Category Archives: Defined contribution

Nondiscrimination (Part 4): Time for employers to brush up again on nondiscrimination testing?

Many employers have modified their traditional defined benefit (DB) plans by moving to a “soft frozen” plan (or “closed” plan), where the existing participants continue to accrue benefits, but plan participation is closed to new employees. One common design is to maintain the DB plan for a closed group of employees and to establish or enhance a defined contribution (DC) plan for newer (and future) employees. In Part 2 of our earlier series on nondiscrimination testing, we explored the issues faced by a typical plan sponsor electing this route.

As an example of how circumstances change, many years ago Employer F permitted a “grandfathered” group of longer-service employees to continue accruals under its DB plan, and established a profit-sharing plan for all of the remaining employees. New employees joined the profit-sharing plan when eligible. At the time of the program change, the plans met the three main nondiscrimination tests, which are:

• Participation (only applicable to the DB plan)
• Coverage
• Benefits

A number of years have passed since the change, and the DB plan population has now declined and become more heavily weighted toward highly compensated employees (HCEs). The DB plan is no longer passing the 70% ratio percentage test, and is currently meeting the coverage requirement via the more complex average benefits test. Employer F is concerned that the average benefits test is in danger of failing in the near future, and is now looking for alternative ways to ensure that the DB plan continues to meet the coverage requirements.

In many circumstances, the nondiscrimination rules will currently allow plan sponsors to consider two or more plans to be a single combined (or “aggregated”) plan for purposes of meeting the coverage and benefit requirements (but not the participation requirements). If this is done for a DB plan and a DC plan, the combined plan is known as a “DB/DC” plan.

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IRS adds flexibility to rollover timing

Moen-AlexOn August 24, 2016, the Internal Revenue Service (IRS) released Rev. Proc. 2016-47, allowing quicker and easier relief of the existing 60-day rollover rule for retirement plans, including 403(b) and governmental 457 plans and IRAs. In the past, under Rev. Proc. 2003-16, an individual had to submit for a private letter ruling requesting a waiver of the 60-day rule and await a response before proceeding with the rollover. The request for waiver via private letter ruling from the IRS is not free; in 2016, an individual may be required to pay up to $10,000 for the waiver. Under Rev. Proc. 2016-47, an individual can proceed with the rollover, at no cost, as long as he or she self-certifies the reason for the delay.

The revenue procedure provides a sample letter that can be supplied to the plan administrator or financial institution, and allows an individual to submit a request for waiver as long as the IRS has not already issued a denial. There are 11 acceptable reasons for waiver of the 60-day rule, including:

• The financial institution made mistakes or did not supply needed information when requested
• A lost check or postal service errors
• An IRS levy
• The check was deposited into an account incorrectly believed to be a retirement plan or IRA
• Personal reasons: family death or illness/disability, natural disaster, incarceration, or foreign country restrictions

If none of the above situations apply, a person can still use the old private letter ruling process to request relief.

As expected, there are timing conditions associated with the self-certification. An individual must complete the rollover contribution “as soon as practicable” after the reasons that caused the delay in the first place are no longer present. The revenue procedure refers to this as the 30-day safe harbor.

What happens if it is discovered during an IRS audit that the waiver is not accepted? The individual would receive additional income and be required to pay the taxes and, potentially, penalties.

This new rule reduces the burden on plan administrators, trustees, and custodians to verify the legality of the rollover. In addition, the ruling simplifies procedures for the individual because the rollover can be processed efficiently, without having to wait for an IRS review of the situation and response letter.

Plan sponsors, you may be wondering if there is any action you need to take, or if this is even relevant to you. The answer is no. This is simply for your reference in case a participant asks whether the 60-day rollover rule has any exceptions. I’ve found that with some of our smaller clients, plan sponsors receive a variety of questions and become more involved in assisting participants with the distribution process. You may get a question about this new Rev. Proc. from a participant and after reading this, hopefully, you are more equipped to assist them.

Sponsors and participants must follow 409A true to form

Pizzano-DominickThis blog is part of a 12-part series entitled “The nonqualified deferred compensation plan (NDCP) dirty dozen: An administrative guide to avoiding 12 traps.” To read the introduction to the series, click here.

While last month’s blog explored the permissible times NDCP distributions may occur under section 409A of the tax code, this month’s entry examines the rules surrounding the forms of payment that may be offered under these plans. Accelerations and deferrals can just as easily be effected with a choice of form (e.g., lump sum versus installment payments) as they can with timing elections. These two sets of rules are connected because they share a common purpose: proving some degree of flexibility while preventing the type of excessive control that 409A was enacted to eliminate. The following will examine how sponsors can ensure that their NDCP forms follow 409A function.

