Carol V. Calhoun

Code section 414(k) provides for a combination DB/DC plan. However, I'm trying to figure out whether the DC portion can allow for discretionary contributions. What we're basically trying to do here is to have the contributions to the DC portion go up or down depending on what contributions to the DB portion are required. While I may be able to figure out a formula under which that would happen that does not involve employer discretion, it would be a lot easier just to allow for discretionary contributions. However, while 414(k) talks about a combined DB/DC plan, it does not explicitly provide for a combined pension/profit-sharing plan. (A combined DB/DC could be a DB/money purchase plan, which would still be entirely a pension plan.) For technical reasons, we don't want to have two separate plans. However, it seems to me that if the structure would be allowed in the case of separate plans, it doesn't make much sense to disallow it if the plans are combined. However, I'm particularly concerned because 414(x), which provides for combined DB/401(k) plans, is limited to small employers. I'm wondering whether the negative implication is that other employers can't have combined DB/profit-sharing plans. Has anyone seen any guidance, or had any experience, with this?

If your employer is not governmental, it is extremely unlikely that any plan to which it contributes would be a governmental plan. The only exceptions would be plans that primarily cover employees of governmental employers, but also cover certain entities with a strong connection to a governmental entity (e.g., a union representing governmental employees). Announcement 2011-78. If the employer contributing to the plan is an international organization which is exempt from taxation by reason of the International Organizations Immunities Act (59 Stat. 669), it is considered governmental. This basically covers entities like the World Bank, of which the United States and other governments are members. The Railroad Retirement program provides benefits to individuals who have spent a substantial portion of their career in railroad employment. The plan is treated as a governmental plan. But unless you have specifically been told that you are covered by the Railroad Retirement Act, this would not describe your plan. There is no central list of governmental plans. If there is any doubt whether your plan is a governmental plan, you'd have to ask your employer. If your employer says your plan is not governmental, and you want to challenge that, you'd have to look to Announcement 2011-78 for guidance.

I would agree with QDROphile. There is no need for a whole new plan, just because you are changing investment options, any more than you'd need to start a new plan if you changed investment options under a 401(k) plan. You can just continue the existing plan, but provide that new money will go into the new contracts.

As set forth in the 401(k) regulations, the employee needs to make the election by 4/1/2016. To the extent the plan provides a range, you could do one of two things. You could require an employee, as a condition of employment, to select an option. Or you could have the plan provide for a default option. The default option should be set forth in the plan, rather than just being part of an election form.

Yes, the limits are completely separate. https://www.irs.gov/Retirement-Plans/How-Much-Salary-Can-You-Defer-if-You%E2%80%99re-Eligible-for-More-than-One-Retirement-Plan

Yes, so long as the match is at a rate set forth in the plan, rather than at a rate subject to employer discretion. So if the plan states that there is a 50% match on employee contributions to the 457(b) up to 3% of compensation, you're fine. If the plan states that the employer can decide, in its discretion, whether to make matching contributions each year, you have a problem.

What do you mean by a variable employer match? If the match varies only with the size of the employee contributions, that is considered definitely determinable, because the benefit is not subject to employer discretion. However, if the employer can decide each year whether to make a match, or at what level the match will be, then this would not be appropriate for a NPP. The focus of the definitely determinable benefit rule is avoiding employer discretion over the amount of the benefit. Thus, either the benefit must be stated in the plan (defined benefit plan), or the employer contributions must be stated in the plan and earnings must be credited at actual plan earnings rates. The definitely determinable benefits rule does not preclude employee discretion affecting the amount of the benefit. After all, voluntary employee contributions always increase the size of the benefit. So long as the amount of the employer match is affected only by employee discretion as to the size of contributions, not employer discretion over the amount of the match, the plan satisfies the definitely determinable benefits rule.

