In today’s virtual world, we suspect most plan sponsors rely upon the self-certification process to document and process 401(k) distributions made on account of financial hardship. The IRS has recently issued examination guidelines for its field agents for their use in determining whether a self-certification process has an adequate documentation procedure. While these examination guidelines do not establish a rule that plan sponsors must follow, we believe most plan sponsors will want to ensure that their self-certification processes are consistent with these guidelines to minimize the potential for any dispute over the acceptability of its practices in the event of an IRS audit.
The examination guidelines describe three required components for the self-certification process:
(1) the plan sponsor or TPA must provide a notice to participants containing certain required information;
(2) the participant must provide a certification statement containing certain general information and more specific information tailored to the nature of the particular financial hardship; and
(3) the TPA must provide the plan sponsor with a summary report or other access to data regarding all hardship distributions made during each plan year.
The notice provided to participants by the plan sponsor or TPA must include the following:
(i) a warning that the hardship distribution is taxable and additional taxes could apply;
(ii) a statement that the amount of the distribution cannot exceed the immediate and heavy financial need;
(iii) a statement that the hardship distributions cannot be made from earnings; and
(iv) an acknowledgement by the participant that he or she will preserve source documents and make them available upon request to the plan sponsor or plan administrator at any time.
The participant certification statement for financial hardship distributions must contain the following information:
(i) the participant’s name;
(ii) the total cost of the hardship event;
(iii) the amount of the distribution requested;
(iv) a certification provided by the participant that the information provided is true and accurate; and
(v) more specific information with regard to the applicable category of financial hardship, as outlined in the examination guidelines that can be found at the following website link: https://www.irs.gov/pub/foia/ig/spder/tege-04-0217-0008.pdf.
In cases where any participant has received more than two financial hardship distributions in a single plan year, the guidelines advise agents to request source documents supporting those distributions if a credible explanation for the multiple distributions cannot be provided. Given the instructions being given to agents in this regard, plan sponsors may wish to consider limitations on the number of financial hardship distributions that a participant may take or to apply a more stringent process for approving requests for financial hardship distributions where more than two requests are made in any plan year.
Plan sponsors should be aware that this IRS memorandum only addresses substantiation of “safe-harbor” distributions and that if a plan permits hardship distributions for reasons other than the “safe-harbor” reasons listed in the regulations, the IRS may take the position that self-certification regarding the nature of those hardships is not sufficient.
The good news with these guidelines is that if a self-certification process with respect to “safe-harbor” hardship distributions adheres to these guidelines, plan sponsors should have less concern over using the self-certification process and there should be fewer, if any, disputes with IRS field agents over the need for plan sponsors to maintain or provide access to source documents.
On January 20, 2017, President Trump signed an executive order entitled “Regulatory Freeze Pending Review” (the “Freeze Memo“). The Freeze Memo was anticipated, and mirrors similar memos issued by Presidents Barack Obama and George W. Bush during their first few days in office. In light of the Freeze Memo, we have reviewed some of our recent posts discussing new regulations to determine the extent to which the Freeze Memo might affect such regulations.
The Regulatory Freeze
The two-page Freeze Memo requires that:
- Agencies not send for publication in the Federal Regulation any regulations that had not yet been so sent as of January 20, 2017, pending review by a department or agency head appointed by the President.
- Regulations that have been sent for publication in the Federal Register but not yet published be withdrawn, pending review by a department or agency head appointed by the President.
- Regulations that have been published but have not reached their effective date are to be delayed for 60 days from the date of the Freeze Memo (until March 21, 2017), pending review by a department or agency head appointed by the President. Agencies are further encouraged to consider postponing the effective date beyond the minimum 60 days.
Putting a Pin in It: Impacted Regulations
We have previously discussed a number of proposed IRS regulations which have not yet been finalized. These include the proposed regulations to allow the use of forfeitures to fund QNECs, regulations regarding deferred compensation plans under Code Section 457, and regulations regarding deferred compensation arrangements under Code Section 409A (covered in five separate posts, one, two, three, four and five).
