401 Chaos

Would appreciate any thoughts on the following. Target company has accelerated vesting provisions that cause options and restricted stock to vest upon a Change in Control (CIC). Target also has a DB-style SERP that provides for accelerated vesting and some accelerated service credit plus automatic payout upon a CIC. The CIC definition is 409A compliant. Buyer, as term of the deal, will retain Target's employees but wishes Target's officers to voluntarily waive their rights to any single-trigger CIC benefits for double-triggers. If Target's officers are willing to do that as part of the deal, can it be safely done under 409A? I wouldn't think amending vesting terms under the options would raise 409A issues per se. Seems neither a modification nor a typical extension of the option here as exercise price does not prolong the period of exercising options. I know 409A doesn't typically govern restricted stock grants but what if individuals on eve of vesting of the shares due to CIC (and thus on the eve of taxable compensation) agree to amend the stock agreements and push back accelerated vesting rights so they only get acceleration if involuntarily terminated within a certain period following CIC? Some will likely stick around and vest on regular schedule without any acceleration but it is possible some will leave, possibly in 2011, which would seems to me may arguably result in a deferral of restricted stock income--i.e., you had a legally binding right to income that would have triggered upon CIC but you pushed back to a later year. If you amend the agreements before CIC is done, can you somehow avoid 409A issues? What about the SERP? Is there any way for individuals to basically turn their back on the additional benefit and lump sum single trigger payments they would be entitled to upon a CIC? If you try to amend before CIC is certain, is that impermissible delay in payment and/or impermissible substitution of the original benefit. General plan would be for participants to get the same benefits as before without any additional increase for agreeing to change or for additional service--i.e., they don't get anything more for agreeing to waive the immediate CIC benefits (other than ability to have amounts deferred) since they would generally be given the right to the same accelerated benefits package if involuntarily terminated. (I suppose perhaps there would be some risk to them in agreeing to the waiver in that the amounts are unfunded so they might not be around at a later date. Also, I suppose the Buyer could terminate the individuals for cause or the officers could voluntarily resign after CIC such that they presumably wouldn't be entitled to the SERP benefits at that time but I don't think the Service would really view risk of forfeiture due to termination for cause or voluntary resignation as a substantial risk of forfeiture. Thanks for any thoughts as to what others have done in these situations. Reply

Thanks. This is very helpful. In this case, the prototype providers seem to be saying that the plan would work to provide the new, enhanced vesting schedule across the board and the plan's auditor is disputing that. It would seem an unusual result to me for the plan to provide for application of the enhanced vesting to former employees but it sounds as if that may be possible (as a matter of plan design or inadvertent drafting). We have not seen the plan documents yet.

Plan historically had a 6 year vesting schedule but shifted to a 5 year vesting schedule when adopting a restated adoption agreement some time ago. The 5 year schedule is in all cases more favorable than the 6 year schedule. A dispute has arisen over the impact of the amended vesting schedule with respect to former employees who were not 100% vested when they separated from service and remained participants in the plan at the time of the amendment. I had always assumed that such former employees should generally be governed by the vesting schedule in place at the time they performed services /received contributions under the plan--i.e., that old money generally tracked old rules. Others say, however, that all participants in the Plan should get the benefit of the new, more generous vesting schedule regardless of the fact that they did not perform any service after the change was adopted. I suppose I could see where a plan could be amended to provide for application of the more generous vesting schedule across the board--to existing employees as well as former employees participating in the plan--but would that be the normal operation / intent of adopting a restated prototype adoption agreement with an enhanced vesting schedule? Couldn't an argument be made that forfeitures of the former employees under the old (less generous) schedule belong to the other participants such that giving them the benefit of the new (more generous) schedule is problematic? And couldn't an argument be made that those unvested participants who just happened to stick around in the Plan after termination instead of taking an immediate distribution or roll-over got a windfall that other former employees who had previously taken money out of the plan did not receive? Thanks for any advice on this.

Not a direct help to the question at hand but this sort of provision can very often be useful from an income tax perspective. I've often seen plans provide for immediate distribution upon separation such that indivdiuals get an immediate distribution in the year they retire (often with a bonus and with a high income) or are terminated (often with significant severance benefits) and so have the distribution taxed at very high rates. In many cases, the individuals would be better (from a tax perspective) anyway if they had the distribution held until the next tax year when they had much less income. Cold comfort for change I know if the participant was not planning on the delay but the best that I can offer on this particular issue.