The plan can define compensation any way it wants, for purposes of defining what a participant's election means. And in my experience, they typically define it to include the picked-up amounts as compensation, because most employees think of pick-ups as being mandatory employee contributions (even though for federal tax purposes, they are treated as employer contributions). Let's look at it this way: The person who makes $50,000, and whose pick-up is $2,000, could clearly contribute $5,000. If for some reason the IRS were to take the position that the plan's definition of compensation had to be $48,000, the person could simply defer 10.42% of compensation instead of 10%. Why would the IRS care whether the plan said that the person was treated as deferring 10% or 10.42% of compensation? Clearly, the maximum limit is no more than 100% of includible compensation, and includible compensation does not include pick-ups. But the 100% of includible compensation maximum limit is seldom relevant anyway. (It would apply only to someone whose compensation was less than $18,000, and few people with that level of compensation want to put the maximum into a 457 plan.) So what plans often do is to have a definition of compensation for purpose of determining deferrals that includes pick-ups, and a separate definition of includible compensation for purposes of determining the maximum which excludes pick-ups.

No, you do not. Treas. Reg. § 1.415©-1(a)(2)(i) specifies which contributions to defined contribution plan are treated as "annual additions" subject to 415©. They include only contributions to: Thus, a contribution to a 457(b) plan is not part of annual additions for purposes of section 415©.

The permission for governmental plans to self-correct is actually in the statute. The last sentence of section 457(b) states as follows: Thus, you can informally self-correct, without needing to follow the procedures of EPCRS.

I don't know that we even need to get as far as the regulations. 403(b)(1)© provides that in order to be a 403(b) annuity: Thus, to the extent that rights under the contract are subject to a vesting schedule, they are under 403© rather than 403(b). The regulations are of interest only to the extent that they provide that a contract can be bifurcated, so that the nonforfeitable portion is treated under 403(b) and the forfeitable portion is treated under 403©, rather than treating the whole thing as subject to 403© because a portion is forfeitable. 403© provides that benefits subject to that section are taxable under 83(b). And 83(b) has never required that benefits be fully vested upon termination of the plan. My sense is that the primary issue is contractual, rather than under the Internal Revenue Code. The plan by its terms presumably said that the amounts would vest on a particular schedule. If, for example, the plan calls for three-year cliff vesting, an employee who had one year of service at the date of termination, but who attained three years of service thereafter, could argue that his or her contractual rights were impaired if the benefits never vested. So if the plan were fully terminated, such that continued vesting was not possible, you would need to fully vest all employees. However, if the plan were merely frozen, such that employees could continue to vest, this would not be an issue.

So long as the election is a one-time election upon initial hire or first participation in any plan of the employer, they should be fine. The legal issues tend to arise when an employer adopts a new plan (having already had a plan before) or adopts a new contribution formula under an old plan, and wants to allow employees to make new elections at that time. Because such an election is not on initial hire or first participation in any plan of the employer, it cannot be the basis for a pick-up. I would point out that although a one-time election upon initial hire or first participation in any plan of the employer is permitted, it can often create employee relations issues. For example, an employee may elect a high rate of contributions upon hire, but later encounter financial reverses and want to lower the rate of contributions. This cannot be permitted. In some instances, we've seen employees resign and take other employment in order to escape the pick-up obligation and to obtain a distribution of the amounts previously contributed. Conversely, if an employee initially elects a low rate of contributions, but later wants to increase the rate of contributions to obtain a better benefit, any such increase can be allowed, if at all, only on an after-tax basis. Given that an individual may remain in employment for many decades, holding the 60-year-old to an election he or she made at 20 will often strike employees as unfair. And of course, both employees who want to raise their contributions and those who want to lower them may later argue that they did not fully understand the irrevocability of their initial elections. It is critical to ensure that communications with them are fully documented.

The question is whether the increase in the contribution rate is done via "a direct or indirect election," or whether it happens automatically. If employees never had a chance to opt out of the increased contribution (either initially, or when the rates changed), the pick-up can be increased without jeopardizing its status as a pick-up. See Private Letter Ruling 201532036 (May 4, 2015). My understanding is that the IRS will not treat a change in rates mandated by a collective bargaining agreement as an election, unless the situation is abusive (e.g., a collective bargaining unit is set up that covers only one employee). I would be very nervous about having the change embodied in an employment agreement, however. The IRS generally takes the position that a change in an employment agreement is elective on the part of the employee. However, if the original employment agreement gave the employer the unilateral right to change the contribution (or specified that it would be changed if the rate for other employees were changed), there should not be an issue in treating the new rate as picked up. And all of this leaves aside the issue of whether the employer can change the rate of contributions, as a matter of state law. In California, for example, an employer cannot unilaterally change the level of contributions taken out of an employee's wages.

