Puerto Rico tax law on Section 165 plans

[Guest Jim Bender]

I need info on Section 165 plans, the Puerto Rico version of a 401(k) plan. Any help would be appreciated.

[Guest]

I know nothing, but this came up recently and here is the only info I have:

- must have separate plan for people working in PR if the plan is a 401k salary deferral type of plan because the ee wants to exclude deferrals from his income for purposes of PR taxes and therefore plan must satisfy section 165E of PR tax code

- plans generally called "165E plans"

- he doesn't know of any source of PR documents - once he wrote one with a PR attorney (note: needs special PR trust document) and other times the plans were for a big firm who had their own cadre of lawyers

- okay if assets invested in regular US investments

- big practical difference is that ADP testing is on the old 1/3-2/3 rule, no testing of match and no multiple use

- if controlled group sponsors more than one 165E plan (maybe for different employers within controlled group), plans must be aggregated for testing

- if distributions, IRA rollover must be to a PR IRA which has significant investment restrictions, but many people just take the lump sum and pay tax on it since it is taxed at long term capital gains rates

- CCH has PR tax guide in 2 volumes -- good source, but has full tax code so you need to fish for what you need re pensions

(hopefully this isn't a friendly competition issue between firms bidding for the same plan. I had never heard of 165 plans until someone else asked a couple of weeks ago!)

[PMC]

Tom - your prior post indicates that there must be a separate plan for the people working in Puerto Rico. It would seem based on all the differences in the Puerto Rican Code it would definitely be the prudent thing, but is it a "requirement"?

Does anyone have additional information and help with some of these questions or point me to summaries re- Plans covering a U.S. Puerto Rican subsidiary? I understand the Puerto Rican IRC is essentially the USIRC prior to the 1986 revison.

Assume separate plans are maintained - 1. Under the Retirement Plan Message Board, it's seems clear that those employees in Puerto Rico are not considered nonresident aliens with no U.S. source income, so they can't be statutorily excluded from the U.S, parent's Plan. The U.S. plan would then have to satisfy 410(b)excluding them. Does the PRIRC have a similar rule in that they must take U.S. employees into consideration, or do they follow the pre-86 US IRC and can exclude classifications and go by the old 70/80 rule?

2. Does the separate Puerto Rican Plan have to file an annual return similar to a 5500? Any form analogous to the 1099?

3. Would transfers be allowed between Plans?

4. If one Trust maintained for both Plans and it is located in the U.S., are the earnings on the contributions made to the Puerto Rican Plan subject to U.S. taxation?

If the Puerto Rican and U.S. groups are covered under the same Plan (and the following may be some of the reasons why they shouldn't) -

1. Do you do an ADP for the Puerto Rican group based on the 1/3-2/3 HCEE definition, the $8000 max. (10%) limit on deferrals; and the regular ADP, elective deferral limits for the U.S group.

The different definitions of HCEEs could cause some qualification issues with returning deferrals (excesses) when they shouldn't be returned based on USIRC.

2. What about an ACP test - this isn't required under PRIRC. Do you exclude them from the calculation of the U.S. group's ACP? Do you have to do any 401(a)(4) testing of the Puerto Rican group's matching contributions?

3. Does the 401(a)(17) comp. limit apply to the Puerto Rican

group?

4. Taxation - for those employees who would work in the U.S. and then transfer to Puerto Ricao (vice versa) would you need to keep contributions spearate based on whether they were made while the employed in U.S. or PR? And earnings always taxed in U.S.?

5. All Plan assets, even those attributable to the Puerto Rican group, are reported on the 5500.

Thanks

[Guest wendycatherine]

I don't know if we have just been lucky so far, but, knock on wood, we have always received favorable determination letters from Puerto Rico with the same 401(k) plan we use for everyone else in the US.

[Steve72]

One important issue to note is that the contribution limits are significantly lower under the PR IRC. Excess deferrals by PR employees (over the PR limit, but within the US limit) must be distributed under the PR IRC, but no distributable event will have occurred under US law.

If anyone has a solution to this (after the fact) I'd be very appreciative.