Should the different ways for a participant to get money be on the same claim form?

[Peter Gulia]

If (for 2024) a § 401(k), § 403(b), or governmental § 457(b) plan provides many kinds of distributions such a plan may provide without tax-disqualifying the plan, a participant might face a choice of two or more kinds of distributions allowed on the same set of facts. (For now, let’s ignore anything about a § 402A(e) emergency savings account.)

Each kind of distribution might invoke advantages and disadvantages all or some of which would not result from another of the kinds that could be taken in the same set of facts.

This need for a participant to choose which kind of distribution one claims can occur not only before severance from employment but also after severance.

I worry that if a plan’s administration uses a distinct claim form for each kind of distribution, a severed participant might reflexively use the form for a “normal” distribution, and so might miss an opportunity to claim a different kind of distribution with different features. Or a before-severance participant might reflexively use the hardship form, perhaps missing an opportunity to consider another claim that would preserve advantages a hardship distribution lacks.

For example, imagine a 401(k) participant in his 30s or 40s who recently severed from employment. He wants to take $5,000 to help meet expenses. He could get what he wants stating no fact beyond his severance from employment. Yet on his facts, he also could get a qualified birth-or-adoption distribution. Taking that § 72(t)(2)(H) distribution would result in a Form 1099-R coded for the IRS not to look for an extra 10% too-early tax. And it would preserve the distributee’s opportunity to repay the amount into a retirement plan.

If a plan’s administration uses a distinct claim form for each kind of distribution (and the participant had not read carefully the plan’s communications about the several kinds of distributions allowed), how would he know he could choose a qualified birth-or-adoption distribution?

Or imagine a before-severance participant whose need would be met if she claims no more than $1,000 and gets what results after Federal income tax withholding. The participant’s request to the call center says she needs money, but doesn’t mention that $1,000 would be enough. If not carefully scripted and trained, might a call-center worker—facing pressures on his time and attention—reflexively send or point to only the hardship form? How would the participant know that she might want the form for a § 72(t)(2)(I) emergency personal expense distribution?

BenefitsLink neighbors, what do you think:

Should a plan’s administrator—practically, its recordkeeper or third-party administrator—put all the available kinds of distribution on one claim form?

Why or why not? What would be the advantages? What would be the disadvantages or difficulties?

If you think its unwise or impractical to put all or many kinds of distribution on one claim form, what methods would you suggest to inform a participant about one’s opportunity to consider different kinds?

[Paul I]

I would not recommend putting all of the different kinds of distributions available under the plan on one election form.  It may, however, be helpful to the participant if there is a single description of all of the kinds of distributions that are available along with highlighting some of the decision points the participant should consider in choosing the type of distribution.  The description would then point to the appropriate form tailored to each kind distribution.  This is an approach that is similar to existing procedures for requesting a distribution, although as you note, the number of choices has expanded significantly.  Arguably, the SPD should fulfill this function, but we should acknowledge that SPDs can be unwieldy, or blandly generic and less detailed than may be needed if there are many choices available to the participant.

Some reasons for keeping forms separate are:

• Different types of distributions can require different information.  Often a participant looking to take a distribution fills out question of every section on a form in fear of leaving out something that causes the request to be denied or delayed.
• Some distributions may require attachments providing additional information.  For example, a disability payment may need a physician's statement, a death benefit may a death certificate, or if self-certification is not allowed for hardships, documentation of the financial need may be needed.
• The tax circumstances can be different, and the tax rates and excise taxes can vary by the kind of distribution.  Any tax election accompanying the distribution election would need to be coordinated with the selected kind of distribution.

The plan will need to decide how far it will go to inform the participant of the consequences of the participant's choices.  Personal tax circumstances will vary from one person to the next.  Personal financial circumstances also will vary.  An individual who has reasonably stable finances may be more inclined to use a kind of payment that allows for repayment or restoration of the distribution to the plan. 

