Smart Saving for Tomorrow: A Comprehensive Look at the PLESA under the SECURE Act 2.0

But some of the more interesting portions of the bill may not have anything to do with retirement.

This includes the new pension-linked emergency savings account option that could help prevent many Americans from tapping into their retirement accounts early and creating a savings account that would help drive overall financial health.

Many financial pundits and advisers recommend having three to six months’ worth of required spending earmarked for emergencies. However, the vast bulk of Americans fall very short of that amount. Overall, 63% of workers are unable to cover a $500 emergency expense, while 76% of workers can’t cover one full month’s worth of required expenses. And this isn’t just a low-income problem. Data shows that over one-third of workers earning over $100,000 per year live paycheck to paycheck.

And often, when emergencies happen, many Americans turn to less-than-sound remedies to pay for such unexpected problems. Credit cards and risky loans are just two ways. Another popular choice has been tapping into retirement savings early.

The problem is most Americans don’t end up repaying their 401(k)s or IRAs once they are tapped. This reduces balances and long-term compounding. And that, ultimately, reduces the amount of money to have in your golden years.

To that end, lawmakers looked for new solutions to help bridge the emergency savings gap and the SECURE Act 2.0 included several key provisions.

Under section 127 of the Act, a new kind of account was created. Dubbed pension-linked emergency savings accounts, or PLESAs, these accounts are designed to help workers save for emergencies while still having many of the forced savings/matches of traditional retirement vehicles.

Beginning in 2024, Plan Sponsors of 401(k), 403(b), and governmental 457(b) plans may offer plan participants a PLESA as an option for their savings.

PLESAs aren’t necessarily an additional account per se. They are like a sidecar for retirement savings. Only workers who are eligible for a 401(k) plan or defined contribution retirement plan can have one. Each year, a worker can have up to $2,500 placed into their PLESA. These function as Roth contributions and are made after tax. The key is that assets in the PLESA portion of the account can be withdrawn, for any reason, at least monthly, and are not required to satisfy so-called 401(k) triggering qualifications. And since they are considered Roth contributions, PLESA withdrawals are distributed tax- and penalty-free.

Investment options are limited to cash and other principally protected investments such as stable value funds.

Here’s where it gets interesting for savers. They can get their employer to match their retirement savings account if they contribute to their PLESA. Under Sec. 402A(e)(6) of the SECURE Act 2.0, if the employer makes matching contributions under the 401(k) plan, it is required to match PLESA contributions at the same rate as other plan matching contributions. So, if a worker only chooses to fund the PLESA portion of their plan, the employer would still match their contributions and place them into the 401(k)/retirement side. This is a huge win that could allow workers to both save for emergencies and retirement in one fell swoop.

There are some other caveats to PLESAs. For starters, they are only open to Non-Highly Compensated Employees (NHCEs). Sorry CEOs. But the vast bulk of Americans falls within this definition. Second, contributions to PLESAs do count toward the total yearly contribution limit for defined contribution plans. For 2023, that number is $22,000.

With the creation of PLESAs, investors have a wonderful vehicle for emergency savings with several use cases.

For lower-income workers, they no longer have to make the choice between saving for retirement or filling an emergency account. But by funding a PLESA and having the match hit their investment 401(k), they can build both accounts at the same time. This can help increase financial readiness, build retirement balances, and reduce strain.

For workers who already have built emergency savings, the PLESA opens up a world of other possibilities. For example, workers with fully funded emergency funds could open a PLESA and then use a portion of their emergency fund for a taxable brokerage account, opening up different investments than offered in a 401(k). A PLESA could be used for non-emergencies as there are no defined rules as to what the funds must be used for and there is no self-certification with the IRS. Need to save a bit more for a vacation? Why not use a PLESA and still get a match on your retirement savings?

Moreover, a PLESA may offer higher interest than savers are getting at their current bank accounts given that stable value funds and CDs could be offered under their rules.

PLESAs could also serve as a bridge retirement savings account. Investors could place money in the PLESA each year with the intent of not touching it and using that money as early retirement savings. And since it counts as Roth money, investors could tap their PLESA in concert with traditional retirement money to help fund income while keeping their taxes low

With rules governing PLESAs allowing their creation starting next year, we don’t have any concrete data just yet on who will be offering them. However, for many larger retirement plan sponsors, it makes sense to begin rolling out these plans as offerings. Employers would be wise too, particularly those with large hourly workforces. The costs of administration shouldn’t be too much more either.

In the end, PLESAs are a wonderful savings vehicle with plenty of benefits for many different workers.

The SECURE Act 2.0 has plenty of great provisions for workers designed to increase retirement and financial readiness. The creation of the PLESA is one example. The catch-all emergency savings vehicle could help boost Americans’ savings on a variety of fronts.