SponsorNews - August 2014
401(k) Record Retention: How Long is Long Enough?
By Jerry Kalish
November 10, 2013
Here’s one of those ERISA answers: It depends.
First, there’s the so-called 6-Year Rule Answer. It requires all plan-related materials that support the plan’s annual reporting and disclosure to be retained for at least six years after the date of filing of an ERISA-related return or report, or from the date of any extension. These materials should be preserved in a manner and format (electronic or otherwise) that permits ready retrieval.
Then, there is the Best Practices Answer. How long is that? Forever.
This means that certain records should be kept for the life of the plan. This would include all plan documents dating from the plan’s inception. The thicker the paper trail (or digital copies), the easier it will be for the plan to respond to an inquiry from a governmental agency or a request for information from a plan participant.
Most recently, the Internal Revenue Service requested specific employee records from a client going back 10 years during a plan termination process. Fortunately, the employer was able to provide it.
In addition, the Department of Labor requires employers to maintain records sufficient to determine the amount of benefits accrued by each employee participant. In the case of pension plan, this means an employee’s compensation and service as a plan participant.
While many plan sponsors retain firms like ours to provide certain reports and prepare the 5500 filing, the employer usually is the party ultimately responsible for retaining adequate records that support these reports and filings.
Much better to have the records than have the regulatory agencies help the employer reconstruct them.
Add In-plan Roth Transfer; Amend by December 31, 2014
In 2010, Congress allowed participants to make in-plan Roth rollovers (IRR) of amounts that were otherwise distributable in an eligible rollover distribution. In 2013, Congress expanded the rule, allowing participant to make in-plan Roth transfers (IRT) of amounts that were not otherwise distributable.
Wednesday, the IRS released Notice 2013-74 which gives guidance on IRT and IRR. This is the first of three Technical Updates dealing with this Notice. This Technical Update will focus on the deadline to adopt amendments to add the IRT feature.If a plan wishes to add an IRT feature, must the employer amend the plan to do so?
Yes. Before 2013, plans could not have permitted IRT. Even if the plan permitted IRR, they would have been limited to otherwise distributable amounts and would not have been available for amounts ineligible for distribution. If a traditional 401(k) plan wishes to add an IRT feature, what is the deadline to do so?
The deadline is the later of the last day of the plan year IRT rules are put into effect or December 31, 2014. Thus, a plan can implement IRT rules now and adopt a conforming discretionary amendment in 2014.If a safe harbor 401(k) plan wishes to add an IRT feature, what is the deadline to do so?
The deadline is the later of the first day of the plan year IRT rules are put into effect or December 31, 2014. Thus, safe harbor plans have the same retroactive amendment deadline as traditional plans until December 31, 2014. Thereafter, a safe harbor plan cannot put IRT into effect in the middle of a plan year.
If a 403(b) plan wishes to add an IRT feature, what is the deadline to do so?
The deadline is the end of the 403(b) remedial amendment period, which may be as late as 2017 or 2018. Thus there is no need for immediate action.
If a governmental 457(b) plan wishes to add an IRT feature, what is the deadline to do so?
The deadline for a governmental 457(b) plan to adopt an IRT feature for 2013 or 2014 is December 31, 2014.
What amendments are covered by the extended December 31, 2014 deadline?
· Amendments to add IRT features
· Amendments to add IRR features
· Amendments to accept Roth deferrals
· Amendments to permit acceptance of Roth rollovers
IRS Issues Notice on Expanded In-Plan Roth Conversion OptionGuidance confirms that plan sponsors have flexibility in designing and implementing a feature that allows participants to convert vested pre-tax balances to after-tax Roth balances.
