Peter Gulia

Beyond ERISA, if the advisor has possession of or control, even nondiscretionary control, over another person’s money, this might be unlawful or a violation: if the advisor is not a licensed bank or trust company; if the arrangement is contrary to the advisor’s securities broker-dealer’s procedures; if the advisor is an SEC-registered investment adviser and its custody is not sufficiently disclosed to the SEC and its client, and, for anything not held by a regulated bank or SEC-registered broker-dealer, surprise-audited by an independent public accountant. See, for example: 7 Pa. Stat. §§ 105, 106 https://govt.westlaw.com/pac/Document/N0F685EF06BE411E2B54299305CE1E81B?viewType=FullText&originationContext=documenttoc&transitionType=CategoryPageItem&contextData=(sc.Default) https://govt.westlaw.com/pac/Document/NDECBA6206BE411E28981FA740B828C88?viewType=FullText&originationContext=documenttoc&transitionType=CategoryPageItem&contextData=(sc.Default) 17 C.F.R. § 275.206(4)-2 https://ecfr.federalregister.gov/current/title-17/chapter-II/part-275/section-275.206(4)-2 Further, the employer and responsible plan fiduciary might want its lawyer’s advice about whether it would be liable for an uninsured theft loss.

If you administer both plans and they use the same recordkeeper, why not undo what is mistakenly credited to the 403(b) plan and credit it to the 401(k) plan?

403(b) Answer Book also is available in an Internet-accessed database. Most readers prefer the hyperlink navigation over thumbing through a book.

And my coauthors' work in 403(b) Answer Book (Wolters Kluwer). For guidance on how a church plan or retirement income account might use wider investment opportunities than are allowed for other 403(b)s, it's in my Investments chapter.

Beyond merely avoiding a nonexempt prohibited transaction, an ERISA-governed plan’s fiduciary must discharge its duties and obligations prudently. ERISA § 404(a)(1), 29 U.S.C. § 1104(a)(1). Would a person who acts with the care, skill, prudence, and diligence that would be used by a fiduciary who is experienced in administering a similar retirement plan find this arrangement prudent? One can imagine ways it might be imprudent, especially if more efficient services are available at a reasonable expense and without interfering with the plan’s exclusive purpose. But even if the arrangement might be imprudent: Is a currently-employed participant ready to sue one’s employer? Or is a former employee ready to sue for what happened in recent years? How many ERISA-competent plaintiffs’ attorneys are ready (facing real uncertainty about whether a Federal judge in her discretion would award attorneys’ fees) to sue a small business and its owner? In other ways, there might be a pressure point about whether the “financial advisor” met and meets its fiduciary responsibilities, not only under ERISA but also under Federal and State banking, insurance, and securities laws.

Without knowing or remarking on the particular situation you describe: The Internal Revenue Service allows a method for a claimant to self-certify her hardship without submitting source documents as a part of the claim. Instead, a plan’s administrator or claims administrator relies on the participant’s written statement (made under penalties of perjury). A claimant must pledge to keep her source documents, and to furnish them if asked. But a participant’s breach of that promise won’t tax-disqualify the plan if the plan’s procedure is correctly designed and administered. Internal Revenue Manual 4.72.2.7.5.1 (08-26-2020) https://www.irs.gov/irm/part4/irm_04-072-002#idm140377115475856 The IRS’s without-source-documents method can work if the plan’s administrator and its service providers carefully meet all conditions of the regulations and that method. Under that method, an IRS examiner must not ask for source documents unless: (1) the notice to participants or the claim “is incomplete or inconsistent on its face”; or (2) some participants received at least three hardship distributions in a plan year, there is no “adequate explanation for the multiple distributions”, and the examiner’s manager approves the request for further information. If a plan’s administrator and its service provider design the software correctly, #1 would never happen (except for a paper claim, and then only if the claims administrator is careless). About #2, a plan might limit hardship distributions to no more than two in a year, making #2 not happen. Even if the plan does not limit the number of hardship distributions, #2 might not happen unless abuses are bad enough that the examiner is motivated to do the extra work of getting her manager’s approval. Yet, there is a divergence of opinions about whether it’s wise to use what the IRS calls the summary-substantiation method described in the Internal Revenue Manual. A search in these BenefitsLink forums will turn up a few discussions that air different views.

