Structuring Student Repayment Benefit Programs

by | Daniel R. Salemi, Michael Gorman and Gena Yoo

Student loan is a major strain on the financial health of many Americans and may prevent some from saving adequately for . Employers are finding creative ways to help ease the burden through repayment benefits.

32 benefits magazine may 2020 mployers are looking for innovative ways to tai- gations can discourage employees from saving for their lor their total compensation packages as student retirement. This is especially true for those who incurred loan debt emerges as a pressing concern for many significant student loan debt but did not receive a degree Structuring E employees, particularly Millennials. or did not end up working in the field in which they re- According to the Federal Reserve of New York, ceived the degree. the total amount of outstanding student was es- Many employers believe that a student loan repay- timated at $1.48 trillion in the second quarter of 2019 ment program of some kind is an ideal way to attract and Student Loan and was projected to reach $1.6 trillion at the end of the retain employees, while also addressing a need. Only 4% year.1 As many as 44.7 million Americans have student of employers offer student loan repayment benefits ac- loan debt.2 Most borrowers owe between $10,000 and cording to a 2019 International Foundation of Employ- $50,000, with an average monthly student loan payment ee Benefit Plans survey, but 2% were in the process of Repayment ranging from $200 to $300. Millennials are most affected implementing a program, and 23% of respondents said by student loan debt, with about 15.1 million borrowers they were considering implementing one in the future.4 ages 25 to 34 (a large share of the Millennial population) These benefits may become the norm as employees with collectively holding approximately $497.6 billion in stu- become a larger part of the workforce. Benefit Programs dent loan debt.3 This article will discuss some of the options employ- Student loan debt is causing a serious strain on many ers may consider when designing student loan assistance Americans’ financial health. For example, the combina- programs, including repayment programs offered both tion of a large student loan balance and repayment obli- within and outside of 401(k) plans.

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Offering Student Loan Repayment Programs periods that occurred after the participant finished paying Within a 401(k) Plan off the student loan). This design allows participants to avoid Plan sponsors looking to offer student loan repayment having to choose between student loan payments and saving benefits on a tax-favored basis may consider designing a stu- for their retirement on a tax-advantaged basis. dent loan repayment benefit within a 401(k) plan. This de- Turning to the specifics of the proposed program: sign is supported by a 2018 private letter ruling (PLR) issued • Participation would be voluntary, and participants by the Internal Revenue Service (IRS).5 could choose to stop participating in the program at In the PLR, the plan sponsor explained that it intended to any time. amend its 401(k) plan to offer a student loan repayment ben- • Once enrolled in the program, participants could still efit program. Prior to the amendment, participants who con- contribute to their 401(k) accounts but would not re- tributed at least 2% of their eligible compensation to the plan ceive regular matching contributions with respect to received a matching contribution equal to 5% of their eligible those contributions. compensation. The match was determined on a pay period • Instead, the employer would make a nonelective con- basis. Under the proposed student loan repayment ben- tribution equal to 5% of the participant’s eligible com- efit program, employees would opt out of the “regular” 5% pensation for that pay period, as as the partici- matching contribution in order to be eligible for a nonelec- pant made a student loan payment equal to at least 2% tive employer contribution of up to 5% and a true-up match- of his or her eligible compensation during that pay ing contribution of up to 5%. Generally, a true-up matching period. contribution is an annual employer contribution equal to the • If the participant contributed at least 2% of his or her difference between the matching contribution allocated to a eligible compensation to the plan during a pay period participant on a pay period basis and the matching contri- in which the participant was not eligible for the non- bution the participant would have received if the matching elective contribution, the participant would be entitled contribution was allocated on an annual basis. to a catch-up matching contribution equal to 5% of the Here, the true-up matching contribution works a little participant’s eligible compensation for that pay period. differently; it provides a pay period matching contribution The PLR attracted significant attention because the pro- equal to 5% in pay periods where the participant contributes posed design could be construed as violating the Tax Code’s at least 2% of his or her eligible compensation to the 401(k) contingent benefit rule. This rule prohibits plan sponsors from plan, provided that the nonelective contribution is not avail- conditioning “other benefits” on whether or not employees able with respect to such pay period (for example, during pay made 401(k) contributions.6 Plan sponsors were concerned periods where a student loan payment is not due and pay that IRS would conclude that a student loan repayment ben- efit program of this type would violate the contingent benefit rule. Because IRS concluded that the student loan repayment learn more benefit program did not violate the contingent benefit rule or any other qualification requirement, many plan sponsors view Education the door to be open for other employers to offer student loan Certificate Series—Total Rewards and Workforce Strategies repayment benefit programs through their 401(k) plans. How- July 22-23, Boston, Massachusetts Visit www.ifebp.org/certificateseries for more details. ever, given the limited precedential value of a PLR, plan spon- 39th Annual ISCEBS Symposium sors should work closely with their service providers, includ- 7 August 23-26, San Diego, California ing their attorney, when establishing this type of plan design. Visit www.ifebp.org/symposium for more information. While the retirement plan program described in the PLR primarily benefits participants who would not otherwise From the Bookstore contribute to the 401(k) plan, the IRS interpretation of the Education Benefits: 2019 Survey Results contingent benefit rule appears to permit a variety of pro- International Foundation. 2019. Visit www.ifebp.org/educationalbenefits19 for more details. gram designs. For example, instead of providing a student loan repayment nonelective contribution in lieu of the regu-