Since these regulations were only proposed as of January 20, 2017, the Freeze Memo requires that no further action be taken on them until they are reviewed by a department or agency head appointed by the President. This review could conceivably result in a determination that one or more of the proposed regulations are inconsistent with the new administration’s objectives, which might lead Treasury to either withdraw, reissue, or simply take no further action with respect to such proposed regulations.
A Freeze on Reliance?
The proposed regulations cited above generally provide that taxpayers may rely on them for periods prior to any proposed applicability date. Continued reliance should be permissible until and unless Treasury takes action to withdraw or modify the proposed regulations.
The DOL Fiduciary Rule
The Freeze Memo does not impact the DOL’s fiduciary rule, which was the subject of its own presidential memorandum, discussed in detail elsewhere on our blog.
On Friday, President Trump issued an order directing the Department of Labor to review the new regulation to determine whether it is inconsistent with the current administration’s policies and, as it deems appropriate, to take steps to revise or rescind it.
The long awaited Fiduciary Rule expanded protection for retirement investors and included a requirement that brokers offering investment advice in the retirement space put clients’ interests first. Financial institutions that either implemented, or were rapidly completing, their compliance efforts to comply with the Fiduciary Rule will need to assess the impact of this order on these efforts. Notwithstanding many earlier reports that the rule would be delayed 180 days, the date on which the rule was to take effect (April 10, 2017) has not been delayed. However, it is anticipated that a delay will be forthcoming, making the decision whether or not to proceed with further compliance efforts a difficult one. Many of those institutions may choose to implement only certain aspects of the Fiduciary Rule, while delaying complying with other aspects of that rule, pending the results of the DOL review.
Some have speculated that regardless of whether the Fiduciary Rule is finally made effective, compliance with the Fiduciary Rule could become the new “best practice” model; however, it is unlikely that financial institutions will voluntarily assume most of the obligations and resulting exposure of serving retirees in a fiduciary capacity.
Last week, the Department of Labor (DOL) released adjusted penalty amounts which are effective for penalties assessed on or after January 13, 2017, whose associated violations occurred after November 2, 2015. You might remember that these penalties were just adjusted effective August 1, 2016 (also for violations which occurred after November 2, 2015); however, the DOL is required by law to release adjusted penalties every year by January 15th, so you shouldn’t be surprised to see these amounts rise again next year.
All of the adjusted penalties are published in the Federal Register, but we’ve listed a few of the updated penalty amounts under the Employee Retirement Income Security Act of 1974 (ERISA) for you below:
- For a failure to file a 5500, the penalty will be $2,097 per day (up from $2,063).
- If you don’t provide documents and information requested by the DOL, the penalty will be $149 per day (up from $147), up to a maximum penalty of $1,496 per request (up from $1,472).
- A failure to provide reports to certain former participants or failure to maintain records to determine their benefits remained stable at $28 per employee.
Pension and Retirement
- A failure to provide a blackout notice will be subject to a $133 per day per participant penalty (up from $131).
- A failure to provide participants a notice of benefit restrictions under an underfunded pension plan under 436 of the tax code will cost $1,659 per day (up from $1,632).
- Failure of fiduciary to make a properly restricted distribution from a defined benefit plan will be $16,169 per distribution (up from $15,909).
- A failure of a multiemployer plan to provide plan documents and other information or to provide an estimate of withdrawal liability will be $1,659 per day (up from $1,632).
- A failure to provide notice of an automatic contribution arrangement required under Section 514(e)(3) of ERISA will also be $1,659 per day per participant (also up from $1,632).
Health and Welfare
- For a multiple employer welfare arrangement’s failure to file a M-1, the penalty will be $1,527 per day (up from $1,502).
- Employers who fail to give employees their required CHIP notices will be subject to a $112 per day per employee penalty (up from $110).
- Failing to give State Medicaid & CHIP agencies information on an employee’s health coverage will also cost $112 per day per participant/beneficiary (again, up from $110).
