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Guest Article
(From the November 22, 2010 issue of Deloitte's Washington Bulletin, a periodic update of legal and regulatory developments relating to Employee Benefits.) "Unforeseeable Emergency" Distributions Are Expanded for 457(b) PlansA recent Revenue Ruling interprets the Code § 457(b) provisions, which allow distribution in the case of an "unforeseeable emergency," to allow a distribution to pay for the repair of a participant's principle residence damaged by a water leak, and for the funeral expenses of a participant's non-dependent adult child. Unforeseeable Emergency Distributions under Code § 457(b) Under Code § 457(b), an eligible deferred compensation plan is allowed to make distribution only in specified circumstances - including when the participant is faced with an "unforeseeable emergency." Treasury regulations specify that an unforeseeable emergency is a severe financial hardship of the participant or beneficiary that results from any of the following:
Examples in the last category include imminent foreclosure or eviction from the primary residence, medical expenses, and the funeral expenses of a spouse or dependent under Code § 152(a). They do not include the purchase of a home or the payment of college tuition. Whether an unforeseeable emergency exists is determined based on the relevant facts and circumstances, and distribution may not be made to the extent the emergency can be relieved through other resources (e.g., though compensation from insurance or otherwise, by ceasing deferrals under the plan, etc.). Moreover, the distribution cannot exceed the amount reasonably necessary to satisfy the emergency need - although it may include the amounts necessary to satisfy federal, state and local income taxes and penalties. Plans are not required to allow distribution for unforeseeable emergencies and, if allowed, need not permit distribution for all of the potential types of unforeseeable emergencies. Newly Identified Emergencies Revenue Ruling 2010-27 addressed two factual situations as potential "unforeseeable emergencies" that would permit distribution under Code § 457(b)(5): to pay for the cost of repair to the participant's principle residence after significant water damage from a water leak, and to pay for the funeral expenses for the participant's adult son who was not a dependant under Code § 152(a). In terms of the water leak, the IRS reasoned that the regulations authorize distribution in other similar extraordinary and unforeseeable circumstances arising as a result of events beyond the control of the participant. It concluded that this circumstance was sufficiently similar.
Likewise, with regard to the payment of funeral expenses for a non-dependent adult son, the Revenue Ruling concluded that the circumstances were sufficiently similar to those described in the regulation.
Not surprisingly, a third situation, in which the participant sought to pay off accumulated credit card debt, did not constitute an unforeseeable emergency that would permit distribution under Code § 457(b) according to the Revenue Ruling. This was because the facts failed to indicate that the circumstance was an unforeseeable emergency that arose out of events beyond the control of the participant. Application to Code § 409A Deferred Compensation The Revenue Ruling noted that the definition of "unforeseeable emergency" under Code § 409A is substantially similar to the definition under Code § 457(b). Therefore, it advised that the principles and rulings under the Revenue Ruling would also apply to the payment of amounts deferred under a nonqualified deferred compensation plan subject to Code § 409A which allows for payment on account of an unforeseeable emergency.
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