The Puerto Rico (PR) Treasury has issued Administrative Determination Letter 14-16 of August 6, 2014 (AD 14-16) providing rules governing the pre-payment of amounts accumulated under a retirement plan at a special reduced tax rate, allowed under Act 77 of July 1, 2014 (Act 77). The PR Treasury has also issued forms SC 2911 (for qualified plans) and SC 2912 (for non-qualified plans) for making these pre-payments. As previously discussed, as result of Act 77, during the period from July 1, 2014 to October 31, 2014 (the Window Period), participants in retirement plans (whether qualified or not) can elect to pre-pay at a reduced tax rate part or the total amount accumulated under the plan that is not currently distributable. The implementation of this window was on hold pending the issuance of guidance by the PR Treasury since the applicable rate and the rules for implementing such pre-payments were unclear.
In general, pursuant to AD 14-16, the election for the pre-payment on amounts accumulated under a retirement plan (whether qualified or not) is voluntary and can be made by the participant, a participant’s beneficiary or alternate payee, and is applicable to both defined contribution plans and defined benefit plans. As to the tax rate, AD 14-16 provides that amounts accumulated under a PR qualified retirement plan are subject to an 8% tax rate; non-qualified plans are subject to a rate of 15%. The pre-payment of the amounts accumulated under the retirement plan could be made for part or the total amount accumulated under the plan and the payment can be made from the plan’s funds (if the plan is amended to permit for such payment) or the participant’s own funds. AD 14-16 describes the process for such pre-payment and related reporting depending on the manner such pre-payment is made. In addition, the pre-payment cannot be made for future accumulated amounts.
Following are the main highlights discussed in AD 14-16:
- Participants in retirement plans (whether defined contribution or defined benefit plans) can prepay the amounts accumulated at the time of the pre-payment at a reduced tax rate of 8% if the plan is qualified, or 15% if the plan is non-qualified. These reduced tax rates are also applicable for amounts distributed during the Window Period as a result of separation from service, plan termination or retirement (or other plan-permitted event) to the extent the special tax is paid simultaneously with the distribution.
- Retirement plans that have not yet been submitted for qualification under the Puerto Rico Internal Revenue Code of 2011, as amended, will be considered non-qualified plans, subject to the 15% reduced tax rate.
- Pre-payments can be made from the participant’s own funds or from the funds accumulated in the Plan. It is not mandatory to permit pre-payment from the plan’s funds. To the extent permitted, the plan will need to be amended accordingly. However, this amendment will not have to be filed with the PR Treasury for qualification.
- The pre-payment can be made directly by the participant or through the service provider. In either case, the participant must complete the corresponding pre-payment form (SC 2911 for qualified plans or SC 2912 for non-qualified plans). If participants are making the pre-payments directly with the PR Treasury, the deadline to complete the process and file the corresponding form is October 31, 2014. In addition, an original copy of such form must be provided to the service provider not later than 30-days after the pre-payment. However, if pre-payments are being made by the service provider, participants must submit the corresponding form on or before October 31, 2014 to the service provider, and the service provider will have until November 15, 2014 to deposit the pre-payment with the related documentation to the PR Treasury.
- Service providers for retirement plans allowing for the pre-payment of the taxes with plan funds must notify the PR Treasury of such distribution through Form 480.7C no later than February 28, 2015.
- Once a pre-payment has been made, it is final and irrevocable and such amount paid is not eligible for a return or a refund (in case at the time of distribution the value of the benefit has decreased).
Based on the foregoing, sponsors and service providers of retirement plans must take appropriate measures to permit the pre-payment of taxes during the window period. Plan amendments are necessary only to the extent that Plan funds will be available to satisfy the pre-payment. In addition, it is highly advisable to notify plan participants of the window period and related pre-payment process.