On December 11, the Internal Revenue Service (IRS) issued Notice 2013-74 to provide guidance on a change in law that permits sponsors of 401(k), 403(b), and governmental 457(b) plans to offer participants in-plan Roth conversions of pre-tax amounts not yet eligible for distribution. The change, enacted early in 2013 as part of the American Taxpayer Relief Act (ATRA), expanded section 402A(c)(4) of the Internal Revenue Code of 1986, as amended, (the Code) by extending an existing, limited in-plan Roth conversion option to all vested amounts under eligible plans, including those amounts not yet eligible for distribution.
Notice 2013-74 confirms that plan sponsors that implement an in-plan Roth conversion option generally may limit the types of vested pre-tax contributions that participants can convert, may specify the frequency with which participants can elect to make in-plan conversions, and may discontinue such in-plan conversion programs. The notice further provides special time frames during which plan sponsors may adopt amendments related to in-plan Roth conversion features as well as other guidance regarding in-plan Roth conversions of both distributable and nondistributable amounts.What is an in-plan Roth conversion?
Sponsors of 401(k) plans, 403(b) plans, and governmental 457(b) plans may offer participants the option to make in-plan Roth conversions (referred to as “in-plan Roth rollovers” in Notice 2013-74), in which they transfer assets from their non-Roth accounts to a designated Roth account in the same plan. An in-plan Roth conversion of non-Roth pre-tax dollars to Roth after-tax dollars causes the converted amounts to be taxed in the year of the conversion, while generally allowing for future qualified tax-free distributions of converted amounts and any accumulated earnings, so long as the account has been in place for at least five years and the distribution satisfies certain other restrictions.
Which pre-tax amounts can be converted to Roth after-tax amounts?
All vested assets in an eligible plan may now be converted under a plan’s in-plan Roth conversion feature, including pre-tax elective deferrals, employer matching contributions, and nonelective employer contributions. Prior to the change in law under ATRA, the in-plan Roth conversion option was limited to amounts that were otherwise distributable under tax law. ATRA extended the in-plan Roth conversion option to amounts not otherwise distributable from a plan. Notice 2013-74 clarifies that only vested amounts may be converted.
Notice 2013-74 also makes clear that plan sponsors may restrict the types of vested contributions eligible for an in-plan Roth conversion and the frequency with which participants can make in-plan Roth conversions, provided that such restrictions do not operate to discriminate in favor of highly compensated employees. The notice also explains that the right to make in-plan Roth conversions is not a protected benefit and thus can be discontinued subject to the general nondiscrimination rules.
What guidance does Notice 2013-74 offer on the administration of in-plan Roth conversions?Withholding and Tax Consequences
Notice 2013-74 provides that amounts converted under an in-plan Roth conversion option are not subject to income tax withholding and accordingly warns that employees who make in-plan Roth conversions may need to increase their withholding rates or make estimated tax payments to cover the income tax liability resulting from the conversion. For plan accounts holding employer securities, the notice indicates that an in-plan Roth conversion will be treated as a distribution for the purpose of determining whether a participant qualifies for special tax treatment of the net unrealized appreciation on employer securities under Code section 402(e)(4)(B).
Although the IRS characterizes in-plan Roth conversions as in-plan “rollovers” from non-Roth to Roth accounts, Notice 2013-74 explains that plan administrators do not need to provide Code section 402(f) notices regarding the tax consequences of rollover distributions to employees who elect to make in-plan Roth conversions of otherwise nondistributable amounts.Maintenance of Distribution Restrictions
The notice also explains that distribution restrictions applying to a pre-tax amount before it is converted to a Roth after-tax amount under an in-plan Roth conversion feature will continue to apply to the converted amount. The notice acknowledges that, to simplify recordkeeping, a plan sponsor may wish to restrict eligibility for in-plan Roth conversion only to otherwise distributable amounts so that separate accounting for different converted amounts, subject to different distribution restrictions, is not required.
