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In-kind Distributions


Guest SCUDDESLER

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Guest SCUDDESLER

Assume Company A uses a rabbi trust to set aside and accumulate assets to satisfy benefits under a top hat plan. The rabbi trust's assets are divided into several bookkeeping accounts, one bookkeeping account for each participant. Participants are permitted to request that the trust invest the assets attributable to his/her bookkeeping account in Mutual Funds A, B and/or C. The plan is terminating and the Company A wants to liquidate the rabbi trust. Assume one of the participants has requested that the trustee invest 100% of her bookkeeping account in Mutual Fund B and that the trustee has so invested her account. This participant wants to maintain her investment in Mutual Fund B. Is it possible for the trustee to make an in-kind distribution to this participant such that the units in Mutual Fund B presently titled to the trustee may be retitled in the participant's name? Or, must the trustee sell the shares of Mutual Fund B, distribute the cash to the participant, and then the participant can reinvest the cash in Mutual Fund B (although doing things this way may result in certain otherwise avoidable investment fees)?

Assume that the Mutual Fund is agreeable to retitling the shares.

Thanks.

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Guest Harry O

I don't know whether it is "possible" (depends on your mutual fund company and the plan documents) but there is no tax benefit. The employer will be deemed to have sold the fund shares and will be taxed accordingly. The employee will have income equal to the FMV of the fund shares and will have an equivalent tax basis.

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Guest b2kates

Review the Trust document to see if it permits inkind distributions.

If it is that important, suggest amending trust to so permit.

Is there a financial benefit? i.e. saving liquidation fees?

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2 comments: one practical and one theoretical. First, the practical issue: viz. income tax withholding. How does the employer propose to satisfy its withholding obligation on the non-cash payout? The employee presumably realizes that the FMV of the mutual fund units will be treated as ordinary income and reported on its W-2. It's also "wages" for FICA tax purposes, unless the deferral amounts had been subjected to FICA in the year of the deferral. The employer could require that the employee must apportion the distribution between cash and mutual fund units, so that the cash portion is enough to satisfy the income withholding on the both parts. Alternatively, the employer could require the employee to tender a cash payment to the employer equal to its withholding obligation in exchange for the employee's right to elect a 100% in-kind distribution.

The theoretical issue is whether extending the degree of dominion and control over the assets held in the rabbi trust would create a "funded" plan, contrary to the ERISA "top hat" plan exception. This is not the "funded" issue for constructive receipt purposes, but the "funded" issue for purposes of avoiding all of ERISA's onerous requirements: reporting and disclosure, minimum vesting etc., etc. To be exempt, the plan must be both a "top hat" plan (or an excess benefit plan) and "unfunded." There is some old DOL guidance that suggests that the department will analyze this issue using principles akin to the IRS "economic benefit" doctrine, with respect to which the degree of dominion and control the employee has over trust asset is a factor in determining whether or not the plan meets the test of being "unfunded."

Phil Koehler

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In order to avoid constructive receipt under IRS rules, the employee's selection of investments would have to be subject to approval by a plan representative/admin. If employee had sole control of the investments then employee had gross income in year that the contribution was made to plan.

mjb

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