Hmm. My first thought is that the group policy / contract should have something in there requiring the employer to cooperate with the insurer's reasonable information requests. Also, seems the insurer might be able to threaten cancellation of the policy without cause if it feels the employer is not being honest. I would think though that reminding the employer of the criminal penalties associated with fraud / insurance fraud might be enough to get some movement. We faced something of a similar issue for a group that was covered by COBRA where an individual was involuntarily terminated just before COBRA subsidy started. The HR director properly (in my opinion) said the individual was not eligible. The former employee, however, appealed on some grounds that his severance pay actually should be construed as having him on active payroll. When the DOL came back to the employer to ask for additional information, the HR Director's boss told her not to provide anything to the DOL so the company would not stake itself out on the issue and all the DOL had to go on was the former employee's characterization. In that situation, we worried about what, if anything, the DOL could or would do to the employer for failing to respond. They were persistent in their attempts to follow up with the employer for more information but they didn't get anything. The DOL ruled in favor of the former employee without any issues. I still think the insurer there might have a claim against the employer.

Mike, Can you (or others) elaborate a bit on the procedure here. For various internal reasons plan sponsor would like to file a 5310 for a nonamender as part of a VCP application and would like to do this ASAP before giving 10 days notice. Are there no potential penalties for failing to provide the notice within the required window period? Seems strange they would require that timeperiod if all they are really worried about is making sure that participants have appropriate time to respond. In the case you describe, do you prepare the notice as if you are giving the 10 day notice period but then just go ahead and file immediately upon handing out the notice? Many thanks.

Thanks, I think you put your finger on my concern. For the past few years, the plan has been operated (i.e., employees have been given credit for years of service with old employer) even though the plan document did not provide for that. The plan has an adoption agreement that provides the employer the clear ability to specify prior employers for which service credit is credited but they just forgot to do that on a timely basis (i.e., they've done that for other companies in the past but just didn't add this company to the list). So the plan would permit them to do what they want to do; it just seems to be a failure to operate the plan in keeping with its terms because the plan had not been timely amended to do that? Not sure if that makes sense but seems to suggest you do have to go through EPCRS. My understanding is that in order to get a retroactive amendment under EPCRS you are sometimes required to file for a determination letter on the plan as well. Wondering if EPCRS with determination letter request is required here?

What is the most typical method for correcting a plan's failure to list recently acquired subsidiaries among the list of predecessor employers for which service is credited for vesting purposes? For example, company forgot to timely amend its plan to list a company acquired in 2006 among predecessor companies for which the plan recognizes years of service. Can the plan simply amend the plan retroactively to recognize this past years of service since this is all for the benefit of participants (and actually consistent with the plan's administration) or does this have to be done as a restroactive amendment through EPCRS?

"I don't see any entitlement to amounts not promised. Further, I see a duty to attempt to collect on misapplied funds. Pension plans don't have a capital structure that includes a margin for errors. All the funds are intended for the participants." SoCal, Thanks for your response. I do not necessarily disagree with the broader aspects of your statement and, again, was not trying to stake out a position so much as make an observation. However, I guess I do disagree with you to some degree though in that the individual seemingly was promised the annuity amounts--in the initial pension calculation statements, initial pension election and authorization forms and by way of 7 years of erroneous payments. She's not a client, she's a family friend without significant family resources or any personal safety net to help presently. In short, I just think it sucks that my friend will likely be forced to sell her house (who knows if she even can) in dramatically alter her life at age 73 because of somebody else's mistake. Yes, to allow her to continue receiving the increased amounts would result in a windfall but, to be clear, it is one that she was promised and clearly relied upon. Doesn't forcing her to bear the brunt of that mistake unfairly put the burden on the innocent? What about the individual / company that originally made the calculation mistake, etc. What is their role with respect to the misapplied funds? While you are correct that there are many other innocent victims out there, it strikes me as a bit different where she simply relied on the information and distribution amounts paid to her by the Plan--i.e., she was not taking money and investing with Madoff without due dilligence, etc.