Determination of the Five-Year Period for Qualified Roth Distributions
Distributions of Roth amounts and accumulated earnings ordinarily are tax free if they are “qualified distributions” from a Roth account made more than five taxable years after the first year the participant contributed to the Roth account and if they satisfy certain other restrictions. For the purpose of determining when a subsequent distribution is “qualified,” Notice 2013-74 confirms that, if an in-plan Roth conversion is a participant’s first contribution to a designated Roth account in the plan, the five-taxable-year period begins on the first day of the taxable year in which the in-plan Roth conversion was made.Treatment of Converted Excess Deferrals and Contributions
The notice provides further guidance on the treatment of amounts converted under an in-plan Roth conversion feature that are later found to be excess deferrals under the Code’s individual deferral limits or excess contributions under the Code’s nondiscrimination rules. The notice explains that, if an employee converts all pre-tax amounts to Roth after-tax amounts through an in-plan Roth conversion feature and the amounts are later found to be excess deferrals or contributions, the excess amounts must be distributed from the Roth account even if the amounts were considered otherwise nondistributable at the time of the in-plan Roth conversion.
Effect on Determination of Top-Heavy Status
The notice provides that an amount converted in an in-plan Roth conversion (which the notice refers to as an “in-plan Roth rollover”) is treated as a “related rollover” amount that is considered in calculating participant account balances under the rules for determining whether a plan is a “top heavy” plan that favors key employees.When must a plan sponsor adopt an amendment providing for in-plan Roth conversions of otherwise distributable amounts?
Under Notice 2013-74, a 401(k) plan or governmental 457(b) plan generally can immediately begin offering in-plan Roth conversions, provided that a plan amendment for the in-plan Roth conversion feature is adopted by the last day of the first plan year in which the amendment is effective or December 31, 2014, if later. The notice also permits sponsors of safe harbor 401(k) plans to begin immediately offering such conversions, even midyear, in 2013 and 2014. For a calendar-year safe-harbor plan, the amendment to provide the conversion option starting midyear 2013 or 2014 must be adopted by December 31, 2014. A 403(b) plan sponsor that has timely adopted a written plan document may offer in-plan Roth conversions immediately as well and must adopt an amendment by the end of the ongoing remedial amendment period. The notice indicates that the IRS expects the end of the 403(b) plan remedial amendment period to be more than a year from the date of the notice.
This special amendment period applies to the implementation of in-plan Roth conversion features of both distributable and otherwise not distributable amounts as well as to the addition of Roth contribution features and provisions to accept Roth rollover contributions.What are the impacts and what next steps should plan sponsors take?
By broadening the pool of eligible assets, the new in-plan Roth conversion rule provides participants with a much greater opportunity to convert pre-tax dollars to Roth after-tax dollars. This is especially attractive for those individuals currently in lower tax brackets who have assets outside of the plan that can be used to pay taxes on the conversion.
Plan sponsors have the option, but not the obligation, to amend their eligible plans to add or expand the in-plan Roth conversion feature. A plan is not required to offer the expanded option, for example, simply because it already offers an in-plan Roth conversion feature permitted under the prior rules or accepts ongoing Roth contributions. Plan sponsors that have adopted or will adopt the feature have the ability to limit the types of contributions eligible for in-plan Roth conversion and to discontinue the conversion program. The new rule is permissive rather than mandatory and will therefore require a plan amendment to be effective. Plan sponsors that already have been offering in-plan Roth deferrals generally will have at least until the end of 2014 to adopt a plan amendment.
Mid-year Amendments to Safe Harbor 401(k) Plans
Since its inception in 1999, the IRS consistently has taken the position that a plan sponsor may not make mid-year amendments to safe harbor 401(k) plans. Originally, the IRS based its position on the safe harbor notice and 12-month plan year requirement. The IRS concluded that since the mid-year amendment was not reflected in the notice, an employer could not make the mid-year change. Nevertheless, many practitioners found themselves in situations necessitating mid-year amendments. Despite the IRS’s restrictive interpretation, many such amendments were made, some substantive and some non-substantive. As safe harbor 401(k) plans have become more popular, the IRS has recognized, albeit slowly, the need to be more flexible.