First step: Grounding form flights of fancy
NDCP participants are used to the free-flowing flexibility of the qualified plan world in which they can typically wait right up until their benefit commencement date (BCD) before having to commit to the form of payment under which they wish to have their plan benefits distributed. A further false sense of flexibility may arise from pre-409A provisions, which permitted the linking of the form of payment from the NDCP to the form of payment elected by the participant under the qualified plan that the NDCP was intended to supplement. These were most prevalent in defined benefit (DB) style NDCPs but occasionally also appeared in some defined contribution (DC) ones. The 409A rules do allow grandfathering of prior amounts (see the “Honor thy 409A grandfather” entry of this series for details); however, such linking is prohibited for benefits attributable to post-December 31, 2004, accruals or contributions.

Because the rules governing NDCP form elections for such amounts are much more rigid, NDCP sponsors must make sure they clearly communicate these differences to participants, develop the appropriate 409A-compliant plan designs for their executive groups, and vigilantly administer their NDCPs in accordance with such designs. The rules for 409A generally require that a participant’s form of payment under a NDCP be designated much earlier than would be the case under a qualified plan. For most NDCPs, the rule requires participants to elect their form of payments when they first become eligible for the NDCP. Accordingly, sponsors need to provide participants with sufficient notice and means to make this election prior to the expiration of their initial eligibility periods (i.e., generally 30 days from the date they are first designated as eligible).

Exceptions to the rule
There are two exceptions to this rule requiring participants to make form elections to be made when first eligible:

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It’s Your Move: The dash(board) to retirement

O'Brien-ShaneDonald Rumsfield, the former U.S. Secretary of Defense, once discussed “known unknowns,” referring to things that we are aware we don’t know. The idea can be applied to retirement plan participants as well. It is evident year after year that plan participants still lack a fundamental understanding of certain aspects of retirement planning, such as how to invest, how much to invest, and how to create a plan for retirement. These aspects remain widely misunderstood.

Enter the It’s Your Move dashboard on Milliman’s newly reimagined website. This dashboard aims to make participants aware of the tools at their disposal that can help them plan for retirement. The dashboard falls in line with other initiatives in the industry, all aimed toward improving employees’ preparations for retirement. I’ve previously discussed how the working population in the United States is massively unprepared for retirement and suggested that “gamification” was a possible solution. The SaveUp app was cited as an example of the effectiveness that gamification can have on retirement planning.

Now there is another newsmaker with a similar name—the Secure, Accessible, Valuable, Efficient Universal Pension Accounts (SAVE UPs) Act—grabbing a few headlines. SAVE UPs is a new piece of legislation that was introduced by Representative Joe Crowley (D-New York). The main objective is to provide all American workers with the opportunity to generate tax-advantaged assets. The legislation intends to help smaller employers subsidize the cost of contributing to IRAs in the form of a tax credit for the value of the contributions to 10 employee accounts. This bill, if enacted, could be following down a very controversial path similar to that of, I shudder to say, Since the full name of this new legislation threatens to exceed the character limit of any tweet commenting on it, I figured it would be easier to discuss on this platform since the overall objective appears to be to help provide opportunities for more people to prepare for retirement. The new Milliman Benefits dashboard was created with the same goals in mind and has a significantly lower chance of becoming part of the script for the next season of House of Cards.

The new It’s Your Move dashboard was designed to make participants aware of the various successful behaviors that will optimize their experience. With tools that help participants maximize company matches, diversify their investments, and utilize automatic increase and rebalance features, it could help to set new standards for best practices and increase participation rate in the plans that we manage.

PlanAhead - It's Your Move 2

Participant feedback has shown that a knowledge gap still exists in regards to retirement planning and investment decisions. A survey in March showed that 71% of participants were very likely or somewhat likely to seek advice from their plan providers and 69% were likely to seek advice from an independent advisor or financial services company. The advice they were seeking is on how to invest their money, what to do with their savings when they leave their employers, and what to do with the money when they retire. This shows that a majority of participants would like assistance in their retirement planning. The It’s Your Move dashboard helps to do just that. This readily accessible checklist of retirement behaviors is making participants aware of the tools available to them in an effort to improve their retirement outcomes. It can help employees feel more confident about retirement and offer some encouragement and useful information along the way.