There are actually a couple of issues with that statement. The first is that although governmental plans are not required to comply with section 411, they are often required to comply with interpretations of the state or federal Constitution's impairment of contracts clause that may limit not only reduction of past benefits, but reduction of future benefit accruals with respect to existing employees. Thus, reduction of benefits to comply with 415 limits may not be possible even though 411 does not apply. The other issue is that the judgment in this case required the retroactive benefits. If an individual's annual benefit would have been $210,000, if such individual had been a participant from the beginning, I doubt the court would consider the judgment complied with if the individual ended up with a $21,000 benefit due to reductions to comply with 415(b). However, I would agree with your common sense approach. Certainly, if ECPRS applied, the overriding principle is to put the person back into the position that s/he would have been in had the employer done the right thing from the beginning. I would argue that a VCP submission is not required (because the employer complied with the plan's terms to begin with, and simply made a retroactive amendment to the plan to comply with the judgment). But I still think the spirit of the ECPRS rules is that fixing an error should not get you into trouble.

The judgment didn't discuss this at all. However, the client is not in a position to appeal the judgment. I don't know whether that question was dealt with. The client handles a lot of things internally, and just asks me questions when they get too complicated for in-house counsel. The plan is clearly governmental, so not ERISA. (I looked at ERISA regulations only because anything those regulations required would presumably not be in violation of Code qualification requirements, but it is clear that ERISA would not apply directly.) And the client is not in a position to appeal the judgment.

I don't know that there is a clear rule on this. The statute provides that the limit will not apply to eligible participants (those hired before 7/1/93) if the plan had no limit on 7/1/93, and was amended after that date to incorporate the limit with respect to noneligible participants for plan years beginning after 12/31/95 (or earlier, if the plan amendment so provides). However, in this case, the same amendment applied the limit to eligible and noneligible participants alike. I'm not sure whether you could now go back and amend that amendment, and still retain the grandfather. One thing you might want to look into, depending on the state, is whether there was any Constitutional bar to decreasing the rate of benefit accruals for existing participants. Courts in about two-thirds of the states have held that state or federal Constitutional provisions stating that “[n]o state shall enter into any…Law impairing the Obligation of Contracts” preclude cutbacks of future benefit accruals, not just existing accrued benefits, for existing employees. (The special grandfather rule for governmental plans actually exists for this reason--because many governmental plans could not constitutionally impose 401(a)(17) on their existing employees.) If your state has such a provision, you might be able to argue that the part of the amendment relating to eligible employees was void from its inception, because it violated the state or federal Constitution.

They are a governmental plan, so 410(b) was not an issue.

I think I know the answer to these questions, but I'm having a hard time finding specific citations. Facts: Employer has a defined benefit plan. It has a number of people whom it has classified as independent contractors, and thus has not included in the plan. A judgment is entered against it saying that these people are employees, and thus need to be retroactively included in the plan. (The plan specifically states that individuals who are employees but have been characterized as independent contractors by the employer are not to be included, but the judgment just blew by that argument.) Question 1: In calculating the 415(b) limit, should an individual's years of participation in the plan include the years the individual should have been included under the court's theory, or only those years in which the individual participated after the court's judgment? For example, suppose that the individual worked for 10 years before the judgment, but terminates employment a year after the judgment. Is the 415(b) limit $210,000 (reflecting the years worked for which s/he receives credit), or $21,000 (reflecting only the year following the time the individual began participation in the plan)? Common sense would appear to say that all years should be counted. This would reflect the rule for annual additions, which are counted for the year for which they are made rather than the year in which they are made. Treas. Reg. § 1.415©-1(b)(6)(ii)(A). It would also reflect the rule for back pay, that: Publication 7001, page 3. And it would be consistent with the rule of ERISA Reg. § 2530.200b-2, which treats back pay as giving rise to hours of service for the year to which it relates, not the year in which it is paid. However, I have been unable to find any direct authority dealing with the calculation of the 415(b) limit in our situation, which does not involve back pay. Question 2: Is there any obligation to go in under VCP in this situation? I can think of two arguments that VCP might be necessary: either that the plan is now being operated in a way inconsistent with its terms (because the plan terms say that the plan is not to include people characterized by the employer as independent contractors, even if they are later found to be employees) or that these individuals were erroneously excluded from the plan in prior years. However, this seems unnecessarily harsh if the failure to abide by the plan terms comes due to a judgment, and if the employer corrects the exclusion for prior years promptly after issuance of the judgment.

