REPORT TO COUNCIL
SUBJECT
Title
Action on a Resolution Adopting and Approving the Implementation of a Section 401(a) Deferred Compensation Plan and Authorizing Execution of Side Letter Agreements with Bargaining Units for City Contributions Towards Deferred Compensation Pursuant to the 401(a) Plan
Report
BACKGROUND
The City provides retirement benefits through different vehicles for its employees. This includes a defined benefit pension plan with CalPERS, Social Security, and deferred compensation.
The City established a deferred compensation retirement plan (hereafter, “Plan”) and authorized a deferral of a portion of employee compensation to be contributed to the plan and invested in an Internal Revenue Service (IRS) approved plan. The plan was established under Section 457(b) (hereafter, “457(b) plan”) of the Internal Revenue Code of 1986, as amended. Generally speaking, a 457(b) plan is similar to a private sector Section 401(k) plan. Through the labor negotiation process, the City agreed with multiple bargaining units to make contributions towards their represented employees’ deferred compensation retirement accounts. Those City contributions were deposited in the employees’ 457(b) deferred compensation retirement accounts. Recently, there was interest in the creation of a Section 401(a) deferred compensation retirement account (hereafter, “401(a) plan”) in which the City would make employer contributions to certain of its employees’ 401(a) deferred compensation retirement accounts to allow employees to maximize their own contributions to the 457(b) deferred compensation retirement account.
DISCUSSION
On or about November 21, 2024, the Deferred Compensation Advisory Committee recommended to the City Manager that the City adopt a Section 401(a) deferred compensation retirement plan and authorized the City Manager to execute all required Plan documents upon aligning terms with the City’s existing Section 457(b) deferred compensation retirement plan to the extent possible.
Currently, Nationwide Trust Company, FSB (hereafter, “Nationwide”) serves as Trustee (Plan Administrator) of the City’s Section 457(b) deferred compensation retirement plan. The City has worked with Nationwide, to prepare a 401(a) plan to be available to allow for City contributions toward employees’ deferred compensation. The 401(a) plan has been drafted to align with the City’s existing 457(b) plan as closely as possible and is anticipated to have the same fees.
The City’s decision to adopt and implement the 401(a) plan was in response to concerns received that employees were not able to maximize their annual tax deferred contributions into the 457(b) due to the City contributions. The 401(a) would facilitate the City making tax deferred contributions to eligible employees’ retirement plans, and thus allow employees to maximize amounts they contribute to their individual 457(b) plan. If the City contributes the agreed upon employer deferred compensation contributions to the 401(a) plan, instead of the 457(b) plan, employees will have the option to contribute more total dollars toward their deferred compensation by maximizing employee contributions into their individual section 457(b) deferred compensation retirement accounts up to the annual limit.
Under the IRS rules and regulations, employees are allowed to have both section 457(b) and section 401(a) deferred compensation retirement accounts. A 401(a) account will be created for an employee with an existing 457(b) account, and the City can make its contributions toward the employee’s 401(a) plan account upon agreement with the representative bargaining units, if any. Otherwise, the City will continue to make any agreed upon employer deferred compensation contributions into the eligible employees’ 457(b) deferred compensation retirement accounts.
Notably, there are some key differences between the 401(a) plan and the 457(b) plan which include:
1. 457(b) has annual contribution limits; for 2025, it is $23,500. The City can separately contribute the agreed upon employer-provided contribution to the 401(a) (which subject to a separate limit).
2. 457(b) account non-Roth funds can be accessed immediately after separation, regardless of age. The 401(a) account non-Roth funds can be accessed immediately after separation with a 10% penalty before age 59 and ½, subject to specific exceptions. After age 59 and ½, there is no penalty.
3. 457(b) contributions are subject to Social Security and Medicare taxes, while 401(a) contributions are not.
Since notice of the City’s intention to implement the 401(a) was provided to bargaining units, bargaining units have communicated a strong interest in expanding the 401(a) to also include employee contributions. The City is not planning on including employee contributions in the 401(a).
Firstly, as noted above, the rules governing employee contributions into the 401(a) are particularly onerous. Employees must make a one-time irrevocable election as to what an employee must contribute into the 401(a), and the employee must contribute the elected amount for the entirety of their employment with the City and regardless of any changes in an individual employee’s situation (unlike the 457(b) where an employee can make changes to their contributions each pay period if they so desired). Secondly, the City’s deferred compensation consultants, including Nationwide, have recommended against employee contributions into the 401(a). In addition, allowing employee contributions into the 401(a) increases the administrative burden on the City in having to track and follow up with employees and new hires with varying elections and contributions when the initial idea of the 401(a) was to allow employees to maximize their annual contributions into the 457(b) while maintaining access to the City’s contributions which would be housed in the 401(a), not to create additional tasks for City staff in administering the City’s deferred compensation.
It should be noted that the City has agreements with several bargaining units to make contributions to deferred compensation on behalf of employees; however, these agreements currently reference only the 457(b) plan. Moving forward, the City will enter into Side Letter Agreements with those bargaining units that may be interested in having the City contributions into deferred compensation go into the 401(a) plan.
ENVIRONMENTAL REVIEW
The action being considered does not constitute a “project” within the meaning of the California Environmental Quality Act (“CEQA”) pursuant to CEQA Guidelines section 15378(b)(5) in that it is a governmental organizational or administrative activity that will not result in direct or indirect changes in the environment.
FISCAL IMPACT
There is no anticipated additional costs with the implementation of the 401(a) plan, or having City contributions go into the 401(a) plan versus the current 457(b) plan.
COORDINATION
This report has been coordinated with the Finance Department and City Attorney’s Office.
PUBLIC CONTACT
Public contact was made by posting the Council agenda on the City’s official-notice bulletin board outside City Hall Council Chambers. A complete agenda packet is available on the City’s website and in the City Clerk’s Office at least 72 hours prior to a Regular Meeting and 24 hours prior to a Special Meeting. A hard copy of any agenda report may be requested by contacting the City Clerk’s Office at (408) 615-2220, email clerk@santaclaraca.gov or at the public information desk at any City of Santa Clara public library.
RECOMMENDATION
Recommendation
1. Adopt a Resolution adopting a Section 401(a) Deferred Compensation Plan,
2. Approve the implementation of a Section 401(a) Deferred Compensation Plan;
3. Authorize and delegate to the City Manager the execution of all documents necessary to implement the Section 401(a) Deferred Compensation Plan, and to execute future documents as necessary to continue administration of the Plan; and
4. Execution of Side Letter Agreements with bargaining units reflecting the use of a 401(a) Plan (rather than the 457(b) Plan) for City contributions towards deferred compensation.
Staff
Reviewed by: Marco Mercado, Acting Director of Human Resources
Approved by: Jovan D. Grogan, City Manager
ATTACHMENTS
1. 401(a) Adoption Agreement
2. 401(a) Administrative Services Agreement
3. Additional 401(a) Plan setup documents from Nationwide
4. Resolution to Adopt 401(a) Plan