Carol V. Calhoun

Most of our employers are making at least some effort to educate employees on all of the limits as a routine matter, particularly where there are multiple plans. The reason is that an employer has potential liability for taxes which should have been withheld if contributions above the maximum are made. The IRS seems to be taking the position that it will not impose this liability if the employer makes a reasonable effort to verify compliance. It is not clear how much effort is required in order to be reasonable (which is probably a factual determination anyway), but some basic guidance to not only this employee, but all employees covered by the plan, is probably a good idea. While I never endorse a particular vendor, I know that one of the members of this board, Harvey Carruth, sells software for this purpose, and there may be others.

Yes, given that this is a church plan.

A 403(B) would not be available for a city government, since the employer must be an organization tax-exempt under Code section 501©(3), or a public school or university. A city government would be neither. Of course, if the city also runs the schools, employees of the schools could be covered by a 403(B). I would concur in Everett's suggestion, if permitted by applicable state and local law. A 457 plan for pretax employee contributions, plus a 401(a) plan for the employer match, is usually the best combination if the city is not eligible for a 401(k) plan under the grandfather rules.

This one has driven me crazy for years! There clearly was a pre-ERISA requirement that contributions to a pension plan vest upon normal retirement age, and that contributions to a profit-sharing or stock bonus plan vest when "the stated age or other specified event has transpired." Part 5©(2) of Rev. Rul. 69-421, 1969-2 C.B. 59, citing Rev. Ruls. 66-11 and 68-302. The question is what the statutory source for this rule is, since none of those revenue rulings cites a statute. Code section 411(e)(2) specifies only two pre-ERISA vesting rules which apply to governmental plans, pre-ERISA section 401(a)(4) and pre-ERISA section 401(a)(7). As you say, pre-ERISA 401(a)(7) deals only with termination of the plan or discontinuance of contributions. Thus, I have always believed that the requirement of complete vesting upon normal retirement age was based on pre-ERISA Code section 401(a)(4). My belief in this regard is reinforced by Part 4(i) of Rev. Rul. 69-421, which states that a plan which provided a benefit only to employees "who have at least 15 years of service and stay on until the normal retirement age of 65" would be "within the purview of the statute," and therefore unacceptable only if it were discriminatory in operation. The clear implication is that a plan would NOT necessarily have to vest employees at the normal retirement age of 65, if they did not have 15 years of service at that point, unless failing to vest them produced discrimination in operation under Code section 401(a)(4). Since Code section 401(a)(4) does not apply to state and local government plans, the vesting upon normal retirement age rule should presumably not be applicable to such plans. Another question: How meaningful is this requirement, anyway? Couldn't a governmental plan avoid the issue by defining "normal retirement age" as the age attained upon the later of age 65 or x years of service?

If they would otherwise be subject to the 10% penalty due to not having attained one of the exemptions (e.g. age 59½), they will not be exempted due to being based on hardship.

Welcome to the board! In general, I'd say you are right. However, there are a couple of caveats here: If this is a governmental plan other than a plan of a state or local government (e.g., a plan of a federal government agency or international organization), it may be subject to pre-ERISA section 401(a)(3) due to Code section 410©(2), typically beginning with the plan year beginning in 2001. Notice 99-40. Although this year's tax bill was supposed to modify this result, the prospects for it passing this year are looking dim at the moment. As is usual with governmental plans, you need to consult applicable state and local law, as well as federal law, on this issue. And by the way, if this is a state or local government plan, it would not be subject to the pre-ERISA Code section 401(a)(4) rules on vesting, due to Code section 401(a)(5)(G).

Because the plans are not subject to ERISA, they do not require a formal plan document. Section I,A(6) of the IRS examination guidelines for 403(B) plans provides that "Unlike qualified plans, 403(B) plans are not subject to the requirement of a definite written program (although Title I requires a written plan document for certain 403(B) plans)." Thus, a plan which is not subject to Title I of ERISA need not have a formal plan document. You just need to make sure that either the underlying custodial account agreements or the "Statement of plan operating provisions" contains provisions necessary to bring the plan into compliance with section 403(B), such as (1) the coverage rules; (2) the direct rollover requirements under § 1.403(B)-2, Q&A 4; and (3) the 402(g), maximum exclusion allowance, and 415 limits.