The NDCP dirty dozen: Timing is everything

Pizzano-DominickThis blog is part of a 12-part series entitled “The nonqualified deferred compensation plan (NDCP) dirty dozen: An administrative guide to avoiding 12 traps.” To read the introduction to the series, click here.

While most nonqualified deferred compensation plan (NDCP) sponsors will be hard-pressed to find humor in 409A compliance, they may be willing to acknowledge that proper administration of NDCP distributions shares at least one common attribute with a winning comic performance: for the NDCP to successfully stand up in front of the most demanding critic—i.e., the Internal Revenue Service (IRS)—without facing any heckling, the plan must practice precision timing with its distributions to participants. Just as a comedian must work not to deliver a punch line too early or too late, an NDCP needs to avoid improper accelerations or delays of participant payments. A failure to do so can elicit a most unpleasant response in the form of a cacophony of catcalls and boos from participants, or an IRS audit discovery of 409A noncompliance, thereby triggering the resultant penalties.

This blog entry examines some of the toughest timing tests for the satisfactory operation and administration of NDCPs under section 409A of the tax code.

Activating the trigger
Section 409A severely restricts employer and/or executive discretion on the timing of distributions. It identifies six permissible NDCP distribution triggers, which generally must be established within 30 days of the date the executive first becomes eligible to participate in the plan:

1. A specified payment date (i.e., a future distribution date is designated either by the employer and/or executive upon the participant’s initial eligibility)
2. Separation from service
3. Disability
4. Death
5. Change in ownership or control of a corporation
6. Unforeseeable emergency

Except for death, each trigger has its own special 409A definition, along with complicated rules regarding how it may be applied. There is also a separate rule that permits the attachment of a “window” period to the applicable trigger. Under this rule, the participant may not designate the taxable year of payment; and such period must either both begin and end within one taxable year or must not be more than 90 days.

Recent IRS guidance expanded the permissible early payout alternatives to an NDCP participant’s beneficiaries in cases of death, disability, or unforeseeable emergencies. The guidance also clarifies that the NDCP may provide that the occurrence of death, disability, or an unforeseeable emergency may accelerate a schedule of payments that has already commenced prior to a participant’s or beneficiary’s death.

One of the most complex triggers happens to be one of the most commonly used: the “separation from service” distribution trigger. This trigger will not pose problems when the separation is clear-cut and final, such as a full retirement, resignation, or termination of employment. However, employment separations are often not so simple, such as where an executive’s duties are scaled back from his or her previous role (e.g., under a “phased retirement” scenario) or where a key employee “retires” but is then retained to consult as an independent contractor. Depending on the extent of the cutback and the terms of the NDCP, the plan may risk either prematurely commencing payment or impermissibly delaying a distribution that should commence. This may occur if the employer and/or the executive’s idea of what constitutes a separation does not align with the guidance under 409A. Although it basically is a facts-and-circumstances test, 409A considers a termination to have occurred if the employer and employee reasonably anticipate that either of these two conditions applies:

1. No future services will be performed after a certain date.
2. The rate of bona fide services to be performed after such date will not exceed 20% of the average rate of services performed over the preceding 36-month period (or the full period, if less than 36 months). (If the new rate of services is over 20% but less than 50%, such reduction may be treated as a separation from service under 409A, provided special rules are met.)

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Approach 401(k) eligibility provisions strategically

Employers who take a strategic approach to defining eligibility provisions in a 401(k) plan can contain benefit costs, recruit and retain talent, simplify administration, and comply with regulations. In his article “Making participants out of employees via eligibility,” Milliman’s Noah Buck answers six strategic questions that plan sponsors should take into consideration. The excerpt below highlights two of the questions.

To what degree is the plan used to attract and retain talent?
A law firm does not want highly sought-after recruits joining a competing law firm down the road because they can enter the competing firm’s retirement plan sooner. Employers relying partially on their 401(k) plans for recruitment should consider that quicker and easier access to the plan will be more attractive to those in their prospective talent pools.

Are eligibility and entry date provisions cost-efficient with respect to turnover and vesting?
An organization’s turnover rate and average employee tenure are important to consider. A restaurant chain employing high-turnover wait staff will save cost and administrative energy by requiring employees to work six months before entering the plan instead of requiring one month.

It’s also important to consider the plan’s vesting provisions. If the plan has immediate vesting, the employer matching contributions — meant to supplement long-term retirement savings — could be going right out the door to short-term employees who are allowed to enter the plan too quickly. Employers should consider structuring eligibility and plan entry provisions so employer contributions are more likely to stay in-house with longer-term employees.