34 benefits magazine may 2020 student loan debt

lar matching contribution, a plan may be permitted to provide a student loan takeaways repayment nonelective contribution in • As many as 44.7 million Americans have student loan debt. Millennials are most affected addition to the regular matching con- by student loan debt, with about 15.1 million borrowers ages 25 to 34 collectively holding tribution. approximately $497.6 billion in student loan debt. Although the PLR is a promising in- • Plan sponsors looking to offer student loan repayment benefits on a tax-favored basis may dicator for employers seeking to attract consider designing a student loan repayment benefit within a 401(k) plan. or retain talent by incorporating a stu- • Options for designing a student loan repayment benefit outside of a 401(k) plan include dent loan repayment benefit program providing additional compensation based on the amount of debt being paid off, directly paying a loan service provider on behalf of employees, providing debt counseling or offering into their retirement plans, it cannot be signing bonuses that can be used toward paying student loans. relied upon as precedent because it ap- • Most student loan repayment benefit programs offered outside of a qualified plan would plies only to the specific plan sponsor result in additional taxable compensation to the employee, but such programs have greater that requested it. As a result, any in-plan design flexibility. student loan repayment benefit program (and any taxable student loan repayment benefit that is offered in addition to an employer offering this benefit would employees, provide debt counseling or in-plan program) should be reviewed need to independently verify student offer signing bonuses that can be used with counsel before implementation. loan payments and remit correspond- toward paying student loans. The authors have observed that many ing nonelective contributions, or the Student loan repayment benefit pro- plan sponsors are waiting for additional recordkeeper (or third-party admin- grams offered by employers outside of IRS guidance before settling on a design. istrator) would need to verify student the qualified plan context do not have loan payments and confirm the partici- the same tax advantages for employ- Offering Student Loan pating employer’s proper remittance of ees. The nonelective 401(k) contribu- Repayment Programs Within a nonelective contributions. tions described above are not included Multiemployer 401(k) Plan Regardless of the approach taken, in a participant’s compensation until Nothing expressly prohibits a mul- the recordkeeper may need to develop distributed, and the employer may de- tiemployer 401(k) plan from offering a new infrastructure that allows it to ac- duct these contributions for the year to student loan repayment benefit. In fact, curately track verified student loan which they apply. Outside of the quali- depending on the industry, participat- payments and corresponding nonelec- fied plan context, most student loan re- ing employers and unions may benefit tive contributions. The expense associ- payment benefit programs would result significantly from bargaining a student ated with developing this infrastructure in additional taxable compensation to loan repayment benefit into an already may effectively reduce the relative value the employee. For example, employer established multiemployer 401(k) plan. of a student loan repayment benefit payments to employees’ loan service This benefit could allow participating program. provider are taxable to the employee employers to attract and retain talented and are not much different from an employees in a tight labor market. Designing Student Loan increase in compensation. Thus, tax There are, however, practical hur- Repayment Benefit Programs consequences (to both the employer dles that may discourage trustees and Outside of a 401(k) Plan and the employee) should be consid- bargaining parties from providing stu- Employers might also want to explore ered when an employer is determining dent loan repayment benefits through student loan repayment benefit programs whether to offer a student loan repay- a multiemployer 401(k) plan. For ex- outside of a qualified retirement plan. ment benefit program and whether the ample, such a benefit could be unduly For example, employers could provide plan should be tied to a qualified retire- cumbersome to administer if the plan additional compensation based on the ment plan. has a large number of participating amount of debt being paid off, directly Employers have greater design flex- employers. Either each participating pay a loan service provider on behalf of ibility with student loan repayment

