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Does the addition of 457(g) protect 457(f) assets?


Guest David Scott
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Guest David Scott

With the amendment of 457 through the SBJPA of 1996 to add paragraph (g), does this mean that 457(f)assets could be protected from the bankruptcy of the sponsoring entity?

Regards,

David

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Guest CVCalhoun

Actually, it has always been true that assets in a deferred compensation plan not described in section 457(B) can be protected from the claims of the employer's creditors. Technically, if you do this, the plan is described in section 83, and therefore is not described in section 457(f) due to section 457(f)(2)©. However, the income tax consequences under section 83 are virtually identical to those under section 457(f). The differences between the two sections primarily relate to income tax withholding. A recent Technical Advice Memorandum states that an amount which becomes taxable due to section 457(f), but which has not been actually or constructively received, is not subject to income tax withholding. See full text, below:

====== FULL TEXT ======

Index (UIL) Number: 457-00-00, 3121.16-00, 3401.01-00

Date: October 2, 1998

INTERNAL REVENUE SERVICE

NATIONAL OFFICE TECHNICAL ADVICE MEMORANDUM

CASE MIS Number: TAM-108593-98

District Director: * * *

Taxpayer's Name: * * *

Taxpayer's Address: * * *

Taxpayer's Identification No: * * *

Year Involved: * * *

Date of Conference: * * *

LEGEND:

Taxpayer = * * *

Employer = * * *

Year = * * *

Contract = * * *

State X = * * *

[1] ISSUE(S):

1. Whether Employer's Contract provides for severance pay or deferred compensation?

2. If Contract provides for deferred compensation, whether the amount payable to a teacher at retirement is subject to a substantial risk of forfeiture as defined in Internal Revenue Code section 457(f), where the teacher has satisfied the "rule of 73" eligibility requirement under Contract, but can be terminated "for cause", thus forfeiting the payments due at retirement?

3. If Contract provides for deferred compensation, whether the amount payable under Contract is includible in gross income in the year a teacher satisfies the "rule of 73" regardless of whether a teacher actually retires at that time and regardless of whether the amount is not paid or made available until a teacher actually retires?

4. Whether the benefits are subject to Federal Insurance Contribution Act ("FICA") tax under section 3121(v)(2) in the year that the "rule of 73" is satisfied?

5. Whether the benefits are subject to federal income tax withholding under sections 3401 and 3402 at the time that the "rule of 73" is satisfied?

[2] CONCLUSION:

1. Contract provides for deferred compensation and is subject to section 457 of the Code. Contract is not an eligible plan under section 457(B), and is therefore an ineligible plan subject to the requirements of section 457(f) of the Code. Under section 457(f) of the Code, compensation deferred is includible in gross income in the first year that a participant's right to the compensation is not subject to a substantial risk of forfeiture as defined in section 457(f).

2. The amount payable to a teacher at retirement under Contract is not subject to a substantial risk of forfeiture as defined in section 457(f), once the teacher has satisfied the "rule of 73" eligibility requirement under Contract, even though the teacher can be terminated "for cause", thus forfeiting the payments due at retirement.

3. The amount payable to a teacher is includible in his or her gross income in the year a teacher satisfies the "rule of 73" and the amounts are no longer subject to a substantial risk of forfeiture, regardless of whether the teacher retires at that time and regardless of whether the amount is paid or made available at that time.

4. Benefits under Contract are not required to be taken into account for FICA tax purposes under section 3121(v)(2) in the year that the "rule of 73" is satisfied.

5. Benefits under the Contract are not subject to income tax withholding at the time they are included in income under section 457(f).

FACTS:

[3] Employer is a school district in State X. Employer is a separate political subdivision under the laws of State X. Employer, as a political subdivision of State X, has only those powers and authority granted by statute, or necessarily implied therefrom. Employer has for many years had the authority to offer "severance payments" as described and defined within State X's statute. This memorandum refers to the payments as "severance" only to reflect the language used in Employer's contracts, and not to state any conclusion as to the character of the payments. In addition, the terms "agreement" and "contract" are often used interchangeably.

[4] Employer initially negotiated a severance provision with its teachers for the 1974-1975 period. Under these first agreements, Employer would pay severance (equal to an amount representing 25 days' pay PLUS an amount equal to 25f an eligible teacher's unused sick leave days, not to exceed 25 days' pay) to a teacher upon retirement from the school district provided the teacher had completed 20 years of service, and had attained at least 55 years of age. Both components of the severance pay were subject to a proration formula which decreased the benefit by 20or each year that the teacher exceeded age 60 at the end of the school year in which retirement occurred. In addition, no benefit was payable if the teacher was age 65, or older, at the end of the school year in which retirement occurred. Benefits were to be paid in equal annual installments over a period of time not to exceed five years from the effective date of retirement. The benefit was not granted to any teacher who was discharged "for cause" by Employer, as defined under State X's "continuing contract law." No teachers have ever been terminated or discharged for cause in Employer's school district, although teachers have been discharged "for cause" in other school districts in State X.

[5] The severance benefit was increased in the 1975-1977 agreement, so that a teacher could receive a benefit representing 50 days' pay and 50f unused sick leave, not exceeding an amount representing 50 days' pay. All other provisions remained the same. Starting in 1977, State X also authorized Employer and other school districts in State X, by state statute, the opportunity to provide its teachers with an "early retirement incentive," of up to $7500, payable to any eligible teacher between the ages of 55 and 65 (with at least 15 years of teaching service) who actually terminates service with a school district in State X. The $7500 amount is reduced by $375 for each year that a teacher is over the age of 55 to a maximum age of 60, and by an additional $1,125 for each year that a teacher is over age 60.

[6] In the 1981-1983 agreement, the eligibility requirement for the severance benefit was changed from 20 years of service to 18 years of service. In addition, an eligible teacher could now receive 60f unused sick leave, not to exceed an amount representing 65 days' pay. Finally, a death benefit was added whereby if a retired teacher died before all or a portion of the severance pay was disbursed, the balance would be paid to a named beneficiary or the decedent's estate.

[7] The 1987-1989 contract increased the period of time that a teacher was eligible to receive full severance benefit, so that the prorated 20eduction of benefits began at age 62. The effect of this change was that a teacher was still eligible to receive 20rather than 0of severance pay at age 65. The 1989-1991 contract made a few more minor adjustments. The sick leave component dropped the cap of 65 days, and an eligible teacher could receive 60f his or her total number of unused sick leave (out of a possible 120 day sick leave accumulation.). Consequently, an amount representing up to 72 days of sick leave pay could be provided by Employer. Additionally, the contract now provided for payment to be made over a period not exceeding (5) years from the effective date of retirement, instead of requiring equal annual installments over that same time period.

[8] The 1991-1993 Contract substantially modified the severance

benefit. The title of the r

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