees the option of reducing their taxable salary/wages by making pre-tax contributions to the plan.

403(b) Plan:

A retirement plan similar to a 401(k) plan that is available to certain tax-exempt organizations and to public schools.

404(c):

Internal Revenue Code Section permitting the plan sponsor to provide certain information and fund choices so participants can make informed decisions about their retirement plan investments, thereby reducing the plan sponsor’s liability for choices made by participants.

Account Balance:

Amount of funds held in a qualified retirement plan on behalf of an employee eligible for the plan. A participant’s account balance will increase with investment earnings and contributions, and decrease with investment losses and withdrawals from the trust.

Accrued Benefit:

In a defined benefit plan, the portion of a participant’s projected normal retirement benefit he has earned based on his salary/wages and years of service to-date. Once earned, a participant’s accrued benefit cannot be reduced, and once vested, it cannot be forfeited.

Active Plan Participants:

Individuals currently participating in an employer-sponsored retirement plan.

Actual Contribution Percentage (ACP) Test

Nondiscrimination test similar to the Actual Deferral Percentage (ADP) Test, but designed to include employer match contributions and any after-tax contributions employees make.

Actual Deferral Percentage (ADP) Test

Nondiscrimination test that compares average Non Highly Compensated Employee (NHCE) salary deferral percentages to the average for the Highly Compensated Employees.

Adoption Agreement:

The written document used for designating which provisions in a master or prototype plan apply to a given retirement plan. The plan document executed by the Employer and the Trustee(s) adopting the plan.

Allocation Formula:

A mathematical formula or method used to divide the employer’s contribution among eligible participants in a defined contribution plan. The allocation formula is set forth in the adoption agreement or written plan document.

Anti-cutback Rules:

Rules that state that once a participant has accrued a benefit or has received a contribution, the benefit or contribution cannot be reduced. Future reductions in accruals or contributions can be made, however, with advance notice to participants and beneficiaries.

Asset Allocation:

An investment strategy that aims to balance risk and reward by dividing a portfolio’s assets across various asset classes according to an individual’s goals, risk tolerance, and investment horizon. Stocks or equities typically offer the best long-term growth potential but can be volatile over short time periods. Bonds or fixed-income have less growth potential but are also less volatile and good for preserving capital.  Cash-based assets are relatively risk-free but also offer the lowest returns.

Auto-Enrollment:

Automatically enrolling eligible employees in a plan and initiating participant deferrals without requiring the employees to submit a request to participate.

Auto Increase / Step-Up:

Allows an eligible employee to increase his or her contribution rate at a pre-established point-in-time.

Beneficiary:

Any individual(s) or legal entity designated to receive any benefit under the plan upon the death of a participant.

Bundled Plan:

A “package deal” which includes plan investment management, administration, participant education, and recordkeeping services for a 401(k), pension, or profit sharing plan by one service provider. This is in contrast to a traditional, un-bundled approach in which the employer hires independent providers to handle each aspect of these services.

Catch-up Contributions:

For a participant who has reached age 50 or older, that portion of the participant’s 401(k) deferral contributions that would otherwise exceed any statutory or plan limit, or cause the Actual Deferral Percentage (ADP) Test to fail.

Clean Shares:

Clean shares were created in 2017 to comply with new regulations spelled out by the Fiduciary Rule. They help to improve transparency for mutual fund investors by providing a single uniform price across the board. This cuts down on brokers and financial advisors recommending more expensive fund options to clients to collect higher commissions.

Compliance Testing:

Numerical measurements or “tests” required by the IRS to demonstrate that a plan satisfies the Internal Revenue Code and regulations with respect to minimum contributions and benefits on behalf of participants, as well as maximum contributions and tax deductions by employers.

Coverage Gap:

A problem facing many Americans who do not have access to a retirement plan through their employer. Since people rarely save outside of organized savings mechanisms, those without coverage do not accumulate retirement assets and are unprepared when entering retirement. Many small businesses don’t sponsor retirement plans due to costs, cumbersome administration rules, and fear of fiduciary liability.

Custodian:

The bank, trust company, or broker that maintains a retirement plan’s assets, including its securities or some record of them. Custodians provide safekeeping of securities, but generally, have no role in the investment management of the trust.

Defined Benefit Plan:

This type of plan, also known as the traditional pension plan, promises the participant a specified monthly benefit at retirement. Often, the benefit is based on factors such as salary, age, and the number of years worked for the employer.