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benefit programs that are not tied to and to what extent employers were able The legislative landscape is also qualified plans. For example, an em- to attract and retain employees by of- changing to better address student ployer could combine a student loan fering the program. Based on a review loans. The Setting Every Commu- repayment benefit program with perfor- of 13 employers with nearly 35,000 par- nity Up for Retirement Enhancement mance-based awards, such that employ- ticipants, the study identified an 80% (SECURE) Act, enacted on December ees receive additional compensation in reduction in turnover among newly 20, 2019, expanded the definition of the form of direct payments toward hired employees and a 22% reduction qualified higher education expenses that student loans if certain performance in overall turnover. In addition, 50% can be withdrawn tax-free from a 529 goals are met. Alternatively, an employ- of new hires surveyed reported that savings plan to include amounts paid as er could make a direct payment toward the student debt program was a major principal or interest on qualified edu- the student loan equal to the value of factor in their decision to join the com- cation loans. Such withdrawals have a unused paid time off (PTO) forfeited pany. lifetime limit of $10,000 per beneficiary. by the employee at the end of the prior Most 401(k) plans are designed so This may increase the popularity of stu- year. that employer contributions vest over dent loan repayment benefit programs As the design of student loan repay- as many as six years, which encourages that provide employer contributions ment benefit programs becomes more employees to stay with the employer directly to a 529 plan established for the complicated, the employer should be until the employer contributions vest. benefit of an employee or that provide wary of the tax doctrine of constructive Thus, student loan repayment benefit employer nonelective contributions receipt and issues related to the defer- programs that make nonelective con- into a 401(k) plan when the employee ral of compensation under Tax Code tributions to an employer’s 401(k) plan contributes to a 529 plan. However, Section 409A. Generally speaking, may tie employees to their employers employers should proceed with cau- an amount is taxable to an employee for a period consistent with the 401(k) tion because the SECURE Act changes when the employee has a legally bind- plan’s vesting schedule. While student only federal law, and not all state laws ing right to payment, and the amount loan repayment benefit programs that have been revised to treat student loan is made available. Physical possession are not tied to qualified plans could be repayments as qualified distributions of the payment is not required. How- designed to promote employee reten- from 529 plans. This means that certain ever, the rules regarding timing of in- tion through the use of a clawback pro- states may disallow any state income come inclusion are complicated, and vision, these program designs may not tax deduction or the employee employers should take care when de- be optimal. The payments would gener- would receive with respect to the con- signing student loan repayment ben- ally be taxable to the participant when tribution to the 529 plan if the amount efit programs that may implicate these the student loan payment is actually or is subsequently used to make a student rules. constructively received. loan payment. On March 27, 2020, President Effect on Retention Student Loans Are a Top Priority Trump signed into law the Corona- Employee retention is one factor for Regulators and Politicians virus Aid, Relief, and Economic Se- to consider when deciding whether to IRS has made clear that student loan curity (CARES) Act. The CARES Act offer a student loan repayment benefit repayment benefit programs are a high amends Tax Code Section 127 to allow program. Fidelity recently conducted priority. In October 2019, the agency employers to reimburse employees up a case study analyzing, among other listed guidance on student loan pay- to $5,250 tax-free for qualified student things, the impact of its direct student ments and retirement plans as one of loan payments incurred by the em- debt benefit program on retention. The its top priorities in its 2019-2020 Pri- ployee (i.e., not for student loans of the program allows enrolled employers to ority Guidance Plan. Thus, additional employee’s spouse or child). This ben- make a loan payment directly to loan IRS guidance may be forthcoming, and efit is available only through December service providers on behalf of their em- any such guidance would likely apply to 31, 2020. The $5,250 cap applies to the ployees.8 The study analyzed whether taxpayers generally. aggregate of student loan payments and