SoCal, Sorry for the confusion. My last post was not so much intended to state a position as to make a general observation. Based on the limited review of caselaw out there, it does seem some courts have been fairly sympathetic to participants who have previously spent distribution amounts in excess of the amounts they should have received and are later contacted by plans seeking reimbursement for those prior distribution amounts. As noted, some courts have specifically indicated that employers are not allowed to reduce future distributons from the same plan in order to recoup the prior overpayments. The courts seem less flexible though on allowing participants to continue to receive the erroneous / greater amounts once a mistake has been discovered. Here, the individual was supposed to receive about $720 per year ($60 per month) but instead received $720 per month. Even if the plan were to forego all the past overpayments and allow the participant to continue to receive the "correct" annuity amounts (i.e., $60 per month) as some of the cases would suggest, the participant is still in a very rough spot because they have not only relied on the mistake with respect to past amounts previously received / spent but also in arranging their retirement expenses for future amounts to be paid. In other words, they decided when to retire, what to spend on their house, etc. based on belief they would have $720 per month rather than $720 per year. It seems likely that it will be much tougher (if not impossible) to make a detrimental reliance argument seeking continued receipt of the erroneous (greater) annuity amounts for the remainder of the participant's life than for the prior overpayments. My point was simply that participants' make very long term plans in reliance on the plan distribution figures they are provided and cannot simply unwind those decisions on a going forward basis if a mistake is discovered.

Thanks to everyone for their thoughts on this. We are enquiring further about the calculation of benefits and how the mistake was made. Hopefully that may delay the employer's unilateral action of reducing all future benefits down to $0 if they do not recevie repayment. The participant here is a good person and feels badly that she may have received amounts to which she wasn't entitled but has, of course, relied on the annuity amounts in not only prior actions spending the money but really with respect to timing of her retirement and the house she and her husband purchased. Although we are hopeful we might avoid having to repay any previous amounts, the truth of the matter is that the couple has been retired for several years, are really too old to return to work, and may have to try and sell their house if the annuity payments are reduced to the correct level going forward. As we read the cases, sounds like it would be a very hard argument to claim that they not only should not repay prior overpayments but have relied to their detriment on the amount of the future annuity payment amounts though.

Sorry for the confusion. The bank is actually the employer / plan sponsor / plan administrator. They may also be the trustee as well--I'm not sure---but I think the mistake presumably happened in the bank's benefits department.

Just looking for any more recent discussion of similar issues on this front but have not found any other more recent posts. I have been asked by a family friend what might be done where big bank has just contacted her asking for return of $50,000+ in over-paid annuity amounts (plus interest) that started back in 2003. (Apparently, the bank had incorrectly coded her annual annuity amount as the monthly benefit amount.) Her last day of employment with the bank dates back to 1980. Although there is some confusing correspondence dating back to 1981 or so that seems to indicate the annual amount but all the correspondence regarding her benefit amount at time of retirement (i.e., around 2003) clearly indicates a monthly benefit amount. Of course, all of this money has been spent and participant decided to stop working shortly after age 65 based on the pension benefit. The bank is offering to work out a repayment plan so she can repay the full amount over the next 2 years in lieu of requiring a lump sum repayment. If she does not repay the full amount, the bank will then start reducing the ongoing annuity amounts owed. Because of the size of the overpayment, however, that will presumably result in a complete reduction of future annuity amounts and still leave an additional balance due to the Plan. I'm guessing that a reduction of the annuity amounts owed is generally permissible here since that's under the same plan. Wonder though if the laches / detrimental reliance argument would be enough to get them to wipe off the overpayment amount yet still continue the annuity payments as the (presumably correct) significantly reduced amount.

GMK, Thanks for your note. I had the sense that the rules (or at least informal IRS guidance before the final rules) led you to a "once 100% always 100%" outcome but I'm not sure that is necessarily correct under the final regulations, particularly with a rehire that was never a participant in the Plan before. Would welcome any thoughts along those lines.

I would be appreciative for any thoughts on the following situation: For years, Plan provided for immediate 100% vesting of employer match. Plan recently switched to 100% vesting after 2 years to be applied to all employees hired on or after January 1, 2008. Previously terminated employee that was 100% vested at the time he left is rehired now after more than 5 years break in service. Does the employee get benefit of his previous 100% vested status? Would the answer change if the individual was eligible to participate in the 401(k) plan when it provided for 100% immediate match but did not do so and so has never been a 100% vested 401(k) plan participant?