Defined Contribution Plan:

Unlike a defined benefit plan, a defined contribution (DC) plan does not promise a specific benefit at retirement. In a defined contribution plan, the employee and/or the employer contribute to the employee’s individual account under the plan. The employee often decides how their accounts are invested. The amount in the account at distribution includes the contributions and investment gains or losses, minus any investment and administrative fees. The contributions and earnings are not taxed until distribution. The value of the account will change based on the value and performance of the investments.

Determination Letter:

A document issued by the IRS regarding the qualified status of a retirement plan. If a retirement plan is qualified, monies invested in the plan remain tax-deferred until they are distributed. A determination letter may be issued on the plan’s initial qualification when the plan is first established, or when the plan is amended or terminated.

Discrimination Testing:

To meet Internal Revenue Service guidelines, every qualified retirement plan must pass a series of numerical measurements each year, known as discrimination tests, to make sure that a plan benefits both highly compensated and non-highly compensated employees fairly.

Elective Deferrals:

Any employer contributions made to the plan at the election of a participant, in lieu of cash compensation, including contributions made pursuant to a salary reduction agreement or other deferral mechanisms.

Eligible Plan Participants:

Employees who are eligible to participate in and receive benefits from a plan.

Employee Benefits Security Administration (EBSA):

The branch of the Department of Labor responsible for overseeing retirement plans.

Employer Contribution:

A contribution made by the company to the account of the participant (often a company match based in ratio to contributions made by the participant).

Employer Deduction:

The tax deduction an employer receives for contributions made to a qualified retirement trust, provided the contributions satisfy statutory limits and are made by the due date for filing the employer’s federal income tax return (with extensions).

Employer Matching Contribution:

The amount that an employer contributes to employees’ 401(k) accounts to encourage/reward them for making employee deferral contributions to the plan. Matching contributions are typically a set percentage of an employee’s deferral contributions up to a fixed limit.

Enrollment Date:

The date on which an employee who has satisfied a 401(k) plan’s eligibility requirements may begin making employee deferral contributions to the plan. Some plans allow for automatic enrollment, meaning an employee who has met the plan’s age and/or service requirements will have a minimum employee deferral contribution deducted from his paycheck each pay period unless he makes a specific election to not be enrolled in the plan, or to contribute an amount different than the automatic minimum.

Entry Date:

The date as designated in the adoption agreement on which an employee may become an active participant in the plan after meeting the eligibility requirements specified in the adoption agreement.

ERISA:

Employee Retirement Income Security Act. ERISA, passed in 1974, is a comprehensive package that sets standards of protection for individuals in most voluntarily established, private-sector retirement plans. ERISA includes requirements on pension disclosure, participation standards, vesting rules, funding, and administration. A Federal law  ERISA requires plans to provide participants with plan information, including important facts about plan features and funding; sets minimum standards for participation, vesting, benefit accrual, and funding; provides fiduciary responsibilities for those who manage and control plan assets; requires plans to establish a claims and appeals process for participants to get benefits from their plans; gives participants the right to sue for benefits and breaches of fiduciary duty; and, if a defined benefit plan is terminated, guarantees payment of certain benefits through a federally chartered corporation, known as the Pension Benefit Guaranty Corporation (PBGC).

ERISA Bond:

A fidelity bond to provide protection to the plan against loss by reason or acts of fraud or dishonesty on the part of the plan’s bonded officials (every fiduciary and every person who handles funds or other property of the plan).

Expense Ratio:

An investment option’s total annual operating expenses expressed as a percentage of assets.

Fiduciary:

A person who exercises discretionary control over the assets of another party and has a responsibility to that party. The Plan Administrator, the Trustee, and any other person who has discretionary authority or control in the management of the plan or the disposition of trust assets.

Fiscal Year:

The employer’s accounting period (or tax year).

Form 5500:

ERISA requires the Plan Administrator to file an annual report disclosing information relating to the plan’s qualified status, financial condition, and operation. Annual reports are filed on the Form 5500 series.

Frozen Plan:

A qualified plan that does not permit continued accruals of benefits or additional contributions for existing employees. , The entry of new plan participants is not allowed.

Hardship Withdrawal:

A withdrawal permitted under a 401(k) plan or 403(b) plan if the participant has an immediate and heavy financial need and no other resources available to meet that need. Reasons for a hardship withdrawal:

• medical expenses which the participant, his spouse, or his dependents incur;

• purchase of the participant’s principal residence;

• payment of tuition for the next 12 months of post-secondary education for the participant, his spouse, or his dependents; or

• to prevent eviction from or foreclosure on the participant’s principal residence.

