Luke Bailey

Tom, I think this is a close question. The "duty of consistency" rule, which I am fairly familiar with generally, but not particularly in the 72(p) context (I doubt there is any case or guidance regarding intersection of duty of consistency with 72(p), but I could be wrong), is somewhat slippery, albeit well-established. To the extent I have been able to make any sense of it, there is generally some requirement that the taxpayer (here, the participant, of course) take some action or commit some definite omission that is inconsistent with his or her current tax position. If, for example, this was a large plan and the participant was not involved in the plan's administration and didn't understand the tax consequences and related issues, I think that the stronger argument is that his or her simply doing nothing in the face of not receiving the 1099-R that the plan should have given him or her would not be enough to invoke the duty of consistency. Say, for example, you are a young, semi-skilled new entrant in the workforce and you have 10 jobs with different employers during the year and you get 9 W-2's. You file your return with those 9 W-2's, but you forgot about that job you had in January for a few weeks, for which the employer did not send you a W-2. The amount was way less than 25% of your income and 3+ years go by and eventually the company sends you a W-2. The statute's closed. The mere fact that you had income, but didn't pay tax on it, is not enough to invoke the duty of consistency, otherwise there would be no statute of limitations. Now, of course, that's an extreme, oversimplified example, and when I reviewed the cases a while back I did conclude that, at least in some courts, it didn't take much to invoke the duty of consistency, but it did take something. With regard to Q&A-10 and -19, the way I am reading them is that they don't say the deemed distribution is treated as not occurring until it's reported, but rather occurs at the end of the cure period. Here the failure (at least, assuming the participant was not involved in any way in the plan's administration or failure to report the deemed distribution, which may be contrary to the actual facts) was the plan's failure to do the required reporting, not the participant's failure to include the income, which he or she might not have even understood he or she had. As I implied previously, if the participant was complicit in the reporting failure, you might get a different result. Possibly that result would be, or the IRS would argue that it is, to require the participant to pay tax on the post deemed distribution accrued "phantom" interest, but it's hard for me to get that out of the reg, because again a straight-up interp of the reg is that the deemed distribution occurred (albeit, in the dark as it were) as of the close of the first calendar quarter following the calendar quarter of the first uncured missed payment. But it is complicated, and the cases are nuanced. Of course, apart from the arguable nuances of the tax law, the reporting is the "meat and potatoes," so to speak, of tax compliance. The plan did not 1099-R the deemed loan, so the participant did not pay tax when he or she was supposed to. If the plan now determines, based on its interpretation of the law, that the accrued interest since the "deemed" date should be included in the amount of the loan offset "distribution," per your argument, Kevin C, then the participant will face an uphill battle fighting that with IRS.

That's a good question and I don't really know the answer, but I would suggest that the rules will not be different for qualified plans than for regular (I.e., non-UBIT) income tax imposed on other trusts, e.g. family wealth trusts. Usually, real estate income (rents, gains on sale) is taxed in state of location of real estate, while stocks, bonds, etc. will be taxed in state of residence of trust. But every state's law and taxing administration will have its own nuances.

My recollection is that while the defaulted (but not distributable) "deemed" distributed loan's unpaid balance continues to bear interest for purposes of blocking new loans, that additional interest is not treated as distributed when you do the loan offset. Also, although there may be one, I don't recall there being a rule in the regs that if you miss your reporting obligation for the "deemed distributed" year the deemed distribution does not occur. I think it probably did occur, but the plan failed its reporting obligation. Had the plan discovered this within 3 years, or arguably even 6, you would probably have had a corrected 1099-R obligation, but you're way beyond even the 6-year statute of limitations for income inclusion, so no point in doing that now. So at least arguably the result is that when there is a distributable event at some point, you have to issue a 1099-R for the amount of the loan at the deemed distributed date (i.e., the amount you would have reported back in 2006), showing the portion he has paid off since then as nontaxable/basis. Under the duty of consistency rule, if nothing else, he has no basis on account of the unreported deemed distribution that occurred in 2006, assuming the participant did not somehow self-report it without the 1099-R. Just a quick and dirty hypothetical analysis. Assumes this was an inadvertent error and the participant did not control the plan's accounting and reporting. If he did, then you may have other issues.