Just curious if anyone had an answer (or at least general thought) on this question. Also, I would be curious as to how the grandfathering protection for existing participants works in a rehire situation. If an employee that had been working while the Plan had a 100% match terminated employment and then was rehired after the 5 year break in service, would they be grandfathered / protected with respect to the 100% match or would they be considered the same as a new employee hired after January 1, 2008? (Does the answer change depending on whether they previously participated in the 401(k) and so had a 100% vested account previously versus if they did not previously participate?)

If you have a clear case of gross misconduct--embezzlement for which employee has been terminated and arrested--and are denying COBRA rights under group health plan, any reason the gross misconduct exception would not also apply to bar COBRA continuaton under Health FSA where the employee has a positive balance under the plan? Seems in either case a termination due to gross misconduct is not technically a COBRA "qualifying event" so there would be no right to continued coverage and the Health FSA balance would be forfeited to the extent the individual had not incurred reimbursable medical expenses prior to termination.

I am curious as to others' experience with the most typical style of deferral election form for partners in a partnership with other employees. We have a client (LLC taxed as partnership) that has traditionally provided for partners to elect either a set % of compensation or a flat dollar amount taken from partner draws or distributions. (This generally mirrors the deferral election form used for regular employees which permits employees to elect either a set % or a flat dollar amount to be taken out for each "per pay period." One question is that while employees are paid every two weeks, partners generally receive distributions on a monthly basis thus the two groups have different "pay periods" (setting aside the fact that the partners' self employment income cannot truly be determined until year-end). The real question comes up in that in 2009 partners received some interim draws or distributions (timed around estimated tax dates) in addition to the regular end of the month distributions. Some partners electing a flat deferral amount questioned why 401(k) deferrals were not taken out of these supplemental distributions rather than merely at the end of the month. (Note, partners deferring a % of compensation did have amounts taken out of the supplemental distributions to ensure that the desired percentage of overall compensation was deferred.) Is there any problem or concern with drafting a separate deferral election form for partners which restricts those electing a flat $ deferral amount to having that amount taken out only from regular partner draws at the end of the month (and zero taken out of any supplemental draws) such that those electing to defer a flat $ amount will have that amount taken out once a month (i.e., 12 times a year) regardless of what their overall draw is each month (and regardless how many separate draw payments are made)?

Situtation is this: Employer and employee entered into an employment agreement in 2008 which provides for 12 months of salary continuation paid in substantially equal payroll installments if employee is involuntarily terminated. Severance amounts are based on base pay immediately prior to termination. So, under the terms of the employment agreement, the severance benefits most likely will qualify for an exemption from 409A under the 2 times pay / involuntary termination provision; however, an exemption is not guaranteed because the final salary / severance amounts are not known until termination. (Also, while it is possible that all severance benefits will be paid prior to 2 1/2 months after end of year in which termination occurs, that is not required so the agreement does not ensure short-term deferral exemption.) Employer is now terminating employee. Employer wants to change / enhance severance terms slightly by basically permitting employee to choose as part of the separation agreement whether to receive the 12 months of severance in regular installments or receive an immediate lump sum amount. As it turns out, the employee's current salary is $250,000 so well below maximum amount to qualify for two times involuntary pay exception. Is there a concern that amending the severance provisions under the existing employment agreement could be construed as an impermissible acceleration or substitution of an existing deferred compensation arrangement where all the beenfits will qualify for the 2 times pay exception under 409A anyway? (If the original agreement somehow ensured that the payouts would have in all cases been exempt from 409A--say if it had required payment in all cases within the short-term deferral period--I would not worry as that would have presumably escaped regulation under 409A but here the severance provision seem to provide for deferred compensation arrangement subject to 409A (although possible that it may qualify for an exception depending on actual numbers). Any thoughts would be appreciated.

Let's hope so, although technically I suppose the DOL might take the position that the statute itself limits the ability to retroactively reinstate coverage for transition periods beginning immediately prior to Dec. 17th.