- Health plan violations of the Genetic Information Nondiscrimination Act will also go up to $112 per day per participant/beneficiary from $110. Additionally, the following minimums and maximums for GINA violations also go up:
- minimum penalty for de minimis failures not corrected prior to receiving a notice from DOL: $2,790 (formerly $2,745)
- minimum penalty for GINA failures that are not de minimis and are not corrected prior to receiving a notice from the DOL: $16,742 (up from $16,473)
- cap on unintentional GINA failures: $558,078 (up from $549,095)
- Failure to provide the Affordable Care Act’s Summary of Benefits and Coverage is now $1,105 per failure (up from $1,087).
The penalty amounts listed above are generally maximums, but there is no guarantee the DOL will negotiate reduced penalties. If you’re already wavering on some of your new year’s resolutions, we recommend you stick with making sure your plans remain compliant!
On January 18, 2017, the IRS issued proposed regulations allowing amounts held as forfeitures in a 401(k) plan to be used to fund qualified nonelective contributions (QNECs) and qualified matching contributions (QMACs). This sounds really technical (and it is), but it’s also really helpful. Some plan sponsors of 401(k) plans use additional contributions QNECs and/or QMACs to satisfy nondiscrimination testing. Before these proposed rules, they could not use forfeitures to fund these contributions because the rules required that QNECs and QMACs be nonforfeitable when made (and also subject to the same distribution restrictions as 401(k) contributions). If you have money sitting in a forfeiture account, then by definition it was forfeitable when made, so that money couldn’t possibly have been used to fund a QNEC or QMAC.
The proposed regulations provide that amounts used to make these contributions must satisfy the vesting requirements and distribution requirements applicable to 401(k) contributions when they are allocated to participants’ accounts rather than when they are contributed to the plan. The regulations are only proposed, but the IRS has said taxpayers may rely on them. If the final regulations turn out to be more restrictive, then those restrictions will only apply after the regulations are finalized.
Going forward, plan sponsors wishing to apply amounts held in forfeiture accounts to fund QNECs and QMACs under the 401(k) plan should review their plan document provisions. The plan should at a minimum allow forfeitures to be used to make employer contributions and not prohibit their use to fund QNECs and QMACs. Plan sponsors may wish to amend the document to clarify that “employer contributions” will include allocations made as QNECs and QMACs.
It might be tempting to conclude that the recent Department of Labor regulations on disability claims procedures is limited to disability plans. However, as those familiar with the claims procedures know, it applies to all plans that provide benefits based on a disability determination, which can include vesting or payment under pension, 401(k), and other retirement plans as well. Beyond that, however, the DOL also went a little beyond a discussion of just disability-related claims.
The New Rules
The new rules are effective for claims submitted on or after January 1, 2018. Under the new rules, the disability claims process will look a lot like the group health plan claims process. In short:
- Disability claims procedures must be designed to ensure independence and impartiality of reviewers.
- Claim denials for disability benefits have to include additional information, including a discussion of any disagreements with the views of medical and vocational experts and well as additional internal information relied upon in denying the claim. In particular, the DOL made it clear in the preamble that a plan cannot decline to provide internal rules, guidelines, protocols, etc. by claiming they are proprietary.
- Notices have to be provided in a “culturally and linguistically appropriate manner.” The upshot of this is that, if the claimant lives in a county where the U.S. Census Bureau says at least 10% of the population is literate only in a particular language (other than English), the denial has to include a statement in that language saying language assistance is available. Then the plan must provide a customer assistance service (such as a phone hotline) and must provide notices in that language upon request.
- New or additional rationales or evidence considered on appeal must be provided as soon as possible and so that the claimant has an opportunity to respond before the claims process ends.
- If the claims rules are not followed strictly, then the claimant can bypass them and go straight to court. This does not apply to small violations that don’t prejudice the claimant.
- As with health plan claims, recessions of coverage are treated like claim denials.