About your question on nondiscrimination: Internal Revenue Code of 1986 (26 U.S.C.) § 403(b)(1)(D) sets § 403(b)(12) as a condition for § 403(b) tax treatment “except in the case of a contract purchased by a church[.]” https://uscode.house.gov/view.xhtml?req=(title:26%20section:403%20edition:prelim)%20OR%20(granuleid:USC-prelim-title26-section403)&f=treesort&edition=prelim&num=0&jumpTo=true The rule follows the statute. 26 C.F.R. § 1.403(b)-5(d): Church plans exception. This section [26 C.F.R. § 1.403(b)-5] does not apply to a section 403(b) contract purchased by a church (as defined in § 1.403(b)-2). https://ecfr.federalregister.gov/current/title-26/chapter-I/subchapter-A/part-1/section-1.403(b)-5

Here’s a link to class Prohibited Transaction Exemption 92-5: https://archives.federalregister.gov/issue_slice/1992/2/11/5018-5021.pdf#page=2 Among the conditions, the plan must pay no more than the insurance contract’s cash surrender value (or, if less, the participant’s accrued benefit under the plan).

In my experience: If an abandoned-plan investigation is open, EBSA people look at all years’ Form 5500 reports to find names of anyone who was described as acting for the plan’s administrator or sponsor, and anyone EBSA might assert had some role as an officer, quasi-officer, or some other control of the administrator or the sponsor. Sometimes, they also search public-records databases, and commercial databases. Sometimes, EBSA can be assertive. Among other abandoned-plans cases I handled, in one EBSA asserted that a former assistant vice-president who had ended all associations with the employer many years before EBSA’s contact (and also years before the employer/administrator’s business failure and abandoning of the plan) was responsible to administer her former employer’s plan. Even after we showed EBSA proof of her resignations from all possible roles with the former employer, EBSA persisted. They guessed (correctly) that their target would learn that the expense of paying me to fight the Labor department would be much more than the expense of paying me to work the final administration. The recordkeeper and the trustee, also motivated to get rid of the abandoned plan, never questioned that my client lacked authority to instruct them. That sad story told, one imagines EBSA is unlikely to open such an investigation if no participant or beneficiary has complained about being unable to get a distribution.

Without disagreeing with the several observations that the individual described likely is not responsible as the plan’s administrator (and without condoning the service provider’s conduct), it might not follow that the service provider has a responsibility. A service provider’s agreement might provide no obligation to file a Form 5500 report. Further, even if a service provider might volunteer, it might lack authority to file a Form 5500 report. And absent a Federal court proceeding, a service provider might be ineligible to obtain authority to file a Form 5500 report.

What do BenefitsLink mavens think about Lou S.’s idea about sending a bank’s cashier’s check? Would a terminating plan’s administrator succeed in finding a bank willing, in the described circumstances, to issue a cashier’s check? If the payee does not deposit or negotiate the check, is it the bank alone that would have duties under an abandoned-property law?

AbsolutelyOkayPossibly, thank you for your help. Any more observations: Do employers that are users of a preapproved document add provisions beyond those one may choose in an adoption agreement?

As service providers get more experience with choices users of IRS-preapproved documents make in using those documents, here’s two questions I’d like to crowd-source: What percentage of users add an “administrative” provision beyond what’s in the standard documents? What percentage of users add an arbitration provision?

Here are two public-law constraints to meet. 1. ERISA § 404(b) [29 U.S.C. § 1104(b)] commands “maintain[ing] the indicia of ownership of any assets of a plan [within] the jurisdiction of the district courts of the United States.” A rule allows holding securities through intermediaries if enough control is with a sufficiently regulated and capitalized U.S. bank, insurance company, or investment adviser. 29 C.F.R. § 2550.404b-1 https://ecfr.federalregister.gov/current/title-29/subtitle-B/chapter-XXV/subchapter-F/part-2550/section-2550.404b-1 It is common for a U.S. bank or trust company to use non-U.S. subcustodians, depositories, and clearing agencies. 2. Under the Internal Revenue Code of 1986, a tax-qualification condition calls for a domestic trust. A trust, including a § 401(a) retirement plan’s trust, can be a “United States person” trust if (i) a U.S. court can exercise primary supervision over the trust’s administration; and (ii) a United States person has authority to control all substantial decisions of the trust. 26 C.F.R. § 301.7701-7 https://ecfr.federalregister.gov/current/title-26/chapter-I/subchapter-F/part-301/subpart-ECFRbb5a653881cc2c0/section-301.7701-7 It’s feasible to meet that rule without undoing a participant’s power to direct investment, even if the participant is not a United States person. If the plan’s governing documents would provide that “each Doctor is Trustee for her/his account”, the plan’s sponsor and fiduciaries might adjust those provisions regarding a participant who is not a United States person.