• payments for funeral or burial expenses for a deceased spouse, parent, child or dependent

• expenses to repair damages to a principal residence that would qualify for a causality loss deduction

Highly Compensated Employee (HCE):

An employee who received more than $120,000 (indexed) in compensation during the last plan year or owns more than 5% of the company.

Integration:

A retirement plan design in which projected Social Security benefits are taken into consideration in the allocation or benefit formula. Since Social Security provides a greater benefit (as a percentage of annual pay) to lower paid employees, integration allows the plan to provide larger benefits to employees who earn more than Social Security’s Old-Age, Survivors, and Disability Insurance (OASDI) benefit base.

Investment Manager:

Any fiduciary who has the power to manage, acquire, or dispose of assets of a plan, who is a Registered Investment Advisor, a bank, or an insurance company, and who has acknowledged in writing that he is a fiduciary with respect to the plan.

Individual Retirement Account (IRA)

An account set up with a financial institution, such as a bank or a mutual fund company. that allows individuals to set aside personal savings up to a certain amount. The investments grow tax-deferred.

Joint and Survivor Annuity:

An annuity for the life of the participant which continues with payments for the life of the beneficiary if the beneficiary is still alive at the time of the participant’s death.

Key Employee:

Any employee who, during the determination period (generally, the plan year), is an officer, is a 5% owner of the employer or is a 1% owner of the employer having annual compensation from the employer greater than $125,000 (indexed).

The company may define the work of the employee as “key” (or vital) to the operation of the business, even though that employee may not have a highly-visible role, and may feel the need to address compensation differently from the majority of the staff.

Leakage:

Leakage refers to the erosion of assets in retirement accounts, often caused by preretirement reductions in plan savings, either through loans, hardship withdrawals, or cashouts at job change.

If an employee takes a hardship withdrawal, defaults on a 401(k) plan loan or simply cashes out a retirement plan when changing jobs, they will walk away with far less than what was in the account. These withdrawals are subject to taxes on the full amount of the withdrawal plus an additional excise tax. The loss becomes even greater over time when you factor in the loss of compounded annual growth on the withdrawn amount.

Multiple Employer Plans (MEPs):

A Multiple Employer Plan is a retirement plan in which multiple businesses participate in a single qualified retirement plan. It is sponsored by a third party, referred to as the “MEP Sponsor,” that takes on the responsibility and liability for running the plan. A business that joins a MEP is referred to as an “Adopting Employer.” MEPs can enable an employer to provide its employees with the benefits of a well-managed retirement plan, while reducing administrative burdens and potentially helping to mitigate fiduciary risk.

Nondiscrimination Testing (NDTs):

Annual tests required to ensure that 401(k) retirement plans benefit all the employees, (not just business owners or highly-paid employees).

Non-Highly Compensated Employee (NHCE):

Any eligible employee who is not a Highly Compensated Employee.

Non-Key Employee:

Any employee who is not a Key Employee.

Normal Retirement Age:

The age at which you can take a retirement distribution from your retirement plan. The earlier of (a) the time a participant attains normal retirement age as defined in the plan, or (b) the later of the time a participant attains age 65 or the 5th anniversary of plan participation.

Participant:

An employee who has met the eligibility requirements and is therefore covered under the qualified retirement plan sponsored by his or her employer.

Participant Contribution Rate:

The amount (typically a percentage of the contribution base) that an employee contributes to the plan.

Plan Administrator:

The person who is identified in the plan document as having responsibility for running the plan. It could be the employer, a committee of employees, a company executive, or someone hired for that purpose. The employer is generally the Plan Administrator if no other entity is named.

Plan Assets:

The total assets held among all participants within the plan.

Plan Audit:

An independent audit required by federal law for plans with more than 100 participants.

Plan Document

A written instrument under which the plan is established and operated.

Plan Termination:

The means by which the employer may discontinue his or her obligation to make contributions to a defined contribution plan or to fund benefits in a defined benefit plan. Upon plan termination, all participants become 100% vested.

Plan Year:

The calendar or fiscal year on which the records of the plan are kept.

Pooled Employer Plan (PEP):

A Pooled Employer Plan is a type of Multiple Employer Plan (MEP) that will allow separate companies to set up a single plan for ERISA purposes.  The PEP structure would transfer certain legal responsibilities and nearly all administrative to a third-party pooled-plan provider. The pooled-plan provider would be responsible for the design and operation of the plan and take responsibility of administrative duties to meet the requirements of ERISA and the tax code. Pooled employer plans would not be subject to disqualification due to the noncompliant actions of one adopting employer (the “one bad apple” rule).  The only way that an entire plan could become disqualified would be due to noncompliance on the part of a pooled-plan provider.