- If a plan has a built-in time limit for filing a lawsuit, a denial on appeal has to describe that limit and include the date on which it will expire. Basically, claimants have to know that they need to sue by a certain date. The DOL noted in the preamble that, while this only applies to disability-related claims, they believe any plan with such a time limit is required to include a description or discussion of it under the existing claims procedure regulations.
More information about the changes is available in this DOL Fact Sheet.
What to Do
While January 1, 2018 might seem like a long way off at this point, employers and plans need to consider taking the following steps early next year:
- For insured disability plans, plan sponsors need to engage their insurance carriers in a discussion about how these procedures will apply to them and what changes are needed to the insurance contracts. Some insurers may be slow to adopt these new procedures, which could put plan sponsors in a difficult position.
- For self-funded disability plans, plan documents will need to be updated, and procedures put in place.
- For retirement plans, there are some decisions to make. Recall that the procedures only apply if a disability determination is required. One way to avoid this is to amend the definition of disability so that it relies on a determination by the Social Security Administration or the employer’s long-term disability carrier. For defined contribution plans, this is likely to be the most expedient approach.
For defined benefit pension plans, this may not necessarily work. To the extent the disability benefit results in additional accruals, such a change may require a notice under 204(h) of ERISA. If a disability pension allows participants to elect a different from of benefit, then any change in the definition it may have to apply to future accruals under the plan, which means a disability determination may still be required for many years to come. Additionally, tying a disability determination to something other than the SSA raises similar issues if the plan sponsor changes disability carriers or plans that change the definition of disability.
Further, before going down the road of changing disability definitions, plan sponsors may want to consider whether a more restrictive definition, like the SSA definition, is consistent with their benefits philosophies. For plan sponsors who that cannot (or choose not to) amend their retirement plan disability definitions, plan documents must be amended before January 1, 2018 to incorporate these rules and procedures must be developed to address them.
- All plans that have lawsuit filing deadlines, even if they don’t provide disability benefits, should revise their notices to include a discussion of that deadline.
The Securities Act of 1933 prohibits the offer or sale of securities unless either a registration statement has been filed with the SEC or an exemption from registration is applicable. Although most qualified plan interests qualify for an exemption from the registration requirement, offers or sales of employer securities as part of a 401(k) plan generally will not qualify for such an exemption. Accordingly, 401(k) plans with a company stock investment option typically register the shares offered as an investment option under the plan using Form S-8.
On September 22, 2016, the SEC released a Compliance and Disclosure Interpretation addressing the application of the registration requirements to offers and sales of employer securities under 401(k) plans that (i) do not include a company securities fund but (ii) do allow participants to select investments through a self-directed brokerage window. Open brokerage windows typically allow plan participants to invest their 401(k) accounts in publicly traded securities, including, in the case of a public company employer, company stock. The SEC determined that registration in this situation would not be required as long as the employer does no more than (i) communicate the existence of the open brokerage window, (ii) make payroll deductions, and (iii) pay administrative expenses associated with the brokerage window in a manner that is not tied to particular investments selected by participants. This means that the employer may not draw participants’ attention to the possibility of investing in employer securities through the open brokerage window.
The SEC apparently was concerned that some employers have been advising participants regarding their ability to invest 401(k) plan assets in company securities through open brokerage windows. This might occur, for example, when an employer has decided to remove the company stock fund as an investment option because of concern over potential stock drop litigation; in communicating such a change, the employer might point out to participants that they still have the ability to purchase company stock through the open brokerage window.
The takeaway for public companies that do not offer a company securities fund in their 401(k) plan but do offer an open brokerage window is clear. They should either assure that communications to 401(k) participants include no reference to the option to purchase company securities through the open brokerage window or, if such communications are desirable, register an appropriate number of securities using Form S-8.
