Proposed Section 403(b) Regulations
The Internal Revenue Service
has proposed the “first comprehensive guidance on section 403(b) arrangements
in over 40 years” in regulations that were proposed on November 16, 2004.
The general effective date of
the proposed regulations, which cannot be relied upon until they are issued in
final form, has been postponed until taxable years beginning after December 31,
2006 (union plans and church plans may have different effective dates).
The proposed regulations
generally impose requirements that will make employer-sponsored Section 403(b)
plans more like qualified retirement plans.
The specific requirements include:
1)
Employer-sponsored Section 403(b) plans have to be maintained
pursuant to a written defined contribution plan document.
The plan document must contain all material terms, including eligibility,
benefits, benefit limits, contracts available under the plan and the time and
form of benefit distributions. The
plan may contain permitted optional provisions dealing with hardship
distributions, plan loans, plan-to-plan transfers and acceptance of rollovers.
2)
Participant notice requirements will be imposed in order to
implement the required “universal availability” of any salary reduction
contributions provided by the plan. Participants
must be given an “effective opportunity” to make or change such
contributions by providing notice of the right to do so as well as the specific
election mechanics.
3)
The following categories of excludable employees listed in IRS
Notice 89-23 will no longer be subject to exclusion from a Section 403(b) plan:
·
employees who make a one-time election to waive 403(b)
participation in order to participate in a governmental plan;
·
employees covered by a collective bargaining agreement;
·
visiting professors (currently limited to exclusion for a one-year
period under certain conditions); and
·
employees affiliated with a religious order who have taken a vow
of poverty.
Section
403(b) plans can continue to exclude employees eligible to make elective
deferrals under a Section 401(k) maintained by the employer, non-resident
aliens, students performing services and employees who normally work fewer than
20 hours per week (see item 4 below).
4)
Section 403(b) plans have always been permitted to exclude
employees who normally work fewer than 20 hours per week.
The proposed regulations permit this exclusion of part-time employees,
but also provide that an employee will be considered to work fewer than 20 hours
per week only if:
·
the employer reasonably expects the employee to complete fewer
than 1,000 hours of service during the first 12 months of employment; and
·
for each plan year ending thereafter, the employee completed fewer
than 1,000 hours of service in the preceding 12 month period.
5)
There are currently no restrictions on when a participant may take
a distribution of non-elective employer contributions plus earnings from a
403(b) annuity contract. The
proposed regulations would permit such distributions only upon termination of
employment or another sanctioned trigger event (a fixed number of years, upon
attainment of a stated age or upon the occurrence of a disability).
6)
Qualified plan antidiscrimination tests of Code Sections 401(a)(4)
and 410(b) are to be applied to employer 403(b) plan contributions in lieu of
the good faith standard of IRS Notice 89-23, which is targeted for revocation.
Also, the annual limit on annual compensation that may be taken into
account pursuant to Code Section 401(a)(17), which is $220,000 for 2006, will
apply to Section 403(b) plans under the proposed regulations.
7)
Participant hardship distributions will be permitted in accordance
with the Section 401(k) rules on hardship distributions.
8)
Elective deferral contributions to a Section 403(b) plan, just
like 401(k) contributions, must be transferred by the employer to the plan
within 15 business days following the month in which such deferrals are deducted
from the participant’s pay.
9)
Life insurance policies (except for grandfathered policies) may
not be used to fund a Section 403(b) plan.
10)
Section 403(b) plans can be terminated by an employer-sponsor with
plan assets distributed to participants with full rollover options even if
participants have not separated from service or otherwise incurred a sanctioned
trigger event referred to in item 5 above.
11)
In-service plan-to-plan 403(b) asset transfers by participants
will be limited, as in qualified retirement plans, to transfers to a receiving
plan in which the employee is a participant.
Annuity contract exchanges among annuity contract providers must occur
within the same 403(b) plan and the exchanged assets must not be diminished in
the transaction. The annuity
transfer rights provided by Rev. Rul. 90-24 will be restricted accordingly.
12)
As we have already discussed in some detail, tax-exempt employers
will be aggregated based on an 80 percent director control test to determine the
identity of all entities to be treated as a single employer for Section 403(b)
purposes.
The above rules, subject to
modification by the anticipated final regulations, will require a conforming
amendment of existing plan documents. The
optional plan features identified in item 1 above may warrant consideration by
employers. Any additional monitoring
of antidiscrimination compliance (item 6 above) should be arranged with the
relevant service provider. There
also may be a need to modify the language of existing contracts with service
providers to specify new duties and responsibilities in light of the above
regulations.
In addition to the above,
tax-exempt employers should consider the “Roth 403(b)” option.
This option would allow participants to make elective Section 403(b)
contributions that would not currently be excluded from income for tax purposes
but would be distributable free of income tax after age 59½, if certain
conditions are met. Unlike a Roth
IRA, there is no income restriction on those eligible to make Roth 403(b)
contributions. Consequently, this
option would permit highly compensated employees to make such contributions for
the first time. The new Roth 403(b)
rules are currently effective and can be implemented at any time.
Andrew
S. Williams
Aronberg Goldgehn Davis & Garmisa
330 North Wabash Avenue, Suite 3000
Chicago
,
Illinois
60611
(312) 755-3145
awilliams@agdglaw.com
|