State Auto-IRA Landscape
States and even municipalities across the country are taking an increasingly active role in addressing the nation’s retirement preparedness crisis. From California’s CalSavers Retirement Savings Program originating as early as 2012 to the Maine Retirement Savings Program enacted only a few weeks ago, many states – and even municipalities like New York City and Seattle, Washington – have implemented or at least proposed “auto-IRA” programs aimed to provide a retirement savings vehicle for employees without access to a retirement savings vehicle through an employer.
Generally, these programs are designed to overcome a small employer’s objections to offering a retirement plan that would otherwise be subject to the Employee Retirement Income Securities Act (ERISA). These programs provide an automatic enrollment payroll deduction into an individual savings account, typically a traditional pre-tax and/or Roth IRA. There are no employer contributions, and there are no ERISA reporting and regulatory compliance requirements. These programs operate using professional private management of investments that are not readily available to individuals with a private IRA. While default employee contribution amounts vary, employers subject to such programs are usually required to either demonstrate that they are exempt by providing proof of an employer sponsored plan, or to enroll eligible employees, facilitate applicable deferrals through payroll and transmit amounts to the program sponsor. Noncompliance may result in penalties for the employer.
CalSavers: An ERISA Preemption Case Study
Traditionally, employer sponsored benefit plans are subject to ERISA, a federal law historically held to preempt conflicting state law. Thus, the question naturally arose whether state sponsored auto-IRA programs were preempted under ERISA. As of May 6, 2021, it appears we have an initial answer from the US Court of Appeals for the Ninth Circuit, which upheld a lower court decision finding that California’s CalSavers Retirement Savings Program was not preempted by ERISA.
In so finding, the court concluded that the CalSavers Program was not an ERISA plan for several reasons. First, CalSavers is not an employer sponsored plan. It is a program established and maintained by the state of California, not in any capacity as an employer of CalSavers participants. Second, the court found that CalSavers does not require employers to maintain an ERISA plan. Rather, it requires nonexempt employers to maintain administrative functions in order to facilitate deferrals made into the CalSavers Program through employer payroll. Third, CalSavers is not impermissibly connected to ERISA, nor does it interfere with ERISA’s purpose. In fact, CalSavers exempts employers maintaining ERISA retirement plans from participation in CalSavers, and nonexempt employers that are subject to CalSavers are responsible only for ministerial requirements that do not rise to the purview of ERISA.
The CalSavers decision clearly does not provide for a blanket exemption to other state programs and thus, ERISA preemption will likely continue to be considered on a program by program basis. However, in light of the CalSavers decision, it is likely that more states and municipalities will implement similar programs if Delaware’s legislative proposal in May 2021, Maine’s adoption of an auto-IRA program in June 2021, and New York state legislature’s expansion of its voluntary auto-IRA program to a mandatory program in June 2021 are any indication. This patchwork of programs that vary from jurisdiction to jurisdiction will present compliance challenges that are not insignificant for multistate employers, particularly those with nontraditional workforces who historically have not been eligible to participate in an employer sponsored retirement savings plan.
Of note, multistate employers are likely to be required – or at least encouraged – to register with each state’s program regardless of whether they are required to participate in the auto-IRA program. For example, CalSavers regulations require eligible employers to register, but specifically provide that exempt employers may, but are not required to, inform the program’s administrator of their exemption. However, unless an exempt employer provides notice to the program’s administrator, one can fairly assume that CalSavers will continue to send notices requesting registration of the employer and threatening potential penalties for noncompliance. This leaves the employer’s compliance and risks associated with potential penalties in limbo until notice of exemption is provided and accepted by the program’s administrator.
A related question that persists and which will likely have to be addressed program by program is the requirements for employers to demonstrate exempt status. While most known state auto-IRA programs or proposals exempt employers simply if they maintain or have recently maintained a qualified employer sponsored retirement savings plan, at least one state legislative proposal would only provide exemption if the employer provides “each” eligible employee the opportunity to participate in a plan and another state requires the eligible employees who are eligible to participant in the plan to be located within that state. Obviously, if states begin to require all employer plan sponsors to enroll employees who are ineligible to participate in the employer’s plan, the administrative burden to multistate employers would be increased dramatically. For example, employers with a large part-time or variable employee population may not provide eligibility to those employees working less than 1,000 hours a year in part due to the transient nature of that portion of their workforce. Under a state auto-IRA program requiring coverage for all employees in order to be exempt, employers may find themselves with a significant administrative burden in addition to their administrative scheme required for their own retirement savings plan. Given the Ninth Circuit’s reliance in part on the fact that the CalSavers program exempts employers maintaining ERISA retirement plans from participation in CalSavers, however, it is unclear whether a court would find such a program to be preempted by ERISA or not.
Further, it is unclear how controlled group rules applicable to ERISA would apply in regard to state auto-IRA compliance. Depending on each jurisdictions interpretation of regulations, employers who are active in mergers and acquisitions or who may utilize a controlled group structure in which employees may periodically move between entities, may find themselves having to account for a controlled group member who they are not required to provide eligibility for a retirement savings plan. For example, ERISA provides for a transition rule in the merger and acquisition context under which an acquiring company may temporarily test a recently acquired entity separately from its pre-acquisition controlled group. This rule effectively relieves the acquiror temporarily from being required to immediately add a recently acquired entity to its plan without failing applicable nondiscrimination requirements, giving the acquiror time to transition the new entity into the controlled group. However, under a state auto-IRA program, such acquiror would need to account for the entity immediately upon acquisition since no similar transition period applies under state law. A similar example may occur for businesses relying on a franchise model. In that context, it is not unusual for one company to step in and take over an entity for a short period of time in order to preserve the entity’s business operations while it is transitioned to a new company. Again, due to the temporary nature of such an employee relationship, the acquiring company would typically not extend retirement savings plan eligibility to employees of the entity during the period of time in which the entity is transitioned to a new company due to the short period of time involved. Under most state-auto IRA program regulations, this would result in the disruption of access to a state auto-IRA for employees of the entity during the period of time in which the company with a retirement plan employs those employees.
The fallout of the CalSavers decision has some groups lobbying for Congress to provide tax credits for businesses who participate in these state and city auto-IRA programs, much like the tax credits that are available to businesses starting an ERISA plan. While there is no fee on its face for an employer to participate in these state and city auto-IRA programs, employers do incur out-of-pocket costs in coordinating the data and payroll deductions with the state or city program as well as distributing information about the program to its employees. One way for an employer to recoup these out-of-pocket costs is for Congress to provide federal tax credits associated with these programs.
Regardless of whether federal assistance becomes a reality, the unanswered questions and administrative burdens resulting from the emerging patchwork of state and city auto-IRA programs, specifically to multistate employers, seemingly cloud the impact of an otherwise clear Ninth Circuit decision. As a result, it is fair to assume that the increase of state auto-IRA programs will result in a corresponding increase in related employee claims. While an employer may only be responsible for the administrative payroll scheme in the eyes of the Ninth Circuit, it is conceivable that participants will include employers in related litigation. Assuming such state auto-IRA program is not subject to ERISA, participants are not subject to ERISA claims and appeals requirements or limited to federal court to litigate such claims, meaning employers could potentially face a myriad of claims in state or even municipal courts across the country from mild Maine to sunny California.