IRS Issues Guidance on PPA Distribution Changes

• Direct or Indirect Rollover Permitted. A rollover to a Roth IRA can be accomplished either by a direct rollover or by a plan distribution which is followed by a rollover within 60 days.
• Taxable Income. With a rollover to a Roth IRA, the individual must include in gross income the amount that would be includible if the rollover did not occur.
• Early Distribution Tax Does Not Apply. Even though amounts are included in gross income, the 10 percent early distribution tax under IRC § 72(t) does not apply to the rollover. It will apply, however, if the taxable amount rolled into the Roth IRA is distributed within 5 years.
• $100,000 Adjusted Gross Income Limit. For 2008 and 2009, a taxpayer is not permitted to rollover a distribution from an eligible retirement plan (other than a Roth IRA) to a Roth IRA if the taxpayer has modified adjusted gross income over $100,000 or is married and files a separate return. Presumably, such an individual would elect a rollover to a traditional IRA and, when permitted, convert the traditional IRA to a Roth IRA.

  Technical Corrections to PPA, when finalized, will hopefully narrow the application of this limit so that it applies only to prohibit rollovers that involve amounts which become taxable (e.g., conversions of non-Roth IRAs to Roth IRAs), and not to rollovers that involve amounts which do not become taxable (e.g., rollovers from IRC § 403(b) and designated Roth accounts). Currently, the income limit prohibits both rollovers.

• Direct Rollover Election Required. A qualified plan must permit the distributee to elect a direct rollover to a Roth IRA (subject to existing exceptions for small amounts and multiple distributions).

  PPA added new IRC § 402(c)(11) which provides for direct rollovers for nonspouse beneficiaries. Technical Corrections to PPA, when finalized, may clarify the plan's obligation to provide these direct rollovers. IRS initially interpreted the new provisions to allow but not require non-spouse direct rollovers, then reversed that position in anticipation of technical changes, then again reversed its position in this Notice. Under this Notice, a plan is permitted but not required to offer direct rollovers to non-spouse beneficiaries.

• Administrator Not Responsible for Determining Eligibility. The plan administrator is not responsible for determining whether the distributee is eligible to make a rollover to a Roth IRA. If the distributee is mistaken and turns out to be ineligible, the rollover to the Roth IRA can be corrected by transferring it to a traditional IRA or other appropriate eligible retirement plan before the individual's tax due date.
• Withholding Not Required in Direct Rollover. Direct rollovers are not subject to the 20 percent mandatory withholding requirements. This same rule applies to direct rollovers to Roth IRAs, even where the direct rollover results in taxable income to the distributee. Voluntary withholding is permissible.

• Existing Optional J&S Annuity May Be Sufficient. A plan which already provides a compliant optional joint and spouse survivor annuity, with the survivor percentage required for the QOSA and which is at least actuarially equivalent to the single life annuity payable under the plan, will satisfy the requirement. In this case, the plan need not be amended (nor its administrative procedures modified) to designate the optional form as a QOSA.
• Need Not Be Actuarially Equivalent to the QJSA. The QOSA must be at least actuarially equivalent to the single life annuity payable at the same time, and need not be actuarially equivalent to a more valuable QJSA.
• Spousal Consent May or May Not Be Required. Where the QOSA is actuarially equivalent to the QJSA, no spousal consent is required for the participant to elect it. However, where the QJSA is more valuable, spousal consent is required.
• Existing Written Explanation Requirements Apply. The QOSA is an optional form of benefit and the written explanation requirements of Treas. Reg. § 1.417(a)(3)-1 apply. The written explanation need not identify the QOSA as such.
• No Requirement to Provide QPSA based on the QOSA. There is no requirement that an alternative to the qualified pre-retirement survivor annuity be offered based on the QOSA.
• 2009 PPA Deadline Applies for Amendments But No IRC § 411(d)(6) Relief. Amendments implementing the QOSA need not be adopted until the end of the PPA amendment period (i.e., generally, the last day of the plan year beginning on or after January 1, 2009) and will be retroactively effective as of the PPA effective date as long as the plan is operated in accordance during the interim period. However, the anti-cutback provision of IRC § 411(d)(6) still applies, so the elimination of a distribution form or subsidy in connection with the implementation of a QOSA would need to satisfy IRC § 411(d)(6) and could not be adopted retroactively.

• Formula Utilizing More Favorable of Pre- and Post-PPA Present Value Will Comply. The "at least as valuable" QJSA requirement will not be violated if the amount payable under a form subject to § 417(e) is calculated as the "more favorable of" that determined using pre-PPA interest and mortality assumptions and that determined using post-PPA interest and mortality assumptions. This special treatment expires at the end of the amendment period specified under PPA § 1107(b)(2)(A) (i.e., generally the last day of the 2009 plan year or, if earlier, the date the amendment is adopted).
• 2nd Plan Amendment May Qualify for PPA Amendment Period. Although PPA §1107 provides a general deadline of the last day of the 2009 plan year for the adoption of amendments to comply with PPA, the deadline expires on the date the amendment is adopted, if earlier. Subsequent amendments with respect to the particular PPA provision are not treated as adopted pursuant to PPA §1107 (and are subject to the deadlines otherwise applicable to the adoption amendments and the limitations of IRC § 411(d)(6)). An amendment that provides for using the more favorable of the pre-PPA and post-PPA interest and mortality assumptions would constitute a PPA amendment for this purpose, thereby ending the PPA amendment period for that change. To avoid problems, IRS established the rule that, for purposes of determining whether an amendment that implements the PPA applicable interest rate and applicable mortality table is the first amendment, amendments adopted on or before June 30, 2008 will be disregarded.

  Therefore, if the plan is amended to provide the "greater of" formula on or before June 30, 2008, and is later amended to provide only the PPA formula, the latter amendment will qualify for the PPA amendment period and related IRC § 411(d)(6) relief provided under PPA § 1107.

  The same relief applies to plan amendments that replace a plan reference to a pre-PPA interest or mortality assumptions with the PPA interest or mortality assumption, regardless of whether PPA requires such amendment (e.g., where the assumptions are used to calculate the amount of a benefit not subject to the present value requirements of IRC § 417(e)).

• Cycle B and C Plan Must Include Gap Earnings Provisions. Plans submitted in Cycle B or C are required to provide for distribution of gap earnings. A sponsor of a plan submitted prior to March 24, 2008 that does not provide for gap earnings will be asked to amend the plan to so provide. (How plans submitted on or after March 24, 2008 will be handled is unclear.)
• Interim Amendment Not Required. An interim amendment to provide for gap earnings is not required to be adopted until the last day of the first plan year beginning on or after January 1, 2009. However, the plan must be in operational compliance and distribute gap earnings with excess deferrals effective for excess deferrals attributable to taxable years beginning on or after January 1, 2007.

If you have any questions or need additional information about articles appearing in this or previous versions of Washington Bulletin, please contact: Robert Davis 202.879.3094, Elizabeth Drigotas 202.879.4985, Mary Jones 202.378.5067, Stephen LaGarde 202.879-5608, Erinn Madden 202.572.7677, Bart Massey 202.220.2104, Mark Neilio 202.378.5046, Martha Priddy Patterson 202.879.5634, Tom Pevarnik 202.879.5314, Sandra Rolitsky 202.220.2025, Tom Veal 312.946.2595, Deborah Walker 202.879.4955.

Copyright 2008, Deloitte.

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