Calling It Quits: How to Properly Terminate A 401(k) Plan

There are a variety of reasons why you may need to terminate a 401k retirement plan. Maybe the business has run its course and it’s time to shutter the doors. Maybe the company is small and just can’t afford the matching contributions any longer. Maybe the company was bought out by another company that already had a 401k plan in place. Or, in the case of an LLC, maybe the partnership is being dissolved.

Whatever the reason, terminating a 401k plan is a legal process and must be completed properly to avoid finding yourself on the IRS or Department of Labor naughty list.

Let’s get down to it.

Start by amending the 401k plan document to ensure that all language is up to date. Once that’s done, it’s time to notify the plan participants. Depending on the type of plan you have, a 30­day written notice to all participants in the plan (whether they still work for you or not) may be required. It’s a good idea to include a distribution election form so participants can decide how they would like to receive their distribution.

Everyone becomes 100% vested in the plan. Pay attention. EVERYONE, even employees who left the company years ago if they haven’t transferred or forfeited their balance, becomes 100% vested in the plan. Got it? Great! Time to process those distributions. In order to terminate the plan, every penny must be distributed. Let me repeat that. There must be a ZERO balance to terminate the plan.

Once all the assets have been distributed from the plan and the balance is ZERO, you’ll need to file your final Form 5500 paperwork and your final tax return. This is not to be confused with the Eighties song The Final Countdown. Depending on the type of plan document you have, you might want to file for termination approval from the IRS.

These are the BASIC steps required to terminate a 401k retirement plan. You should always use a TPA for this process to avoid the unpleasantness of Uncle Sam knocking on your door with a list of fines and penalties. You can use your plan’s current TPA or hire one as a consultant specifically for this process.

Remember it’ retirement we’re talking about. The more you know and understand, the better off you will be.

Best Regards,