Forfeitures to pay expenses

[jkharvey]

The plan has forfeitures that far exceed current year expenses. Is it permissible to pay the fees to the TPA and then use them up over the next 3 or 4 years? My answer is no, but I was told to find out for sure.

[Kevin C]

The plan document will tell you what to do with the forfeitures in excess of the fees. If it's a prototype or VS, you'll have to go to the base document.

[Bird]

You do have to check the document. As long as it allows ff to pay expenses, I don't have a problem with pre-paying fees...3 or 4 years might be pushing it a bit but when the alternative is creating tiny accounts that are just going to muck things up later, I think it's the best solution.

[MoJo]

The plan has forfeitures that far exceed current year expenses. Is it permissible to pay the fees to the TPA and then use them up over the next 3 or 4 years? My answer is no, but I was told to find out for sure.

The other responses are all very much worthwhile, but I would add one thing: Is it truly "prudent" to prepay expenses as far out as you propose. I usually don't opine specifically, but in this case I think not. You may not stay with the same service provider that long. You may be able to negotiate lower fees in the interim (or reduce fees by changing service providers). There are many reasons not to do so - not the least of which is that the plan simply loses control over what is a plan assets by prepaying these fees.

Now, if you can negotiate a substantial discount (more than the plan would otherwise earn on those assets) for prepaying, AND negotiate a deal where the assets are "escrowed" till earned (and recoverable by the plan in the event of a dispute with the TPA), maybe it would be a fiduciarialy prudent thing to do.

[ETA Consulting LLC]

The plan document will tell you what to do with the forfeitures in excess of the fees. If it's a prototype or VS, you'll have to go to the base document.

"Like"

Many documents are written to provide pecking order (i.e. 'first used to pay expenses but then...'). It's always good for read the document as too many times this simple concept doesn't reasonate. In theory, the language should account for other uses in the event the amount of forfeiture far exceed the level of fees being charged. The question becomes at what point does the plan contain assets that aren't being used for the benefit of participants and beneficiaries. A well drafted plan should have sufficient language to ensure forfeiture don't accumulate and go unused over time in order to avoid this potential.

Good Luck!

[ETA Consulting LLC]

The other responses are all very much worthwhile, but I would add one thing: Is it truly "prudent" to prepay expenses as far out as you propose.

I agree with this, but have a different argument; it's just semantics. I would say are expenses "reasonable" to the extent they are prepaid beyond a certain level. It would not be reasonable for "me" to have a portion of my benefit used to pay expenses over the next five years when I am going to retire and take a distribution in the current year. I do agree that it easy to argue that it wouldn't be 'prudent' for me to do that

Good Luck!

[MoJo]

The other responses are all very much worthwhile, but I would add one thing: Is it truly "prudent" to prepay expenses as far out as you propose.

I agree with this, but have a different argument; it's just semantics. I would say are expenses "reasonable" to the extent they are prepaid beyond a certain level. It would not be reasonable for "me" to have a portion of my benefit used to pay expenses over the next five years when I am going to retire and take a distribution in the current year. I do agree that it easy to argue that it wouldn't be 'prudent' for me to do that

Good Luck!

I agree - but that of course depends on what the plan says forfeitures are to be used for beyond expenses. Offsetting future employer contributions would have no benefit to you beyond that which the employer *may* contribute in the future.

[ETA Consulting LLC]

Offsetting future employer contributions would have no benefit to you beyond that which the employer *may* contribute in the future.

This has been the subject of debate among a few Attorneys in the industry. Some argue that in the event the employer decides not to fund, the existence of a forfeiture balance still gets treated as an employer contribution whose funding was reduced to zero through the use of the forfeiture account. The argument states that to otherwise would be a failure to operate the plan pursuant to a definite predetermined formula. This is based on the ascertion that the employer may not exercise discretion in the "operation" of the plan; only the "administration" of the plan. So, if the employer were to delay the use of the forfeiture balance to a future year would be an aribitrary and capricious act of discretion to allow forfeiture to accumulate over several years until they see benefit to allocate. Generally, the forfeiture use, whatever the provision, should be made absent of employer discretion.

Obviously, others would argue that the use of forfeitures coincides with the employer's discretion on when to make a contribution. Without that discretion, then nothing is being contributed to reduce; so the forfeiture remain unallocated until there is.

These are just a couple of arguments that have taken place over the past decade.

Good Luck!

[MoJo]

Offsetting future employer contributions would have no benefit to you beyond that which the employer *may* contribute in the future.

This has been the subject of debate among a few Attorneys in the industry. Some argue that in the event the employer decides not to fund, the existence of a forfeiture balance still gets treated as an employer contribution whose funding was reduced to zero through the use of the forfeiture account. The argument states that to otherwise would be a failure to operate the plan pursuant to a definite predetermined formula. This is based on the ascertion that the employer may not exercise discretion in the "operation" of the plan; only the "administration" of the plan. So, if the employer were to delay the use of the forfeiture balance to a future year would be an aribitrary and capricious act of discretion to allow forfeiture to accumulate over several years until they see benefit to allocate. Generally, the forfeiture use, whatever the provision, should be made absent of employer discretion.

