IRS has proposed new Code Section 415 rules regarding limitations on benefits and contributions under qualified retirement plans. The proposed rules, according to the IRS press release, consolidate past changes in law related to Code Section 415 and provide additional guidance intended to answer questions for plan sponsors and administrators. The original regulations were issued in 1981. The proposed rules are expected to go into effect for plan years beginning in 2007. The newly proposed regulations, called "Limitations on Benefits and Contributions Under Qualified Plans (May 25, 2005)," may be viewed at:
http://www.treas.gov/press/releases/reports/13024104.pdf.
Of the many clarifications in the proposed Section 415 regulations, one of the more interesting concerns the treatment of amounts paid following severance from employment (i. e., when an employee has ceased to be an employee of the employer maintaining the plan). The proposed regulations clearly state that "severance pay" cannot be considered to be compensation for purposes of Section 415. Other payments made after severance from employment are also generally excluded from being considered to be compensation for this purpose, but there are a few exceptions. One of the exceptions is for the payment of regular compensation, overtime, commissions, and bonuses within 2 ½ months after severance from employment. This exception is not a back-door to including severance pay as compensation under Section 415, though. It only applies to amounts that were earned prior to severance from employment. Another exception is for payments to an individual who is in qualified military service.
The proposed regulations also make clear that this definition of compensation applies for purposes of Code Sections 401(k), 403(b), and 457(b). Accordingly, if adopted in their current form, the proposed regulations would prohibit salary reduction contributions from being made out of severance pay.
IRS intends to focus on enforcement, according to IRS official addressing the Great Lakes Benefits Conference in Chicago on May 5th.
Carol Gold, Director of Employee Plans for the IRS's TE/GE Division, said that "enforcement efforts have suffered in recent years," and that IRS is increasing enforcement while maintaining its current level of service. The focus will be on deterring abuse of the rules and their misuse by third parties for tax avoidance and other unintended purposes, and ensuring that attorneys, accountants, and other tax practitioners adhere to professional standards and follow the law. Gold identified Subchapter S corporations and related employee stock ownership plans, Code Section 401(k) plans with accelerated deductions, and Code Section 412(i) plans as areas of special interest. She noted that there were 14,000 employee plan examinations in 1999 and just 6,000 in 2003. In the current fiscal year, employee plan examinations are up 38%. The IRS expects to make 9,000 examinations of employee plans this year and 12,000 next year.Form 5500 season is approaching for calendar year plans, since 2004 annual reports are initially due to be filed at the end of July. This may be a very good year to scrutinize those forms more closely than in recent years, before they are signed and filed, to identify in advance any red flags that might attract the attention of the IRS.
The SEC has issued a staff report regarding conflicts of interest among pension consultants that has been commended by the Department of Labor. The SEC report assesses the activities of 24 SEC-registered investment advisers who provide consulting services to pensions, including their compliance with the fiduciary standards of the Investment Advisers Act. A guiding principle of the Investment Advisers Act is full disclosure to the client of any conflicts of interest which might incline the investment adviser, whether consciously or unconsciously, to render advice that was not disinterested. Part II of Form ADV is typically offered to all advisory clients at the beginning of the relationship and annually thereafter in fulfillment of this disclosure obligation. The SEC report indicates that pension consultants typically have business relationships with both pension plans and money managers (among others) and that these relationships may represent conflicts of interest that are often not properly or completely disclosed.
An interesting comment by the SEC staff is that pension consultants frequently emphasize in their material that they are not ERISA plan fiduciaries, in their role as pension consultants, but they do not seem to realize the significant extent of their fiduciary duties under the Investment Advisers Act. The SEC staff report is available at:
http://www.sec.gov/ Click through Special Studies under the heading f News and Public Statements.
As might be expected, the SEC staff report was warmly received by the Department of Labor, which is responsible for enforcement of the fiduciary conduct rules of ERISA applicable to pension plan fiduciaries. The Labor Department points out that, under ERISA, plan fiduciaries must act prudently in selecting and monitoring service providers and that disclosure of a service provider's potential conflicts of interest "would be an important part of the selection and monitoring process." The Labor Department's comments are at:
http://www.dol.gov. Click through Newsroom and then Current News Releases.
One effect of the regulators' new emphasis on full disclosure by pension consultants and money managers is that new information is beginning to flow to plan fiduciaries from these sources. That information may satisfy the regulatory scrutiny for those service providers, but ERISA fiduciaries are cautioned not to ignore this information. A new tool to assist ERISA fiduciaries in evaluating the objectivity of their pension consultants' recommendations, in the form of 10 very pointed questions that should be asked, has been prepared jointly by the Labor Department and the SEC. It is called "Selecting and Monitoring Pension Consultants: Tips for Plan Fiduciaries." A copy is available online at:
http://www.sec.gov/investor/pubs/sponsortips.htm.
Employee Welfare Benefit Plans: May 2005 Developments
In Notice 2005-42, the IRS permits employers to design their cafeteria plans so that participants can be reimbursed for claims incurred up to 2 ½ months after the close of the plan year. This extends the "use it or lose it" period to 14 ½ months for each year.s salary reduction amount. Although this change may complicate plan administration, it should reduce forfeitures by plan participants and, therefore, would be a popular plan change with participants. An employer may adopt the grace period authorized in the Notice for its current cafeteria plan year (and subsequent cafeteria plan years) by amending the cafeteria plan document before the end of the current plan year.
A recent Department of Labor Advisory Opinion serves as a reminder of an obscure feature of the final ERISA claims procedure regulations.
Advisory Opinion 2005-06A addresses the question of whether the special claims procedure requirements for disability benefits apply to accidental death and dismemberment (AD&D) insurance benefits, or whether the regular claims procedure rules apply. In answering the question, the Labor Department referred to its "Frequently Asked Questions about the Benefit Claims Procedure Regulations, Q & A 9," which advises: A benefit is a disability benefit subject to the special rules for disability claims if the claims adjudicator must make a "determination of disability" to decide a claim. A determination of disability, according to the Labor Department, involves a determination regarding an individual.s ability to engage in gainful activity due to a physical or mental impairment. With respect to AD&D benefits, the Department concluded, no determination of disability was required so the regular claims procedure rules apply.As a reminder, the special claims procedure requirements for disability benefits do apply, for example, to retirement plans where full vesting is awarded upon the occurrence of disability, unless the disability determination is made by a party other than the plan (e.g., the Social Security Administration).
Executive Compensation: May 2005 Developments
The provisions of the American Jobs Creation Act of 2004 ("AJCA") regulating nonqualified deferred compensation plans apply to many Code Section 457(f) plans, typically sponsored for executives or highly compensated employees of tax-exempt organizations.
As you are identifying plans affected by AJCA and new Code Section 409A, you should keep Code Section 457(f) plans in mind. For the most part, these programs are unlikely to qualify for "grandfathering" under AJCA. Employers should be considering the implications of the new law on any 457(f) plans (and all other nonqualified deferred compensation plans) and remain alert for the next round of guidance from the IRS (expected to be issued in June) so that any necessary action may be taken by December 31, 2005.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.