But wouldn't a service provider design its software so a hardship claim that is incomplete, internally inconsistent, or logically inconsistent won't process (except for a denial notice)?

The March 2020 discussion describes what a plan might permit without offending ERISA § 408(b)(1) or Internal Revenue Code § 72(p). But a plan’s governing documents (whether a base plan, adoption agreement, trust agreement, or a procedure under a delegation or authority from a governing document or a fiduciary’s powers) might state provisions narrower than what the plan might allow under public law. A document might treat a plan administrator’s approval of a transaction as not final until the administrator’s instruction to its service provider is delivered to the service provider and by it determined to be in good order. That might help avoid a software constraint of the kind Pam Shoup describes (if the service provider processes an instruction on the same day the provider determined the instruction to be in good order).

If you “really cannot abide” what you observed as a lawyer’s violation of our professional-conduct rules, you may—after getting your client’s informed consent—report the misconduct to whichever court (or its disciplinary authority) regulates the misbehaving lawyer. Beyond others, here’s an important caution: Rule 8.3 “does not require” (and does not, by itself, permit) revealing rule 1.6 confidential information. Rule 8.3(c) subordinates a duty to report misconduct to a duty to preserve a client’s confidences. See, for example, In re Ethics Advisory Panel Opinion No. 92-1, 627 A.2d 317 (R.I. 1993) (if a lawyer learns of another lawyer’s misconduct while the observing lawyer represents her client, the duty of confidentiality prohibits reporting the other lawyer’s misconduct without the observing lawyer’s client’s consent, even if the observing lawyer learned of the misconduct from other lawyer’s admission rather than from the observing lawyer’s client). Confidential information is broader than privileged communications. It covers (at least) “information relating to the representation of a client[.]” Rule 1.6(a). Rule 8.3’s comment 2 exhorts the observing lawyer to “encourage a client to consent to disclosure where [investigation of the misbehaving lawyer] would not substantially prejudice the client’s interests.” But the consent must be informed consent. It requires that one “communicate[] adequate information and explanation about the material risks of[,] and reasonably available alternatives to[,] the proposed course of conduct.” Rule 1.0(e). The quotations and paraphrases above are from the American Bar Association’s Model Rules. You would check the rules that govern you.

ratherbereading, to return to your query about what advisors or service providers recommend or suggest to a plan’s sponsor/administrator, there is a divergence of opinions about whether it’s wise to use what the IRS calls the summary-substantiation method described in the Internal Revenue Manual. A search in these BenefitsLink forums will turn up a few discussions that air different views.

EBECatty and John Feldt gave you the answers. If you also want primary sources, some rules for points mentioned above are: 26 C.F.R. § 1.457-2(b) (definition for “annual deferrals”). 26 C.F.R. § 1.457-2(i) (definition for “nonelective employer contribution”, defining it as all deferrals other than an elective deferral, and specially defining it to include what under IRC § 401(k)-(m) would be classified as a matching contribution). https://ecfr.federalregister.gov/current/title-26/chapter-I/subchapter-A/part-1/subject-group-ECFRf2be51fac065c2d/section-1.457-2 26 C.F.R. § 1.457-4 (describing an agreement as a condition for a deferral “by salary reduction”). https://ecfr.federalregister.gov/current/title-26/chapter-I/subchapter-A/part-1/subject-group-ECFRf2be51fac065c2d/section-1.457-4 Employers, advisors, and service providers practically think of amounts set aside for retirement, older age, or severance-from-employment as contributions. Yet, it’s deliberate that these tax-law rules use (even for nonelectives) the word deferral, rather than contribution. For a non-governmental employer’s plan, all “amounts deferred” are an unsecured obligation to pay wages at some later time. 26 C.F.R. § 1.457-8(b) (“In order to be an eligible plan of a tax-exempt entity, the plan must be unfunded and plan assets must not be set aside for participants or their beneficiaries.”). https://ecfr.federalregister.gov/current/title-26/chapter-I/subchapter-A/part-1/subject-group-ECFRf2be51fac065c2d/section-1.457-8