Mike, thanks. It certainly provides a practical reason for wanting the determination to be based on prior year. Doesn't do it for me in terms of how far the reg departs from plain language of statute, but that's life. Unless the issue makes it up to the textualist U.S. Supreme Court, post-Chevron deference, the reg's rule is probably the one that people do and should follow.

I apologize in advance if I've missed something in my cursory research of this, but here goes. Also, for simplicity I am assuming the employer in question only has DC plans, but I don't think that makes a difference. Clearly, to determine whether a plan is top-heavy for a "plan year" you use account balances as of the "determination date," which also quite clearly is the last day of the plan year preceding the plan year for which the determination of top-heaviness, or not, is being made. E.g., to determine whether a plan is top-heavy for a calendar year 2019 plan year, you use balances as of 12/31/2018. There are potentially also certain addbacks to determination date account balances of keys and nonkeys for distributions that were made during the plan year preceding the year for which the top-heavy determination is made (i.e., in my example, during 2018 for the 2019 top-heaviness determination), or potentially during a 5-year period in the case of some distributions. See IRC secs. 416(g)(1), (3), and (4)(C). And of course you have aggregation rules. So the above gives you your key and non-key participant balances for purposes of determining whether more than 60% belong to keys. But then you have to figure out whether those balances belong to keys or non-keys. IRC sec. 416(I)(1) [Note: the "I" in 416(I)(1) should be lower-case, but I can't make that happen; sorry] tells you that the keys are the folks who meet certain requirements, e.g. percentage of ownership of the employer, "at any time during the plan year." Just looking at 416(I)(1) [see previous note], it would seem that the "plan year" being referred to for identifying keys is the current plan year, i.e. the year for which you are making the top-heavy determination, i.e. 2019 in my example. At least, that's what I think, because 416(g)(1) tells you that a plan is top-heavy "with respect to any plan year," and to me, when 416(I)(1) says "during the plan year," they are talking about the same plan year. So it seems to me that based on the statutory language you would use ownership and compensation in 2019 to determine who are your keys and non-keys, and then you would go back to 12/31/2018 to see what those folks' determined to be keys based on their 2019 facts had in the plan for purposes of the "more than 60%" test. But Treas. reg. 1.416-1, T-12 seems to say pretty clearly that the "plan year" being referred to in 416(I)(1) is not the plan year for which you are making the determination (i.e., 2019 in my example), but rather 2018. It does this by adding "containing the determination date" to 416(I)(1)'s simpler "plan year." I guess when, before EGTRRA, you looked back 5 years to determine who were your keys (i.e., the keys were participants who at any time during "the plan year or any of the 4 preceding plan years" met one of the status tests), and under pre-EGTRRA Section 416(g) you were also dragging back in all distributions made during the 5 plan years ending on the determination date, it may have made sense for the IRS to want the same 5 year period for both purposes, i.e., the IRS may have been trying to simplify. But if that was the reason for departing from what otherwise seems the very plain statutory language of 416(I)(1), it no longer seems valid, since using balances as of the end of the previous year, and status as of any time in the current year, seems just as easy to do now. Has anyone else had an issue with this? To anyone's knowledge, has the IRS ever commented on this, formally or informally?

There you go.

Interesting, and thanks for clarifying, Carol. Of course, the DOL is reading "exclusively" into the statutory provision. If one took the same approach to private plans, plans with partners and employees would not be subject to ERISA, right? Also, at least arguably, the reference to 1.401-1(a)(2) in what would be 1.414(d)-1(k)(1)(I) (the "I" should be lower case, but I can't seem to make that happen) in the 414(d) ANPRM brings in 401(c)(1), which would get you a different result, I think.

As a point of clarification, isn't the issue not, at least directly, a prohibition against covering independent contractors, but rather a prohibition against having any NONGOVERNMENTAL participants? I don't know, I'm just asking. So a consultant or other typical IC is a sole proprietor and typically has no pretension to being anything other than a private for profit person/entity. Folks (and I don't know that there are any) who are clearly and solely performing governmental functions, e.g. directors, trustees, etc. of a governmental body, but who, maybe, are appropriately paid on a 1099-MISC, could be in a governmental 457(b), no?

