IRS published the final rules for Roth contributions to 401(k) plans under Code Section 402A. (71 Fed. Reg. 6, January 3, 2006). The final regulations do not specifically address Roth contributions to 403(b) plans but the guidance should apply to 403(b) plans, as well. The final rules are effective January 1, 2006. Although consistent in most instances with the proposed regulations issued in March 2005, there are a few clarifications in the final rules:
- Roth contributions must be elected as part of the participant’s cash or deferred election and not at a later date.
- It is not possible to offer a Roth 401(k)-only plan. When a 401(k) plan is made available it must offer pretax elective deferrals and it may offer Roth 401(k) deferrals, also.
- The requirement of the final 401(k) regulations that participants must be able to change their pretax elections (for future contributions) at least once a year is extended to Roth 401(k) elections.
- Catch-up contributions may be Roth contributions.
- If the plan uses automatic enrollment, it may provide for automatic Roth contributions rather than pretax elective deferrals, so long as the plan document spells this out in advance.
- Loans may be made from Roth contribution accounts in the same manner as pretax elective deferral accounts.
IBM is the next corporate giant to go "pension free."
The IBM press release on January 5, 2006, announced that, as of December 31, 2007, it is stopping the accrual of all benefits in its pension plans and redesigning its 401(k) savings plans to be among the "richest in U. S. business." IBM expects to record a one-time pretax charge related to the pension changes of $270 million in the fourth quarter of 2005. It also expects to save on retirement-related expenses $450-$500 million for 2006 and $2.5 billion to $3 billion for the period of 2006—2010. Of special interest to us are the features added to the redesigned 401(k) to make it a suitable replacement for defined benefit pension benefits. At IBM these enhancements include: doubling the current matching rate to dollar for dollar on the first 6% of salary deferrals and adding an additional employer discretionary contribution from 1% to 4%; making special employer contributions to the accounts of nonexempt workers; and using automatic enrollment to encourage all eligible employees to join the plan.Amendments to plans establishing Roth 401(k) contribution accounts must be made by the end of the first plan year for which the amendment is effective. No model amendment for adding Roth 401(k) contributions to plans was provided in the final rules.
The Department of Labor has issued two sets of final rules under the Uniformed Services Employment and Reemployment Rights Act of 1994 (USERRA).
One set of rules, effective January 18, 2006, finalizes interim rules adopted in March 2005, with few changes. The interim rules implemented the Veterans Benefits Improvement Act of 2004, which added to USERRA the requirement that employers provide employees with a notice of military leave rights, benefits, and obligations of both employers and employees under ERISA. A revised model notice for this purpose is included in these final rules. The second set of rules, also effective January 18, 2006, finalizes the general USERRA proposed regulations issued in September 2004. These rules clarify certain aspects of the substantive rules that have been in effect for years. They are found at: http://www.dol.gov/vets/regs/fedreg/final/2005023961.htm.Procedural prudence continues to be the most important activity for ERISA fiduciaries, and applying the principles of procedural prudence to employer stock funds in 401(k) plans is vitally necessary.
This is not breaking news, but the subject has been addressed in many year-end articles and commentaries, and bears repeating again in these pages: If your 401(k) plan offers an employer stock fund, you need to be prepared to show that the company has an oversight process which extends to that fund and that an appropriately constituted investment committee regularly discusses and reviews the investment policy or plan including the employer stock fund, and monitors the performance of that fund along with all the others. One concern we have is that, if this committee is headed up outside of the HR department, where the ERISA expertise is usually found, the committee members may need to be educated about the importance of ERISA procedural prudence and the need to maintain appropriate records of their process. If members of the investment committee are also corporate insiders this concern is compounded by the potential for conflict between securities law restrictions on insiders and ERISA fiduciary obligations. ERISA fiduciary training is something we can help with and is always worth the effort.Under the principles of the ISO rules for determining FMV, where there was a good-faith attempt to set the exercise price of a stock option or SAR granted before January 1, 2005, at a price not less than the stock’s FMV at the time of grant, the exercise price will be treated as being not less than the stock’s FMV at the time of grant for purposes of determining whether it is excluded from the Code Section 409A rules.
Employee Welfare Benefit Plans: December 2005 Developments
President Bush has signed legislation that extends the Mental Health Parity Act’s ("MHPA") sunset date until December 31, 2006.
There were no substantive changes made to the MHPA, which provides that group health plans providing mental health benefits cannot impose annual or lifetime dollar limits on mental health benefits that are lower than those for medical benefits. Employers with 50 or fewer employees are exempt.Executive Compensation: December 2005 Developments
IRS advises when pre-2005 stock options and SARs may be safely excluded from the new Code Section 409A rules governing nonqualified deferred compensation.
(IRS Notice 2006-4) Under the proposed guidance for Code Section 409A, issued at the end of September 2005, stock options and SARs generally won’t be deferred compensation under Code Section 409A if they are issued with an exercise price that cannot fall below the fair market value (FMV) of the stock at the date of grant (and the stock right contains no other deferral of income features). The dilemma presented by the proposed 409A guidance has been to know how to apply its guidance on FMV retroactively to stock options and SARs granted before the guidance was issued. In Notice 2006-4, the IRS said that until further guidance is issued, the principles of the Incentive Stock Option ("ISO") rules for determining FMV would apply for purposes of determining whether stock options and SARs, granted before January 1, 2005, were granted at FMV so as to be excluded from the Code Section 409A rules.The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