36 benefits magazine may 2020 student loan debt

Daniel R. Salemi is a Michael Gorman is an Gena Yoo is an partner at Morgan, associate at Morgan, associate at Morgan, bios Lewis & Bockius LLP Lewis & Bockius LLP Lewis & Bockius LLP

in Chicago, Illinois. in Washington, D.C., in Philadelphia, He serves as counsel where he advises Pennsylvania, where to multiemployer funds, public multiemployer benefit funds, she advises employee benefit plan plans and large employers with public and private companies, sponsors and administrators on a regard to their retirement, health tax-exempt organizations and range of matters related to employee and fringe benefit arrangements. He governmental employers on the benefits. While in law school, she has significant experience advising design, governance, operation and served as a co-chair of Penn Law for boards of trustees on issues related compliance of qualified and Philly, external vice president of the to plan governance, the manage- nonqualified retirement plans and Asian Pacific American Law ment and investment of plan assets benefit plans. He holds a Students Association and was a and compliance with federal and J.D. degree from Cornell Univer- member of Penn Law Bowling state laws. He holds a J.D. degree sity Law School, an M.B.A. degree League. She holds a J.D. degree from from the University of Notre Dame from Cornell University and a the University of Pennsylvania Law Law School and a B.A. degree from B.A. degree from Westminster School and a B.A. degree from

the University of Dayton. College. Wesleyan University.

traditional educational assistance benefits provided under a Conclusion Section 127 plan (e.g., tuition, books, supplies, and other Student loans are top of mind for regulators, lawmakers education-related expenses). When designing or amending and, most of all, individuals who are struggling to make their a Section 127 plan, employers should make sure to avoid of- monthly loan payments. Employers that want to help lighten fering employees the choice between taxable compensation the burden of student loans on their employees have many and a tax-free benefit. options for program designs. In a tight labor market, these In addition, through September 30, 2020, the programs may help attract and retain employees. for all federal student loans has been set to 0%, all payment obligations have been automatically suspended (unless the Endnotes individual with the student loan elects otherwise), and all in- 1. Federal Reserve Bank of New York, Household Debt and Credit voluntary collections of federal student loan debt (e.g., quarterly report (2019:Q2), available at www.newyorkfed.org/medialibrary garnishment) have been suspended. /interactives/householdcredit/data/pdf/hhdc_2019q2.pdf. See also: www .federalreserve.gov/releases/g19/current/default.htm. Prior to the COVID-19 crisis, many politicians had pro- 2. NBC News, “These five charts show how bad the student loan debt situation is,” available at www.nbcnews.com/news/us-news/student-loan posed solutions to tackle the student loan issue. For example, -statistics-2019-n997836. the Higher Education Loan Payment and Enhanced Retire- 3. Forbes, “A Look at Millennial Student Debt,” available at www.forbes .com/sites/wesleywhistle/2019/10/03/a-look-at-millennial-student ment (HELPER) Act introduced by Senator Rand Paul in -debt/#6fef15482437. December 2019 would allow individuals to withdraw up to 4. International Foundation of Employee Benefit Plans, Education Benefits: 2019 Survey Results. $5,250 each year from a 401(k) plan or individual retirement 5. Internal Revenue Service (IRS) Private Letter Ruling 201833012 account (IRA), tax- and penalty-free, to make student loan (August 17, 2018). 6. Internal Revenue Code Section 401(k)(4)(A) and Treasury Regula- 9 payments. This bill may further incentivize retirement plan tion Section 1.401(k)-1(e)(6). participation since the elective deferrals would be tax-de- 7. IRS further noted that, to be compliant with the regulations, employ- ers cannot extend student loans to their employees. ductible, and the distribution would not be subject to tax or 8. Fidelity, Case Study: Student Debt Directsm Benefit, available at https://sponsor.fidelity.com/bin-public/06_PSW_Website/documents an early withdrawal penalty. This proposal has been met with /Case%20_Study_StudentDebt.pdf. widespread skepticism, primarily because it may provide a 9. Full text of the bill is available at www.paul.senate.gov/news/dr -rand-paul-introduces-helper-act-reduce-student-loan-debt-and-increase pdf/420 disincentive to long-term retirement savings. -retirement-savings.

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