Rollovers from 457 plans to 401(a) plans

[Guest PA consultant]

Under the new rules effective 1/1/2002, can a government employee (city) rollover or transfer an amount from her city-sponsored 457 plan to her city-sponsored 401(a) defined benefit plan to purchase years of service (from when she was working for the city but was not participating in the DB plan) towards retirement eligibility while she is still working for the city? That is, assuming the DB plan accepts such a rollover.

[Carol V. Calhoun]

In the case of in-service transfers, both the transferor plan and the transferee plan must permit such transfers before they will be allowed. Technically, a transfer at a time that the individual is not entitled to a distribution is not a rollover, so the rule that a plan must agree to roll over a distribution if the transferee plan agrees to accept it would not apply.

[Guest JPCMPLS]

My understanding is that the combined impact of the Taxpayer Relief Act of 1997 and EGTRRA is that direct rollovers from a 457(B) to a defined benefit plan of a state or local government will be tax-free if the amount is used to purchase permissive service credits under the defined benefit plan or to repay contributions and earnings previously refunded.

[pjkoehler]

A quick check of Code Sec. 457(d) reveals that a 457(B) plan may not permit a distribution earlier than (1) attainment of age 70 1/2, (2) a severance from employment with the employer and (3) an unforeseeable emergency. Presumably, if the city's plan is a 457(B) plan, it does not permit a direct trustee-to-trustee transfer in circumstances that do not satisfy these criteria.

[Ellie Lowder]

See new paragraph 457(e)(17) which permits direct transfers to purchase service credits in governmental DB plans. Both 457(B) assets and 403(B) assets (in IRC 403(B)(13)) can (under the Code) now be directly transferred to for the purchase of credits, provided that the defined benefit plan permits it.

[pjkoehler]

Ellie: Do you read 457(e)(17) as extending the tax treatment applicable to "transfers" between eligible deferred compensation plans described in 457(e)(10) to these special purpose transfers to defined benefit governmental plans? 457(e)(10) says it applies to the "amount payable" under the transferor plan, which would probably restrict the transfer treatment to distributions allowable under the plan, which would not include elective in-service transfers because they don't satisfy the distribution requirements.

On the other hand, 457(e)(17) refers to "trustee-to-trustee" transfers from an eligible plan to a defined benefit governmental plan without reference to the "amount payable." I guess it could be argued that the trustee of the transferor plan is not in a position to transfer an amount other than an "amount payable" under that eligible plan, so the "amount payable" restriction is implied. You may have a better handle on this section, so I wonder if you read 457(e)(17) to be more expansive that 457(e)(10) in that regard? For instance, if a city maintains multiple eligible deferred compensation plans and a defined benefit governmental plan and some how an employee became covered by 2 or more of the deferred comp plans and the defined benefit plan, do you think under these rules the employee would not be able to direct a trustee to trustee transfer between the deferred comp plans because he is not eligible for a distribution, but would be able to transfer amounts from either plan to the defined benefit plan for the purpose stated in 457(e)(17)?

[Carol V. Calhoun]

I would say that 457(e)(10) transfers and 457(e)(17) transfers are two entirely separate animals. The first section deals only with transfers from one 457(B) plan (governmental or nongovernmental) to another. As you point out, this section would not be necessary in the case of an in-service transfer, since no amount would then be payable. 457(e)(10) states that a participant will not be taxed under the constructive receipt doctrine on the amount that the participant could have elected to have paid (that's the "amount payable"), if in fact the participant elects instead to have it transferred to a new 457(B) plan.

The second section deals with a transfer from a 403(B) or a governmental 457(B) to something that is not a 457(B), at a time when the amount is not distributable to the participant. It allows such transfers only in very limited circumstances:

• The plan must be to a governmental defined benefit plan qualified under section 401(a); and
  
• The transfer must be for the purpose of purchasing the limited kinds of service credit defined in section 415(n)(3)(A), or in order to repay a prior distribution of less than $5,000.
  

Great care must be taken in the case of a transfer for the purchase of service credit to make sure that the service being purchased falls within the definition of section 415(n)(3)(A). For example, suppose a participant moves from one school system to another within the same state. The state provides one defined benefit plan that covers employees of both school systems, and the second school system also contributes to its own local supplemental defined benefit plan. An individual could not use 403(B) or 457(B) money to purchase credit for past years of service under the second school system's supplemental plan, because that participant would continue to have credit under the statewide plan for those years of service.