RatherBeGolfing, I have seen this issue come up from time to time, often in professional firms where there are two DC plans, e.g. one for partners and staff in a law firm, one for associates. But in that case, the plan sponsor is the same, not just similar in ownership. I think the issue comes down to facts and circumstances. In the situation you describe, the historical pricing, assuming that the fiduciaries of each separate plan had done an adequate job negotiating the fees for the separate plan, would be a favorable fact and circumstance. However, if the recordkeeper is open to a reduction in fees in this circumstance (which it might not be, since you have two different entities as plan sponsors), the reduction would of course need to be shared pro rata. Other issues, such as payroll consolidation, etc., would come into play. Plan size, I think, would be an issue. Presumably you could get a lower fee if the plans were combined, but I don't think that that changes the decision whether to combine or not from settlor to fiduciary. Presumably Plan ABC has smaller accounts and possibly smaller total dollars, so that would also drive pricing.

Lou S, agree with you and Mike completely on above, but my guess is that your assumption quoted above may not always be correct. A lot of plans are only just starting to confront what their language and procedures should be where a participant has both Roth and non-Roth accumulations and is taking a distribution of < 100% of account. Most or all recordkeepers will apply pro rata unless employer tells them otherwise. If you want to do something other than pro rata, you probably want to think through all of the types of distributions where this would come up, e.g. in-service, hardship, RMD, ad hoc, ADP corrections, etc., and put that in a "policy" separate from your plan, assuming your plan language is consistent with that course of action. All the fallbacks I have seen where this has not been done, or where it has been done but participant does not express preference, are pro rata.

I would have to give further attention to the deadline issue regarding preapproved plan amendments. My gut tells me that IRS won't require an amendment to preapproved until they at least publish a model amendment, but again would need to review further the issues raised by Doc Ument regarding preapproved. Regarding individually designed, or practically speaking, regarding preapproved as well, sure, the first issue is what the recordkeeper is prepared to do. Until a plan's recordkeeper has changed its system for processing hardships (i.e., paper and/or online forms, software, and training of processing personnel) to use the additional sources, not require the suspension, etc., these are a non-starters. Once the recordeeper has changed, or is in a position to change for a particular plan, then the only practical impediment to implementing any or all of the changes is (a) knowing what the employer wants to do, (b) communicating to employees, and (c) changing hardship request forms (paper or online). The first point, getting the employer's decision, can be handled in a variety of ways, e.g. a meeting or telephone conference with the employer in which an attorney takes notes and then summarizes the employer's decision, or a checksheet (like an adoption agreement page, but not formally an amendment) that the employer completes based on input of some sort (a face-to-face meeting, telephone conference, webinar with multiple clients) from the practitioner. You could also do a good faith interim amendment, voluntarily, if you like. The only risk I see with that is having to do a second one after the likely model amendment and final regs are out. Communications to employees can be handled, again, in a variety of ways, e.g. a point-of-service communication to the employee at the time of the hardship request telling them how much is available and the sources of the funds. This would combine (b) and (c) above. I would guess that in almost all situations the employee doesn't care about this until they have a hardship and need the funds, and then they won't care about the source, just the amount available, so the idea that a statement in an SPD regarding the source of hardship distributions will be materially misleading to an employee seems unlikely to me. Nevertheless, updating the SPD with an SMM would be easy and avoid any risk of employees' not appropriately utilizing the plan's hardship provision.

Wow, you're right Larry. Thanks. In that case, the employer shouldn't get the letter. Sorry, jpod. Reading too fast.