When the IRS issued its final 401(k) regulations, it attempted to formalize its position in Treas. Reg. §1.401(k)-3(e)(1): “Except as provided …, a plan will fail to satisfy the requirements of section 401(k)(12) … and this section unless plan provisions that satisfy the rules of this section are adopted before the first day of the plan year and remain in effect for an entire 12-month plan year. In addition, except as provided in [the exiting rules], a plan which includes provisions that satisfy the rules of this section will not satisfy the requirements of §1.401(k)-1(b) if it is amended to change such provisions for that plan year.
Many practitioners interpreted the regulation to prevent mid-year changes to the safe harbor contributions but not with respect to other plan changes. The IRS, on the other hand, seemingly has interpreted this as preventing any mid-year changes to the plan unless the IRS granted an exception.
In the final regulations and subsequent guidance, the IRS provided several exceptions to the restriction on mid-year amendments.
2004 final 401(k) regulations. The final regulations provided the following exceptions to the restriction on mid-year amendments:
· Plan termination
· Plan termination for cause (the plan is able to retain its safe harbor status for the short plan year)
· Reduce or eliminate the safe harbor match (exiting rules)
· Add a safe harbor nonelective provision retroactive to the beginning of the plan year (maybe notice)
2009 proposed regulations. In response to the economy’s downturn, the IRS provide a mechanism to reduce or eliminate the safe harbor nonelective contribution. Unlike the provision in the 2004 regulations which permitted an employer to exit a safe harbor match for any reason, the 2009 proposed regulations conditioned the amendment on the employer suffering a substantial business hardship. Please refer to our November 15th Technical Update for an explanation of the change in the rules regarding exiting both a safe harbor nonelective and safe harbor match plans.
Announcement 2007-59. The IRS announced that a plan sponsor could amend a safe harbor 401(k) plan to:
· Add a Roth deferral feature
· Change the hardship provision to add an option to make a hardship distribution on account of medical expenses, college expenses and funeral expenses for a plan beneficiary.
Notice 2010-84. The IRS announced that a plan sponsor could amend a safe harbor 401(k) plan to add an in-plan Roth rollover mid-year as long as the amendment was adopted by December 31, 2011 (the In-plan Roth rollover was effective September 27, 2010).
ASPPA National Conference. In the 2012 National Conference, the IRS verbally confirmed some additional mid-year amendments with which they would feel comfortable:
· Change of plan year, so long as the following plan year the plan followed the safe harbor rules
· Expand coverage to include employees previously not included (so long as existing participants are not affected)
· Change of investment vendor
· A retroactive corrective amendment to address a coverage failure
· Change of trustee
Although a practitioner may not rely on the IRS statements, some practitioners have used the statements to justify at least some mid-year amendments.
2013 final regulations. In the final regulations on exiting a safe harbor 401(k) plan mid-year, the Treasury gave the IRS authority to establish exceptions to the rule restricting mid-year amendments by way of guidance (notices, announcements, revenue rulings) rather than by way of regulations. In the preamble, the Treasury mentioned the possibility of issuing guidance to deal with mid-year corporate transactions. The ability to change the rules by guidance allows the IRS to respond more quickly. For an explanation of the final exiting regulations, go to the November 15th Technical Update.
Despite the IRS’s rather restrictive approach to mid-year amendments, practitioners continue to find themselves in the position of needing to make mid-year amendments. Many practitioners assume the risk in making these amendments either because they disagree with the IRS’s restrictive interpretation or simply out of necessity. The modification of the regulation that gives the IRS the opportunity to expand the list of exceptions may be a mixed blessing. On one hand, the new regulations signal a new flexibility on the part of the IRS. On the other hand, the list of exceptions likely will not address every situation. Furthermore, with a specific list of exceptions, the IRS may begin to enforce a rule that up until now it has been reticent to enforce.