I haven't seen much discussion of this specific issue. Did run across a couple of legal alerts since that suggest there is something of a gap in the statute given the technical definition of transition period that is used here but that it likely was intended to cover folks first exhausting their 9 months of COBRA subsidies on Dec. 31, 2009 as well. Interestingly, the current draft of the model DOL notices that presumably were forwarded to OMB for review would appear to permit retroactive reinstatement of coverage for January 2010 coverage as well as Dec 2009 coverage by noting the following: "Under normal circumstances, you have a grace period of at least 30 days after the first day of the coverage period to make each periodic payment. If you fail to make a periodic payment before the end of the grace period for that coverage period, you would lose all rights to continuation coverage under the Plan. However, the Department of Defense Appropriations Act, 2010 provides an extended period of time for certain periods of coverage. If you have reached the end of the reduced premium period before the legislation extended it to 15 months, you can make a retroactive payment of the reduced premium(s) for the period(s) of coverage immediately following what would have been the last period subject to the premium reduction. This payment must be made by February 17, 2010 or, if later, within 30 days from the date this notice was provided to you."

Thanks. I agree they likely could head off most problems by giving those that lost coverage on Dec 31 notice of the change before the January grace period ends (even if not the full blown notice / discussion that the DOL may eventually provide in its model notices). Just curious though if they really mean to suggest that there would be no retroactive reinstatement for these folks--I know not all employers will get the word out to all these individuals without somebody failing to understand their rights to an additional 6 months of subsidized premiums

Help. I am having a difficult time parsing some of the language in the legislation amending the ARRA subsidy provisions, particularly the definition of a "transition period" contained in the amendment. I do not understand how the notice and retroactive reinstatement provisions apply to individuals who lose their 9 months of coverage today (December 31, 2009) and thus would have to pay the full COBRA premium to continue coverage if not for the amendment. Assume for, example, that an individual was fired at the end of March 2009 and lost coverage April 1, 2009. The individual signs up for COBRA and qualifies for the ARRA subsidy and has been receiving the premium subsidies for the last 9 months (April thru Dec. 2009). The original 9 month subsidy period ends today. Also assume the individual is not aware of the change in law but knows the COBRA premium was supposed to jump to the unsubsidized COBRA rate beginning January 2010. The January 2010 premiums are due the first of Jan but there is a standard 30-day grace period. Thinking he has to pay the full COBRA premium which he cannot afford, the indivdual does not pay COBRA premiums during January and thus loses COBRA coverage for failure to pay the premium during the applicable grace period. Although the individual is entitled to notice of the change in the COBRA subsidy provisions (including the right to receive 6 more months of subsidized premiums), as I read the law, the employer does not have to provide that notice until February 17, 2010. By that time, the individual described above would have failed to pay COBRA premiums for January 2010 and thus lost COBRA coverage by the time he learns of the 6-month subsidy extension. Although the amendment permits certain AEIs who exhaust their 9 months of coverage and fail to elect continued COBRA to have that coverage retroactively reinstated under certain circumstances, my reading of the legislation is that such rights only apply with respect to coverage periods / transition periods beginning prior to enactment of the amendment (i.e., prior to Dec. 19, 2009). To me, that generally means retroactive reinstatement would generally only be available for the December 2009 coverage period (assuming monthly COBRA administration). As such, the definition of "transition period" in the legislation seems to limit rights to retroactively reinstate COBRA coverage to coverage for December 2009--the first month the initial 9-month COBRA subsidy period would expire. Because the January 2010 coverage period begins after enactment of the amendment (i.e., it begins on January 1, 2010 so after the December 19, 2009 enactment date), that coverage period does not appear to be within an AEI's "transition period" as defined in the legilslation. As a result, the retroactive reinstatement rules in the legislation would not appear to expressly apply to January 2010 coverage that lapses before individuals are officially notified that they can pay a reduced premium. That result does not seem correct to me. I fear I must be misinterpreting the transition period definition or missing something else. Could someone please help clarify? Thanks.

Thanks. I like the idea of filing a Form 5308 even though I think we might arguably qualify for an automatic approval (assuming the rules permit an extension rather than merely a shortening of the plan year). Seems we might just leave item 6 blank or otherwise explain that this involves an extension rather than creation of a short plan year.

Jpod, Thanks, that interpretation makes sense to me and would seem cosistent with the rest of the rule. So, under that interpretation you could not have a payout over 6 months in the event of an involuntary termination and 12 months in the case of voluntary termination because that would be two different schedules related to category (3) SFS? Thanks