Obviously, others would argue that the use of forfeitures coincides with the employer's discretion on when to make a contribution. Without that discretion, then nothing is being contributed to reduce; so the forfeiture remain unallocated until there is.

These are just a couple of arguments that have taken place over the past decade.

Good Luck!

Yea. I've had that debate many times myself (and have taken either side of it, depending on my opponent (I love to play devils advocate)). Truth is, somewhere (and I'm too lazy to look for it), there is authority that indicates it is not appropriate to maintain an "unallocated suspense account" beyond the end of the plan year (and of course, a forfeiture account is an unallocated suspense account) as that would be a violation of the definately determinable benefit rule(s). Artfully drafted plan documents provide for a fail-safe (usually, but not always) specifying the allocation of the unused forfeitures to participants. Some plan sponsors find "creative" ways to consume the forfeiture (like paying the auditor, when previously the corporation made that payment, or getting their counsel to separately bill for plan work from settlor work, or whatever). Not what I would necessarily call real "creative" but works to consume the forfeiture earlier rather than later. Bottom line, don't let the forfeitures build up. Make sure the plan spells out what the employer actually wants with respect to forfeitures. Prepay expenses that you can justify prudently (3 to 4 years is a bit much, IMHO). And if all else fails, allocate it per the plan document to participants.

[Jim Chad]

If this is a Safe Harbor Plan, you could lose TH exemption if you allocate to Participants. Nothing is ever simple!

[ETA Consulting LLC]

If this is a Safe Harbor Plan, you could lose TH exemption if you allocate to Participants. Nothing is ever simple!

"Like"

Yea. I've had that debate many times myself (and have taken either side of it, depending on my opponent (I love to play devils advocate)).

"Like"

[12AX7]

This is from the IRS website "Fixing Common Plan Mistakes":

Forfeitures must be used or allocated in the plan year incurred. The Code does not authorize forfeiture suspense accounts to hold unallocated monies beyond the plan year in which they arise. Revenue Ruling 80-155 states that a defined contribution plan will not be qualified unless all funds are allocated to participants’ accounts in accordance with a definite formula defined in the plan. This would preclude a plan from carrying over plan forfeitures to subsequent plan years, as doing so would defy the rule requiring all monies in a defined contribution plan to be allocated annually to plan participants. Revenue Ruling 84-156 states that forfeitures may be used to pay for a plan’s administrative expenses and/or to reduce employer contributions. Treasury Regulations §1.401-7(a) notes that forfeitures must be used as soon as possible to reduce employer contributions.

There are holes I can punch into some of these points.

[K2retire]

And yet the Relius prototype document that the IRS approved allows the choice of using them in the year of the forfeiture or the year following the forfeiture.

[austin3515]

OK, we talked a lot about how far forward you can go with expenses. How far BACK can you go to reimburse the employer for forfeitures paid? 6 months? a year?? DOes there need to be intent for the employer to pay initially in order to allow reimbursement?

[MoJo]

OK, we talked a lot about how far forward you can go with expenses. How far BACK can you go to reimburse the employer for forfeitures paid? 6 months? a year?? DOes there need to be intent for the employer to pay initially in order to allow reimbursement?

Good question, Austin. My standard advice is "not at all" unless there is clear evidence of intent that the plan reimburse - in which case, it should be almost immediate. Anything lengthy (and you decide what is "lengthy") to me is 1) evidence that there was no such intent) and/or 2) an extension of credit by the plan sponsor to pay a plan debt (which creates another can of worms to be opened). That second point still applies in cases where the reimbursement is quick - but....

Best bet - don't do it.

[QDROphile]

You might be interested in PTE 80-26.

[MoJo]

You might be interested in PTE 80-26.

Yes, but that PTE isn't going to apply in cases where it isn't clear that the intent was for the plan to reimburse (repay) the employer (i.e. you can't, after the fact, claim it was an exempt loan under PTE 80-26, if it wasn't established as a loan in the first place). Structure it right in the first place, and you are OK. Don't, and I think you have a problem.

[QDROphile]

Mojo

The reference to PTE 80-26 was in support of your point. One of the principles in PTE 80-26 is that a reimbursement arrangement should be established in advance, includng relevant terms such as time.

[MoJo]

Mojo

The reference to PTE 80-26 was in support of your point. One of the principles in PTE 80-26 is that a reimbursement arrangement should be established in advance, includng relevant terms such as time.

Ah. Thanks. My bad. I skimmed it but did not re-read it completely - a danger i chastise my colleagues for constantly. Consider myself "self-chastized."

Amazingly, I get asked the question (can we get reimbursement...) ALL THE TIME. I guess I'm jaded - as it is obvious that the request only comes when the sponsor is experiencing cash flow issues....