All contributions to a 457(b) plan are subject to FICA taxes on the later of the date contributed or the date when they become vested. No distinction is made between employer matches and employee pretax deferrals. See Code section 3121(a)(5), as modified by Code section 3121(v)(3). One way of getting around this issue is to have the employer match made to a 401(a) plan. Doing so also means that the employer contributions are not considered part of the amount subject to the $18,000 annual limit. Of course, the question is whether the employer contributions are substantial enough to make the administrative costs of setting up a different plan (if the employer does not otherwise have a 401(a) plan) worthwhile.

No. A 457(b) plan and a 401(a) plan cannot be merged. The only way money from a 457(b) can be moved to a 401(a) plan, or vice versa, is if the employees are permitted to take their distributions in cash, and instead choose to have their money rolled over to the new plan. The IRS says: Thus, an employee could get a distribution from the 457(b) plan which the employee could roll over to the 401(a) plan, but no direct merger would be possible.

Neither definition seems to reference the 1,000 hours requirement, and as you point out, it would be possible to get 1,000 hours of service in a year without meeting the plan's eligibility requirements. I would contact TIAA to ask why their document appears to be out of compliance with ERISA. Could they have believed that this was a non-ERISA plan (governmental or church plan)?

PIT Bulletin 2005-04 states as follows: Because the focus is on whether the amount is deducted from the employee's compensation, not on the type of plan to which it is contributed, an employer match should not be subject to Pennsylvania state tax. That being said, at the federal level, the employer match to a 457(b) plan is subject to the $18,000 limit on total contributions. This contrasts with a 401(k) or 403(b) plan, in which only employee deferrals are subject to the $18,000 limit. Thus, if we're talking about a governmental 457(b) plan, it may make sense to have the employee deferrals made to the 457(b) plan, but the employer match made to a 401(a) plan. Of course, this doesn't work for a 457(b) plan of a nongovernmental employer.

I can't see why a lesser limit would be a problem. A 457(b) plan is not subject to any kind of discrimination rule, so you don't have to worry about that part. And 457(b) merely states that deferrals in excess of the limits are not allowed; it doesn't require you to permit deferrals up to the limit.

Whether a $350k or $265k limit applies in the case of elective deferrals is really a moot point. The individual with compensation of $350k could defer the maximum ($18,000) even if only compensation below the 401(a)(17) limit were considered, so it really doesn't matter whether you treat his compensation as $350k or $265k. For example, suppose that the person elects to have 5% of $350k deferred. At the end of the year, he will have deferred $17,500, which is less than the lesser of a) 100% of compensation (even counting only 401(a)(17) compensation), or b) $18,000, so he's still within the limit. All he's done by stating the deferrals as 5% of compensation is a timing issue--having the deferrals taken out ratably throughout the year rather than front-loading them so he will max out as early in the year as possible. I suppose the result could be different if the plan actually limited elective deferrals to 5% of compensation for all employees. However, I have never seen a plan that limited elective deferrals to a greater extent than the statute provides. If nothing else, a limitation on the amount of elective deferrals might give rise to issues concerning whether the universal availability test was met (an issue on which I express no opinion).

So the idea is that although the employer could allow distribution of rollover amounts for any reason, it wants to limit such distributions to hardship situations? That is certainly legal. (You can always have a more restrictive distribution policy than the IRS would require.) The real question is an employee relations one. Employees always have the ability to leave their money in a prior employer's plan, or roll distributions from the prior employer's plan to an IRA instead of to your plan. If you impose substantial restrictions on distributions of rollovers from your plan, employees may be substantially less likely to roll money into your plan in the first place. Of course, the employer may or may not care about that.