Money Monday: Boss! I Have an Emergency

Building an emergency fund has been a challenge for most people. In a 2024 Bankrate’s Annual Emergency Savings Report indicated only 44% of people could handle an emergency expense of $1,000 without borrowing or getting into debt. This means that almost 60% of people would have difficulty should they have car trouble, a family death and need to travel or contribute, or an housing emergency. Here is a possible solution to developing an emergency fund.

Secure Act 2.0 

In December of 2022, the United States Congress passed the Setting Every Community Up for Retirement Enhancement Act commonly referred to as the SECURE Act 2.0. This law established a new opportunity for individuals to start saving or developing an emergency fund without tax consequences. The emergency fund provision became effective on January 1st, 2024.

Pension Linked Emergency Savings Account (PLESA)

The Secure Act created what is known as a Pension Linked Emergency Savings Account (PLESA) feature. While the language and definitions are technical, legalese, the concept and objective is pretty basic and simple. If you have a defined contribution plan also known as a retirement plan or 401(k) or 403(b) plan, an emergency savings account can now be established linked to your plan.

This means that what you contribute with pretax dollars will continue to be directed towards your plan as it was in the past. The new provision allows your employer to deduct any amount you designate with after tax dollars, to be deposited into an emergency savings or PLESA account maintained by your employer on your behalf.

In other words, instead of attempting to save your after tax dollars each pay period for an emergency fund, you employer, with your permission, will deposit a designated amount into an emergency saving account for you. You won’t even see or receive your emergency fund designated amount to spend it.

How It Works

Before explaining how it works I need to mention our favorite uncle, Sam, and the Internal Revenue Service (IRS). Generally under IRS ERISA laws, if you withdraw money from your retirement account early, there would be an early withdrawal penalty and associated taxes. However, under the IRS PLESA rules, any money deposited into your account can be withdrawn without any penalties or taxes! While this savings account is linked to your retirement account, you will not be withdrawing from the pretax or deferred amount deposited into your retirement account. You can only withdraw early without tax implications from your emergency savings account being maintained through your employer on your behalf.

In order to participate in a PLESA, you will have to qualify as an employee or owner as defined under Internal Revenue Code (IRC) Section 414(q). To participate in PLESA, you should not be a highly compensated employee, or earn more than $120,000. However, those numbers are adjusted for inflation each year and you should first check with your employer to see if you fit within the definition of a highly compensated employee and therefore do not qualify to participate .

To establish your emergency savings account you will have to enroll with your employer, just like you did to establish your 401(k) or retirement account. Your employer may have automatic enrollment. But automatic enrollment does not mean mandatory participation. As an employee, you should be given notice by your employer of automatic enrollment and the ability to opt out if you choose.

You should note that your emergency savings account has a maximum limit of $2,500, adjusted for inflation. You can deposit monies into your account at any time unless your plan designates otherwise.

Another point is that you are allowed to make withdrawals from your emergency savings account up to four times each calendar year. Some employers may impose an administration fee to manage your emergency savings account, but remember that this account will also be interest bearing.

So what are your takeaways?

You now have a way of establishing an emergency fund, albeit only $2,500. This could be the glass half full or half empty depending on your perspective. It’s a way to help you establish financial discipline. You can use the fund as a bridge or strategy towards building a larger emergency savings which could last an estimated six months if you need it. It is also worth considering since there are no tax consequences. And finally, it’s just another way to jump start your emergency savings fund.

WHAT’S UP!

Today’s What’s Up is about the month of April. The month of April is designated as financial literacy month by the United States Congress. In today’s economic environment that seems a bit ironic, since Congress just passed the 2024 Fiscal Year budget and went through passing a few continuing resolutions in order to avoid government shutdowns. That said, here are three things you can do to celebrate financial literacy month.

  1. Start a two-week financial fast from shopping.
  2. Listen to a financial literacy podcast like “ Planet Money by NPR” or “The Millionaire Mindset.”
  3. Start a holiday shopping savings club with your friends. These activities could yield benefits, by year’s end.

And that’s what’s up!

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