If the plan attempts suggest to the participant how to optimize the consequences of a distribution and the suggestions result in otherwise avoidable taxation or penalties, the plan can expect some participants to seek to be made whole because the plan did not fully inform them.

 

[Peter Gulia]

Paul I, thank you for your wonderfully helpful explanation of some disadvantages of the one-form idea.

If you’ll indulge me a little more, here’s some follow-up questions:

I like the idea of a communication—ideally, no more than one visually attractive page—that explains the kinds of distributions and the conditions for and characteristic of each. Imagine a plan has the resources to work on plain-language writing so this is at an eighth-grade reading level and yet explains everything a participant might want to know to make an informed choice. Here’s the hard part: If that page is not included within each claim form, or at least the normal and hardship claim forms, how do we get anyone to read the one-page explanation?

About a difficulty some might encounter if different kinds of claims call for different information, might that outlook be different if for every claim the only evidence a claimant provides is self-certifying the statements presented on the form?

About a worry that a claimant might mistakenly fill-in information in each part, what if each part for each kind of distribution has nothing to fill-in? The fill-in for the claimant’s name and taxpayer identification number would be near the beginning of the form. At the end of the form would be the amount requested, a series of checkboxes for the kind of distribution claimed, and the self-certification that the claimant met the conditions for the kind of distribution claimed. In the middle would be the text for each set of self-certifying conditions, one set of which the claimant would adopt with the checkbox. Does that work? Or are there practical reasons it wouldn’t?

(Assume none of the claims ever calls for a spouse’s consent.)

(Assume the service provider is instructed to pay every good-order claim, deny every not-in-good-order claim, and never bother the plan’s administrator until a claimant challenges a denial.)

And BenefitsLink neighbors, any further or different observations?

[Paul I]

First, let's not discount the opportunity to let participants request distributions on line.  This removes constraints of limiting explanations to one page and the process can limit the ability to input information that is required for a particular type of distribution.

Also, let's not overlook requirements like the need for 402(f) notices, 30-day waivers and special considerations if the distribution will come for taxable, Roth or after-tax accounts.

If you want the participant to read the description, it has to attract attention of the eye and the mind.  This typically translates into the use of colors and varying fonts and text size, and should avoid jargon.  For example, ask "Do you need money related to a birth or adoption?" instead of asking "Is the for a Qualified Birth or Adoption?"

A plan can call for liberal use of self-certification, limit the need for spousal consent, and delegate approval or acceptance to a service provider or 3(16) administrator.  I suggest that there is not a universal acceptance of this approach among plans and service providers, and there is a need for a significant amout of flexibility.

 

 

 

[Peter Gulia]

Paul I, thanks again!

Yes, I presume most distribution claims are submitted online, not paper.

I hope that allows more opportunity to present the idea that a plan might allow more than one kind of distribution on the same facts, and that a participant might choose which kind fits her needs and interests.

Electronic claims also allows quicker and cleaner use of information already known and suppression of information that cannot apply in an individual’s circumstances.

I think almost not at all about § 402(f) notices, waivers of that notice period, § 3405 withholding explanations, § 3405 elections (to the extent allowed), and other communications tax law requires. No matter how bad the writing in the IRS’s norms, it’s too hard to ask a recordkeeper to customize those elements.

And anything I might imagine about ways to streamline claims might see no use. None of my plan clients brings a recordkeeper enough profit that it would change a general method it decided on. Rather, my hope is that some recordkeepers, especially those that program one’s own software or build overlays and interfaces to improve uses of a supplier’s software, might consider designing systems not only for wholly computerized processing of claims for voluntary distributions but also for friendliness to participants in informing choices.

Paul I, thank you for indulging me with this thought exercise.

[EBP]

Just an FYI - if a participant goes online to the website of the large recordkeeper for our plan, there is a loans and withdrawals section that outlines all available distribution options for a participant based on age, whether there is a rollover account, maximum loan allowed, etc. Clicking on any of these gives the participant more information about that option. I assume the other large recordkeepers have a similar format.