Reducing or Suspending Safe Harbor 401(k) Matching and Nonelective Contributions Midyear
Final Treasury Regulations T.D. 9641 (generally effective November 15, 2013):
When you may reduce or suspend safe harbor contributions midyearNonelective safe harbor contributions
- allow you to reduce or suspend 401(k) plan safe harbor nonelective contributions midyear if you
- are “operating at an economic loss,” or
- have previously given a reduction/suspension notice to participants;
- beginning with plan years after 2014, permit you to suspend or reduce 401(k) safe harbor matching contributions midyear only under the same circumstances that apply to safe harbor nonelective contributions; and
- authorize the IRS to publish any other midyear changes that may be made to 401(k) safe harbor plans in future guidance published in the Internal Revenue Bulletin.
The final regulations allow you to reduce or suspend safe harbor nonelective contributions midyear if you:
- are operating at an economic loss for the plan year (IRC Section 412(c)(2)(A)) or have provided participants a potential reduction/suspension statement (see below), and
- meet the procedural requirements below.
Under the 2009 Proposed Treasury Regulations (REG-115699-09), you could only reduce or suspend nonelective safe harbor contributions midyear if you:
- incurred a substantial business hardship (comparable to a substantial business hardship under IRC Section 412(c)), and
- met the procedural requirements of the 2009 Proposed Treasury Regulations.
See Reducing or suspending safe harbor nonelective contributions in cases of substantial business hardship (Employee Plans News, May 2009).Potential reduction/suspension statement
The statement informing participants of a potential reduction/suspension of safe harbor contributions must be included in the annual safe harbor notice you give to participants before the plan year. It must inform them that:
Matching safe harbor contributions
- you may amend the plan during the year to reduce or suspend your safe harbor plan contributions, and
- the amendment wouldn’t be effective until at least 30 days after you’ve given participants a supplemental notice.
For plan years beginning after 2014, the final regulations allow you to reduce or suspend safe harbor matching contributions midyear only if you’re operating at an economic loss or had included a potential reduction/suspension statement (see above) in your annual safe harbor notice to participants, and you meet the procedural requirements below.
For plan years beginning before 2015, to reduce or suspend safe harbor matching contributions midyear, you only have to meet the procedural requirements below.Procedural requirements for reducing or suspending safe harbor contributions midyear
If you meet the circumstances for a midyear reduction/suspension of safe harbor contributions, to actually reduce or suspend safe harbor contributions during the year, you must follow these procedural requirements:
- Adopt a plan amendment before the end of the plan year to reduce or suspend safe harbor contributions. This amendment shouldn’t be effective earlier than:
Give participants a supplemental notice explaining the consequences of the amendment that reduces or suspends your plan’s matching or nonelective contributions, the procedures for changing their salary deferral elections (and their employee contribution elections, if applicable) and the effective date of the amendment.Give participants a reasonable opportunity after they receive the supplemental notice and before the change is effective to change their salary deferral elections (and their employee contribution elections, if applicable).Make all safe harbor contributions through the effective date of the amendment.The amendment must provide that the plan will pass the actual deferral percentage test (and the actual contribution percentage test, if required) for the entire plan year in which you reduce or suspend the safe harbor contributions using the current year testing method.The plan must satisfy the top-heavy requirements.Midyear safe harbor plan termination
- its adoption date, or
- 30 days after you give participants the supplemental notice.
The final regulations made no changes to the rules for terminating safe harbor 401(k) plans midyear. Generally, to terminate a safe harbor 401(k) plan midyear, you must satisfy the rules for safe harbor plans through the date of termination and take steps similar to the procedural requirements above, except you aren’t required to give participants a supplemental notice or an opportunity to change their contribution elections.
However, you only have to satisfy the rules for safe harbor plans through the date of termination, and adopt an amendment terminating the plan, if the termination is because of a:
- substantial business hardship under IRC Section 412(c); or
- merger, acquisition or other event that qualifies for the coverage transition rules of IRC Section 410(b)(6)(C).