Present Value of Accrued Benefit:

A calculation used in defined benefit plans to place a value today on a future payment, or stream of payments, discounted at an appropriate interest rate.

Qualified Domestic Relations Order (QDRO):

A judgment, decree or order that creates or recognizes an alternate payee’s (such as a former spouse, child, etc.) right to receive all or a portion of a participant’s retirement plan benefits.

Qualified Matching Contribution (QMAC):

Immediately vested matching contributions made by the plan sponsor based on a percentage of the employee’s elective deferral to correct a 401(k) plan’s ADP or ACP testing failure.

Qualified Non-Elective Contribution (QNEC):

Employer contribution made to all eligible Non Highly Compensated Employees (NHCEs) regardless of how much they contributed to the retirement plan in order to increase their average percentage deferrals or match in comparison to the Highly Compensated Employees (HCEs).

Qualified Plan:

A private retirement plan that meets the rules and regulations of the Internal Revenue Service. Contributions to such a plan are generally tax-deductible; earnings on such contributions are tax-sheltered until withdrawn.

Ratio Percentage Test:

A non-discrimination/coverage test that a plan must satisfy every year. A plan must benefit a percentage of non-highly compensated employees that is at least 70% of the percentage of highly compensated employees benefiting under the plan. A participant is considered “benefiting” if he accrues an additional benefit under a defined benefit plan or receives a contribution under a defined contribution plan.

Rollover:

An employee’s transfer of retirement funds from one retirement plan to another, or to an IRA, without incurring a tax liability.

Safe Harbor 401(k)

Similar to a traditional 401(k) plan, but the employer is required to make contributions for each employee. The employer contributions in Safe Harbor 401(k) plans are immediately 100 percent vested. The Safe Harbor 401(k) eases administrative burdens on employers by eliminating some of the complex tax rules ordinarily applied to traditional 401(k) plans.

Simplified Employee Pension Plan (SEP):

A plan in which the employer makes contributions on a tax-favored basis to individual retirement accounts (IRAs) owned by the employees. If certain conditions are met, the employer is not subject to the reporting and disclosure requirements of most retirement plans. Under a SEP, an IRA is set up by or for an employee to accept the employer’s contributions.

Standard Termination:

A voluntary termination of a defined benefit plan in which the retirement trust has sufficient assets to pay its benefit commitments.

Strategic Plan Termination:

When the owners of a company decide to close their existing cash balance plan or defined benefit plan, in order to start a new plan that is fundamentally different.  Employers might consider this in an attempt to create a distributable event that allows them to roll assets to a 401k or IRA,  to reduce the risk associated with guaranteeing an interest crediting rate on increasingly large balances, to limit long-term risk, or to redesign a pension or cash balance plan following significant changes (growth, merger/acquisition, ownership, demographics).

Summary Annual Report (SAR):

A summary of the annual Form 5500 that must be provided to plan participants every year in order to meet the disclosure requirements of the Department of Labor.

Summary of Material Modification:

A notification to participants of amendments made to the plan’s Summary Plan Description.

Summary Plan Description (SPD):

A document explaining to participants the provisions of their retirement plan. The SPD must be written in non-technical language which participants are estimated to have the ability to understand.

Target Benefit Plan:

A hybrid retirement plan that uses a benefit formula like that of a defined benefit plan and individual accounts like those of a defined contribution plan.

Third-Party Administrator (TPA):

A service provider that offers design, consulting, record-keeping, quasi-legal, and actuarial services to support the legal Plan Administrator. Learn more about our TPA Services.

Tiered Allocation Plan:

A defined contribution plan design under which participants are grouped into different “tiers” (based on job classification, for example), and employer contributions are allocated at different rates to each tier. The allocations are converted to projected benefits at retirement and then tested under the 401(a)(4) general non-discrimination test. Other terms used synonymously are “cross-tested” and “new comparability.”

Top Heavy Determination:

Nondiscrimination test to ensure plans do not disproportionately favor certain owners and officers. compares the account balances of key employees (defined below) to those of non-key employees. If the sum of all key employee balances exceeds 60% of the total balances in the entire plan as of the determination date, the plan is top-heavy, potentially requiring the plan sponsor to make a minimum contribution for each non-key employee.

Valuation Date:

The date as of which trust investment earnings, gains, and losses are allocated to participant’s accounts.

Vested:

The non-forfeitable portion of a participant’s account balance or accrued benefit.

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