It is pretty common, though, for married filing separately to be subject to less favorable rules than married filing jointly. Congress tends to be suspicious of married filing separately situations, on the theory that the parties may be channeling income to the lower income spouse in order to minimize taxes. Of course, once the divorce is final, the parties can file as single or head of household. But you are right that this often poses a problem for people who are in fact separated, but are not yet legally divorced and do not have a decree of legal separation. ("Legal separation" is a technical term, and many people who are not living together and even have court-approved separation agreements are not treated as "legally separated.")

This would depend on applicable state law. However, in my experience, this sort of idea is often applied in similar situations. To the extent that the plan provided benefits in excess of those it was legally permitted to provide, it may even be under a legal obligation to get the money back. At the same time, many plans are reluctant to require an immediate repayment of overpaid benefits, particularly when the overpayment was the result of an error on the plan's part, rather than the participant's. Thus, a plan will commonly compromise by obtaining repayment from the annuitant's future benefits, on a schedule which is intended not to pose an undue hardship on the annuitant.

Not knowing the facts, it is hard to tell. They may have a 457(f) plan, in which vesting is delayed in order to delay taxation of the benefits. They may have a funded or unfunded plan in which contributions are immediately taxable (with or without some sort of extra payment by the organization to compensate for the taxes). Their plan may rely on things like mutual fund options or split dollar life insurance, which many would argue are not covered by section 457. Or, of course, they may be ignoring the law.

In theory, IRS could argue that the plan was disqualified, based either on (a) a failure of the plan to follow the terms of the plan document, or (B) if any of the participants are subject to the minimum distribution requirements, a failure to comply with those requirements. However, in practice (at least so far) the IRS has been concerned about getting governmental 401(a) plans to correct errors, but has not sought to disqualify them based on past conduct. Thus, the primary concern should be correcting the errors as quickly as possible. The first step would be to try to locate the missing participants, and get them their benefits. IRS has a locator service that you can use for this purpose. There are also various commercial locators. To the extent that you are unable to locate missing participants after due diligence, you may (depending on state law) be able to forfeit their benefits, subject to reinstatement if and when they show up. Treas. Reg. § 1.411(a)-4(B)(6) permits this even for private plans, and there should be even less question under federal law with respect to governmental plans, which are not even subject to Code section 411.

Section 411 does not apply, but ADEA does. Thus, you could have a problem if you cut off accruals at normal retirement age.

I would agree with Karen that section 411 does not apply. However, do check applicable state (including state constitutional) and local law--they often impose MORE restrictions than 411.

As to the second question, definitely not--which is one of the big issues with pick-up contributions. But the first question is interesting. Normally, pick-ups must be irrevocable, but then again, normally you can take withdrawals from a profit-sharing plan after they have been in the plan for 2 years, or after you have 5 years of service. The question is whether the IRS would treat generous withdrawal rules for picked-up contributions as an end run around the irrevocability rules. My own view is that they shouldn't, because there would be no problem with having those withdrawals in the case of normal employer contributions, and 414(h)(2) is intended to treat picked-up contributions for income tax purposes as though they were employer contributions. But I have never seen any authorities discussing this.

You should probably talk to the staff of the plan involved. I'm not quite sure why they would not be labeled as life insurance proceeds under the circumstances you describe.

You can see a copy of Publication 515 by clicking here. You will need Adobe Acrobat to view or print this file. If you do not already have Adobe Acrobat--most people do--you can download it for free by clicking here.

No. Section 416 provides requirements for a plan to be considered a "qualified trust under 401(a)." A 403(B) plan has its own rules, separate from the qualified trust rules. The 403(B) rules do not include 416.

