Reallocation of Forfeitures Upon Plan Termination

We are being told that it is acceptable to reallocate forfeitures on a per capita basis to anyone with an account balance, even if their 415 comp is zero for the current and prior plan years.  Has anyone come across this before?  If so what is the basis for allowing it?  Curious as to why it works.  I have heard this from a big recordkeeper and an ERISA attorney has confirmed it is also doable.

7 minutes ago, austin3515 said:

We are being told ...

Regardless of other concerns, whenever I hear this phrase, my initial response is, "What reasoning have they given you?"  If there is none given, has it been requested?  (Close the first loop before opening other loops.)

The recordkeeper basically said the 415 regs cross reference the 1.457-2(j) definition of a participant for who can receive an allocation of forfeitures.  I was not able to find that cross-reference. 

This is 1.457-2(j)

(j) Participant. Participant in an eligible plan means an individual who is currently deferring compensation, or who has previously deferred compensation under the plan by salary reduction or by nonelective employer contribution and who has not received a distribution of his or her entire benefit under the eligible plan. Only individuals who perform services for the eligible employer, either as an employee or as an independent contractor, may defer compensation under the eligible plan.

Even if the suggested interpretation of ERISA’s title I and the Internal Revenue Code might be reasonable (and I don't suggest that it is), what does the plan’s governing document provide?

I'm with Peter, read the fabulous document. Which I'm guessing "probably" allocates them up to the 415 limit. If that doesn't eat them all up, you probably have a lot of forfeitures.

I haven't heard being able to allocate forfeitures to past employees, but just because I haven't heard it, doesn't mean it can't be done. I have seen excess assets in a DB plan allocated to former employees who still have accrued benefits but I have not seen the same thing done in DC plan that had unallocated forfeitures.

So this happened. RK is saying the form that the plan sponsor signed is enough and likely constitutes an amendment.  We're talking very small dollars here for a relatively small group.  Not my favorite use of time, but if its legal not worth hiring the dream team of attorneys to fight it.  So that's where my head is at on this one.  And no it is specifically in the document today but also not too late to do an amendment of some kind.

If there are forfeitures unused, perhaps austin3515 didn’t bill enough.

To find an allocation is good enough, let it be the administrator’s decision, not austin3515’s risk (however slight).

Remember, a recordkeeper proclaims that it does not provide tax or other legal advice. And courts have followed those warnings and contract provisions, putting the responsibility and liability on the plan’s administrator.

That said, I often favor letting a plan’s administrator (knowingly) accept risks, especially if an expense for advice would be disproportionate to the exposure.

This is not advice to anyone.

Assuming the plan document is silent on the issue, there is some guidance out there.  As noted in Rev. Rul. 81-10,

"Forfeitures, like employers' contributions, may be allocated to participants' accounts pursuant to a formula that takes into account factors other than current compensation. However, if such factors are used, it must be shown on a year-to-year basis that their use has not resulted in discrimination in favor of the groups enumerated in section 401(a)(4) of the Code. A permissible method for determining whether the allocation formula produces prohibited discrimination in any given year is to compare the allocations to employees in the enumerated groups as opposed to other employees where such allocations are expressed as a percentage of compensation."

What is relevant here is the forfeitures could be allocated based on something other than compensation (like years of service, age plus service points...), as long as it is not discriminatory.

Regarding the 415 issue, there is a private letter ruling (i.e., we can't rely on it) IRSWD0213033 where an allocation of proceeds from a liquidation of an ESOP was considered in part an allocation of earnings (not contributions or forfeitures) for purposes of applying 415(c).  This is such a narrow set of circumstances, it is very difficult to think it could be applied elsewhere.

Ideally, @austin3515's client has in writing the comment the "big recordkeeper and an ERISA attorney has confirmed".

For those of us who keep the CCH Pension Plan Guide hardbound volumes of before-1986 rulings, Revenue Ruling 81-10 is in the Pre-1986 IRS Revenue Rulings volume at ¶ 19,554.

The ruling’s assumed facts describe an ongoing plan, not a discontinued plan.

The ruling does not mention § 415’s annual-additions limit.

Why does someone seek to allocate forfeitures to participants who lack compensation? If a forfeiture allocation—whether in relation to compensation, or to account balances—were restricted to participants with compensation in the limitation year in which the allocation is annual additions, are there not enough participants (or insufficient § 415 limits) to use the remaining forfeitures balance?

This is not advice to anyone.

@Peter Gulia I think you can safely advise that, because there so many tried-and-true ways to handle forfeitures, this is a dumb idea!

The "smart" thing to do was a stinking profit sharing allocation in the amount of available forfeitures.  It is understood this was an unforced error...

BenefitsLink neighbors, we’re imagining a situation we don’t really know the full facts and background of. Sometimes, our bits of reasoning might help an inquirer think through a problem and a range of potential ways of thinking about it. But it's not advice.

This is an acutal, recent, fact pattern.  Plan transferred into my tpa shop with a significant forfeiture balance.  The employer stopped responding to the advisor and myself shortly after the assets transferred.  The employees started requesting distributions, stating they were all let go and the company went out of business.  The employer would not respond to authorize participant distributions, so an employee called the DOL.  I explained to the agent that the trustee is non-responsive and there is a significant forfeiture balance that needs to be addressed.  I had no census data to allocate the forfeitures as a contribution and no history to see what years the forfeitures started.  The DOL agent told me to allocate the forfeitures based on prior account balance and payout the employees.  I said the recordkeeper will not make distributions without a Trustee's signature.  One of the former employes knew a prior trustee who still had authorization on the recordkeeper's system.  The DOL said to use him to authorize ditributions and pay everyone out. There was a six figure forfeiture balance that got allocated to 40 employees, based on prior account balance.  There is no way that reallocation of forfeitures complied with anything, but that's what the DOL agent said to do in order to close the plan.  

While this is off-topic for austin3515’s query, a quick observation:

EBSA’s approach to abandoned-plan situations is to suggest almost anything that persuades someone to cause payments to participants and beneficiaries. In my experience, that includes ignoring plan or trust provisions that might slow down a path to that desired end.

And in a way your and my experiences might suggest something about how austin3515’s client evaluates its choices. If there is a course of action that flunks a tax-qualification condition but is unlikely to be examined by the Internal Revenue Service, a decision-maker might find it’s worth taking a risk that the plan later is found to have been tax-disqualified if doing so speeds the plan’s termination and final distribution. While it’s fact-sensitive, there might be circumstances in which an imperfect allocation from forfeitures could be a reasoned choice.

This is not advice to anyone.

5 hours ago, austin3515 said:

The "smart" thing to do was a stinking profit-sharing allocation in the amount of available forfeitures.  It is understood this was an unforced error...

Just thinking out loud, are you sure this option is no longer available?

yeah the checks have been cut and sent out to the participants probably a  few weeks ago.  Participants walking into HR is what set everything off.  For sure checks have been cashed.