The addition of 401(k)(14) to the Code by the Bipartisan Budget Act of 2018, which broadens the potential sources of hardship distributions to include QNECs, QMACs, and earnings, and permits a hardship distribution without the requirement that a participant take an available loan, are effective by statute for plan years beginning on or after 1/1/2019. There is no special effective date provision for these changes in the proposed regs, but of course the Code does not mandate that an employer permit hardship distributions or make the maximum permissible amount available for them , so an employer has discretion whether, and if so when and to what degree, to implement these changes. In addition to the broadening of the source for hardship distributions, there is also the change that plans can no longer require a suspension of deferrals for six months (i.e., they can no longer suspend at all). Because this was not a change made to the Code by BPA, but rather a directive from Congress to the IRS to change the regs, the IRS was able to provide flexibility with respect to it. Under the proposed regs, you can optionally make the change effective for hardships after 12/31/2018 or for hardships before 1/1/2019 for the portion of the 6-month period that would extend beyond 12/31/2018. You can also keep the suspension for hardship distributions made all the way through 12/31/2019, but under the proposed regs it's not optional at all for hardship distributions after 12/31/2019. So regardless of whether you've amended by then for this change (and you almost certainly will not have been required to amend for it by 12/31/2019, as explained below), you need to stop suspending for post-2019 hardship distributions. There is also the change to the casualty loss hardship. TCJA narrowed casualty losses for Section 165 deductibility purposes from 2019 through 2025 to only those suffered in federally declared disaster areas. Because the resulting "glitch" for 401(k) hardship distributions was merely an indirect result of a TCJA change to a portion of the Code that was incorporated by reference into the IRS's hardship regs, the IRS did not have to follow it, and the proposed regs would eliminate the requirement that an otherwise good Section 165 casualty loss occur in a federally declared disaster area in order to be a good "hardship" for 401(k) hardship distribution purposes. Some well-informed plans presumably took TCJA and the existing 401(k) regs at their word and did not permit casualty loss hardships outside of federally declared disaster areas after 12/31/2017, while some, oblivious to the change, or counting on relief from IRS, may have continued to permit casualty loss hardships outside federally declared disaster areas after 12/31/2017. Again, since these issues arose primarily under the regs, and not as a result of direct statutory changes, the IRS had leeway to provide flexibility on the effective date, and the proposed regs would bless both approaches (i.e., requiring that the casualty loss be in a federally declared disaster area, or not) through 12/31/2018. Because the proposed regs liberally treat all of these changes (and the adding of FEMA-declared disasters to the safe harbor) as "integrally related" to changed qualification requirements, under Rev. Proc. 2016-37, plans will not be required for qualification purposes to be amended for any of these changes for a long time. For an individually designed plan, the employer has until the date that will eventually be specified in the Required Amendments List. The 2018 RAL was published today, and it does not include these new rules. In fact, there are no RAs on the 2018 RAL. So again, it will be awhile, probably at least a few years. Preapproved plans will not be required to be amended until the end of the next 6-year cycle. So in a sense, there is a lot of freedom as to when to implement these changes. The only change that is mandatory is no longer suspending the ability to make elective deferrals if the participant takes a hardship distribution, which must be implemented in operation no later than for hardships made in plan years beginning on and after 1/1/2020, although no amendment to the plan document will probably be required until well after that date. However, the provisions of the eventual plan amendment will need to "walk back" and include exactly what the employer did in implementing any or all these changes, and when they did it, so it probably would be unwise to begin to implement any of them until the employer has something in writing (whether a draft amendment, a memorandum explaining what the employer intends to include in its amendment, an SMM, or an IRS model amendment) that both describes what changes it intends to implement and when it will implement them, in detail. And once the employer has done that, it will need of course to inform its employees of the change in some way. However, an SMM is not required until 210 days after the end of the plan year in which the change is implemented, so before that date a less formal communication could be considered. So in brief, employers need to figure out, likely with the assistance of counsel and/or their consultant, which of the changes they want to make and think through all of the details. They should not, and need not, implement any of the changes until they have done that and have some sort of detailed writing specifying what they're going to do. Once they have that, they might as well implement the changes they have decided on, and of course that requires communicating those changes to participants. Under Rev. Proc. 2016-37, which did away with "good faith interim amdnements," no formal amendment will be required for quite a while. In the case of plans using preapproved documents, presumably, in order to save on costs, the employer will want to hold off on any implementation (other than stopping suspensions of elective deferrals after 2019) until the preapproved plan vendor has come up with some sort of written implementation package, which will likely include an amendment. I would suspect those will be available in the next few weeks or months.