The IRS recently released updated limits for retirement plans. Our summary of those limits (along with the limits from the last few years) is below.
|Type of Limitation||2017||2016||2015||2014|
|Elective Deferrals (401(k), 403(b), 457(b)(2) and 457(c)(1))||$18,000||$18,000||$18,000||$17,500|
|Section 414(v) Catch-Up Deferrals to 401(k), 403(b), 457(b), or SARSEP Plans (457(b)(3) and 402(g) provide separate catch-up rules to be considered as appropriate)||$6,000||$6,000||$6,000||$5,500|
|SIMPLE 401(k) or regular SIMPLE plans, Catch-Up Deferrals||$3,000||$3,000||$3,000||$2,500|
|415 limit for Defined Benefit Plans||$215,000||$210,000||$210,000||$210,000|
|415 limit for Defined Contribution Plans||$54,000||$53,000||$53,000||$52,000|
|Annual Compensation Limit||$270,000||$265,000||$265,000||$260,000|
|Annual Compensation Limit for Grandfathered Participants in Governmental Plans Which Followed 401(a)(17) Limits (With Indexing) on July 1, 1993||$400,000||$395,000||$395,000||$385,000|
|Highly Compensated Employee 414(q)(1)(B)||$120,000||$120,000||$120,000||$115,000|
|Key employee in top heavy plan (officer)||$175,000||$170,000||$170,000||$170,000|
|SIMPLE Salary Deferral||$12,500||$12,500||$12,500||$12,000|
|Tax Credit ESOP Maximum balance||$1,080,000||$1,070,000||$1,070,000||$1,050,000|
|Amount for Lengthening of 5-Year ESOP Period||$215,000||$210,000||$210,000||$210,000|
|Taxable Wage Base||$127,200||$118,500||$118,500||$117,000|
|FICA Tax for employees and employers||7.65%||7.65%||7.65%||7.65%|
|Social Security Tax for employees||6.2%||6.2%||6.2%||6.2%|
|Social Security Tax for employers||6.2%||6.2%||6.2%||6.2%|
|Medicare Tax for employers and employees||1.45%||1.45%||1.45%||1.45%|
|Additional Medicare Tax*||.9% of comp >$200,000||.9% of comp >$200,000||.9% of comp > $200,000||.9% of comp > $200,000|
*For taxable years beginning after 12/31/12, an employer must withhold Additional Medicare Tax on wages or compensation paid to an employee in excess of $200,000 in a calendar year for single/head of household filing status ($250,000 for married filing jointly).
With the looming end of the determination letter program as we know it, the IRS has issued an updated Revenue Procedure for the Employee Plans Compliance Resolutions System (EPCRS). Released on September 29, 2016, Rev. Proc. 2016-51 updates the EPCRS procedures, replaces Rev. Proc. 2013-12 and integrates the changes provided in Rev. Proc. 2015-27 and Rev. Proc. 2015-28. The updated revenue procedure is effective January 1, 2017 and its provisions cannot be used until that date. Rev. Proc. 2013-12, as modified by Rev. Proc. 2015-27 and Rev. Proc. 2015-28, should be used for any corrections under the EPCRS for the remainder of 2016. Highlights from the new revenue procedure are outlined below.
- Determination Letter Applications. Determination letter applications are no longer required to be submitted as part of corrections that include plan amendments. The new revenue procedure also clarifies that any compliance statement for a correction through plan amendment will not constitute a determination that the plan amendment satisfies the qualification requirements.
- Favorable Letter Requirements. A qualified individually designed plan submitted under the Self Correction Program (SCP) will still satisfy the Favorable Letter requirement when correcting significant failures even if its determination letter is out of date.
- Fees. The Voluntary Correction Program (VCP) fees are now user fees. Effective January 1, 2017 a plan sponsor must refer to the annual Employee Plans user fees revenue procedure to determine the applicable VCP user fees.
- Model Forms. The model forms for a VCP submission (Forms 14568-A through 14568-I) can now be found on the IRS website.
- Audit CAP Sanctions. The method used to determine Audit Closing Agreement Program (Audit CAP) sanctions has been revised. Sanctions will no longer be a negotiated percentage of the Maximum Payment Amount (MPA), but will be determined by the IRS on a “facts and circumstances” basis. The MPA will be one factor used to determine a sanction. Generally, sanctions will not be less than VCP fees.