No, the limit will not increase the next year for the limit at age 56. The idea is to have the benefit be actuarially reduced to reflect the longer payout period of an early retiree. Thus, it is based on the age when payments begin, not the age at each payout. And the nontechnical version of "GAM83, GATT and 5% interest rate" is that it means that there are statutory restrictions on the mortality and interest rates which can be used for 415 purposes, even though a governmental plan may be using a different interest rate for funding, or for calculating the actuarial equivalence of different forms of benefit, or for the interest paid on employee contributions.

Sometimes a profit sharing plan is used when there are employer as well as employee contributions, if the employer wants to have flexibility about the amount of employer contributions each year. For example, you could have a plan in which the size of the employer contribution would depend in part on the achievement of certain goals (financial, educational, you name it). Also, remember that not all "mandatory" contributions are truly mandatory. I have heard of at least one jurisdiction which is using a profit sharing plan like a 401(k) plan, except that instead of being able to make annual elections as to the amount of their tax-deferred contributions, employees must make one irrevocable election and stick with it for the duration of their employment. While one could raise practical questions about such a plan, it would be legal under federal law. (As always with governmental plan, you would need to check to make sure it was legal under applicable state and local law.)

I assume you are talking about a governmental 403(B) plan, in which case the answer is no. Code section 4975 does not apply to governmental plans at all. Code section 503, which is the source for the prohibited transaction rules for governmental 401(a) plans, does not apply to 403(B) plans. I should caution you, however, that applicable state law may in some instances impose requirements similar to the prohibited transaction rules.

The top-25 rule is a 401(a)(4) rule, not a 401(a)(7) rule, and therefore would not apply to a state or local government plan.

FICA taxes apply if the contribution is "salary reduction," regardless of the election type. You might want to check out this thread for a discussion of the IRS view of what "salary reduction" means in a related area, the FICA taxation of "picked up" contributions to 401(a) plans. http://benefitslink.com/boards/index.php?showtopic=2174

The only place in which a governmental plan must use any specific assumptions is in calculating 415 limits. Otherwise, the only requirement is, as pax mentions, that the actuarial assumptions must be stated in the plan.

Yes, a governmental plan can be a profit-sharing plan. See Code section 401(a)(27). There is no specific bar to having contributions to a profit-sharing plan picked up. Of course, they would have to meet the requirements for a pick-up--e.g., be either mandatory or subject to an irrevocable one-time election on the part of the employee.

This is a good question--which doesn't mean that there is a clear answer. Clearly, pre-ERISA 401(a)(4) is no longer an issue, at least for state and local government plans. Thus, your only issue is pre-ERISA 401(a)(7). Pre-ERISA section 401(a)(7) did not include a concept of partial termination. Thus, if you are merely cutting off new benefit accruals under the DB plan, but leaving the existing accruals alone, you almost certainly would not have to worry about section 401(a)(7). If you are converting the DB accruals into account balances in the new money purchase plan, the question is more complicated. The specific regulations which require you to treat a conversion of a DB plan into a DC plan as a termination are in ERISA regulations which do not by their terms apply to governmental plans. However, those regulations do not appear to have any specific statutory basis. Thus, if they are intended merely to interpret the term "termination," IRS might argue that they would apply for 401(a)(7) purposes, requiring full vesting upon conversion of the DB plan to a money purchase plan. One question is how much of a financial difference this would make. In many instances, in the case of contributory governmental DB plans, we find that this is a no-cost item. The reason is that in the early years, before employees become vested, their own contributions plus interest may actually exceed the accrued benefit under the normal formula. Because employees are typically fully vested in their own contributions plus interest anyway, you may find that it does not cost the employer anything to fully vest all employees. Does the DB plan have a determination letter? You might consider getting one on the plan as amended by the amendments converting it to a money purchase plan. If a favorable determination letter were issued, this could protect you from trouble later on. And, as usual with governmental plans, you need to take into account any state and local laws applicable to the plan, as well as federal. In particular, some state courts have interpreted state Constitutional provisions dealing with impairment of contracts to forbid amending a plan's future benefit formula, as well as its existing accruals, in a way that was disadvantageous to any particular employee. To the extent that existing employees were being converted from one formula to another without their consent, this could be an issue.