jpod, my guess is that, putting aside the representation to IRS in 5310 submission issue, the issue would be based on what the participants did with some or all of the money. If the purpose of the termination and distribution is really just to start over with simpler plan provisions (which except for the problem of maintaining the old rules for pre-amendment amounts could probably be done by amendment anyway), it is hard to see where there is much harm, e.g. if all the funds are rolled to traditional rollover IRAs on termination, then rolled back in to the new plan. The new plan would be a successor for 415 anyway. But if the controlling participants needed access to funds, popped the plan and used distributions for personal purposes, and then restarted pretty soon after once they needed tax shelter again, it would seem to me that an EP exam agent that wanted to pursue it, or the DL submission reviewer when the new plan is submitted, could get into the facts and circumstances.

OK. So I'm not sure I'm following the missing "not," but to clarify, I actually thought jpod was saying that tongue in cheek, and wanted to nail that down for everyone.

jpod, are you being facetious? The original question stated that the employer intends to start a new plan, so the statement in 5310 would be a false statement to IRS. I hope that is risky!

Right, AKconsult. That is the way I read it. And I guess the way that helps is that if you fail on that additional 5% to 7%, and would also have failed, e.g., on the last 1% of the first 4%, if you had to run ACP on that, all the HCEs are still protected by SH on their first 4%.

Karen Mciver, is what you are asking whether you can restructure the plan for testing purposes under 1.401(a)(4)-9(c) into the component plans, i.e. the component plan with the comp to comp allocation and the component plan with the integrated allocation? If each component satisfies ratio percentage, you would not need to satisfy average benefits.

AKConsult, the way the reg reads ("permitted"), I think you can either run ACP on the entire 7%, or on just the portion that exceeds 4%. For the life of me, I've never understood why that would be helpful, but it seems you can do it either way. Re your second question, the reg seems clear that you can only split off and test separately the matching contributions over 4% of comp.

This is complicated, but based on your brief description it sounds like lowering the NRA for amounts already accrued under the plan could, depending on other facts not included in your description of plan provision, result in an impermissible acceleration of time of payment.

Good point. I think the rest of us missed it because the original question was about 1099-R reporting.

FGC, at least in Texas a payor, such as a retirement plan, should be protected in relying on the small state affidavit. See Texas Estates Code Section 205.007: Sec. 205.007. LIABILITY OF CERTAIN PERSONS. (a) A person making a payment, delivery, transfer, or issuance under an affidavit described by this chapter is released to the same extent as if made to a personal representative of the decedent. The person may not be required to: (1) see to the application of the affidavit; or (2) inquire into the truth of any statement in the affidavit. (b) The distributees to whom payment, delivery, transfer, or issuance is made are: (1) answerable for the payment, delivery, transfer, or issuance to any person having a prior right; and (2) accountable to any personal representative appointed after the payment, delivery, transfer, or issuance. (c) Each person who executed the affidavit is liable for any damage or loss to any person that arises from a payment, delivery, transfer, or issuance made in reliance on the affidavit. (d) If a person to whom the affidavit is delivered refuses to pay, deliver, transfer, or issue property as provided by this section, the property may be recovered in an action brought for that purpose by or on behalf of the distributees entitled to the property on proof of the facts required to be stated in the affidavit. Added by Acts 2009, 81st Leg., R.S., Ch. 680 (H.B. 2502), Sec. 1, eff. January 1, 2014. Maybe you're worried that Texas's or a similar state law is preempted by ERISA, but I wonder. Paying to "the estate" is paying to the personal representative, which presumably is a matter of state law, and the above is tilling you that the small state affiant is the personal representative.

Santo, you'll need to make your own analysis based on the facts (of which I have only your brief description above), but I would urge you to review the regulation I cited above regarding the 403(b) anti-conditioning rule, including the cross-reference to the anti-conditioning rule as explained in 401(k) regs and made applicable to 403(b) by the cross-reference.

Good one, Larry.

ESOP Guy, someone's probably done a study, but my guess is your largely correct. With long vesting schedules and the ability to have 100% social security offsets before 1986, probably most folks didn't get much.