- Refunds. The IRS will no longer refund half of the user fee if there is disagreement over a proposed correction in an Anonymous Submission.
- The provisions of Rev. Proc. 2015-27, which clarify the methods that may be used to correct overpayment failures, modify the SCP for Code Section 415(c) failures to extend eligibility to certain plans with repeated corrections of excess annual additions so long as elective deferrals are returned to affected employees within 9½ months after the end of the plan’s limitation year, and lower the fees for certain VCP submissions, have been incorporated.
- The provisions of Rev. Proc. 2015-28, which modify EPCRS by adding safe harbor correction methods for employee elective deferral failures in both 401(k) and 403(b) plans, have also been incorporated into Rev. Proc. 2016-51.
For many years, the PBGC has been helping reunite missing participants with their benefits under single-employer defined benefit plans. Now, a new PBGC proposed rule may open up the program to missing participants under other terminated plans.
Under this proposed rule, terminated defined contributions plans may choose to transfer benefits of missing participants to the PBGC or to establish an IRA to receive the transfer and send information to the PBGC about the IRA provider. The PBGC will attempt to locate the missing participants and add them to a searchable database. The PBGC notes that once the program is established, it may issue guidance making the reporting requirement mandatory for defined contribution plans as authorized under section 4050 of ERISA.
The PBGC will accept the transfer of accounts of any size. If a plan sponsor chooses to transfer accounts to the PBGC, it must transfer the accounts of all missing participants. There will be no fee for transfers of $250 or less. For transfers above that amount, a one-time flat fee will apply which the PBGC indicates will not exceed its costs associated with the program. Initially, the fee has been set at $35.
This newly-proposed voluntary program for defined contribution plans has certain limitations. For instance, it would only be available to locate missing participants upon plan termination. It would not be available to locate missing participants for ongoing plans. For example, the program would not be available to find missing participants in connection with a plan correction under EPCRS. In addition, although the program would be available to many types of single-employer and multiemployer defined contribution plans, including abandoned plans, it would not be available to governmental plans and church plans.
The proposed rule also establishes a similar voluntary program for terminated professional service defined benefit plans with 25 or fewer participants and a mandatory program for terminated multiemployer plans covered by title IV of ERISA, similar to the existing program for single-employer defined benefit plans.
Finally, the proposed rule contains numerous changes to the existing rules. Most notable for defined contribution plans, the proposed rule modifies the criteria for being “missing” to include distributees of defined contribution plans who fail to elect a form or manner of distribution although their whereabouts are known. The PBGC notes that this change is consistent with existing DOL regulations which currently treat such individuals similarly to individuals who cannot be found for purposes of the safe harbor for terminated defined contribution plans. For terminating defined benefit plans, it would include distributees subject to mandatory “cash-out” who do not return an election form. According to the PBGC, it can be difficult to find the benefits of non-responsive distributees after they have been transferred to IRAs. It hopes to address this problem by bringing non-responsive distributees “into the PBGC fold” with its centralized governmental repository and pension search capability. Defined benefit plan distributees whose benefits are not subject to a mandatory cash-out provision would only be considered missing if the plan did not know their whereabouts. In making this distinction, the PBGC indicates that individuals with benefits that are not subject to cashout enjoy rights and features not available to those whose benefits may be cashed out and, absent an election, their benefits will be annuitized, preserving those rights and features. In addition, for title IV plans the identity of the insurer issuing the annuity must be provided to the PBGC if their whereabouts are unknown.
Other changes include more detailed requirements for diligent searches for defined benefit plans similar to those already required of defined contribution plans by DOL guidance, simplification of the existing rules and assumptions used for valuing benefits to be transferred to the PBGC, and changes in the defined benefit plan rules for paying benefits to missing participants and their beneficiaries.
The new rule is generally proposed to be effective for plan termination dates after calendar 2017. In addition to the proposed rule, the PBGC has issued a set of FAQs as well as draft forms with instructions for each of the proposed programs. Additional information can be found on the PBGC website here.