For § 4975, it is never the employee-benefit plan or its trust that owes the excise tax. Under Internal Revenue Code of 1986 § 4975(a), the excise tax “shall be paid by any disqualified person who participates in the prohibited transaction (other than a fiduciary acting only as such).” For § 4975, the instructions say “file Form 5330 by the last day of the 7th month after the end of the tax year of the employer or other person who must file this return.” See table 1 on page 2. https://www.irs.gov/pub/irs-pdf/i5330.pdf Under “Who Must File”, it is “[a] disqualified person liable for the tax under section 4975 for participating in a prohibited transaction (other than a fiduciary acting only as such)[.]” In your situation, ground Form 5330 on the employer's tax year.

Following Revenue Ruling 2014-9, 2014-17 Internal Revenue Bulletin 975 (April 21, 2014), it’s feasible to “reasonably conclude that a potential rollover contribution is a valid rollover contribution” without looking to an IRS letter. https://www.irs.gov/irb/2014-17_IRB#RR-2014-9 And the IRS’s website explanation includes this: “It’s not necessary to obtain a letter from the distributing plan when its qualified status can be checked using the online Department of Labor filing search.” https://www.irs.gov/retirement-plans/verifying-rollover-contributions-to-plans For most § 401(a)-(k) and § 403(b) plans, one looks to Form 5500 data. If the paying plan’s most recent Form 5500 shows any characteristics code that begins with “1” or “2” and does not show code 3C, treat the paying plan as an eligible retirement plan. If an investment or service provider uses a database repackaged from Form 5500 reports, this look-up can be automated. You described a situation about an IRA, which one imagines might not be ERISA-governed. For an employment-based retirement plan, it’s feasible for a service provider to use such a method with no discretion; instead, a plan’s administrator would instruct its service provider to follow a written procedure the plan administrator approves. I don’t know which of the investment and service providers uses such a method. A custodian for a truly individual IRA should be willing to accept good-enough evidence that a rollover contribution is from an eligible retirement plan; if it’s not, the error harms no one but the IRA holder.

A list of sponsors of IRS-preapproved documents is public information and available at the IRS’s website. For example: https://www.irs.gov/pub/irs-tege/ppa_listdc3.pdf. An opinion letter is on an IRS form. I’m curious: If a plan deciding whether to accept a proposed rollover contribution receives a document sponsor’s IRS opinion letter as some evidence that a user’s plan would be a tax-qualified plan, what do they ask for as evidence that the distribution-paying plan’s sponsor adopted the IRS-preapproved document?

EBECatty, consider giving the Treasury department the benefit of your observations. When a rulemaking’s comment period has closed, the agency is not mandated to consider a late-filed comment but nothing precludes considering it, at least for the agency’s internal thinking. In my experience, Treasury lawyers consider even a late-filed comment when it has intelligent and useful observations, as your letter would have.

The Schedule A form uses the word “paid” 31 times. It has one mention of “accrual”, only for counting retention charges on an experience-based contract. And nothing in the Schedule A portion of the Form 5500 Instructions uses the word “accrual” (except to describe a benefit-responsive contract held by an individual-account retirement plan). Not mentioning a choice of accounting methods for Schedule A might have been a considered choice. For example, the Schedule C instructions say: “Either the cash or accrual basis may be used for the recognition of transactions reported on the Schedule C as long as you use one method consistently.”

EBECatty, RatherBeGolfing, and Kevin C, thank you for the further information. For those documents that don’t invite an adoption agreement’s fill-in, only the most determined and careful readers will see a base plan document’s choice of law, fewer will try to negotiate a different provision, and yet fewer will have the bargaining power to get a change. Often, the choice of State law will be practically irrelevant, even for a non-ERISA plan. But when this provision matters, it’s likely to be uncovered after it’s too late for an effective change.