The Internal Revenue Service recently issued Proposed Treasury Regulations that would provide guidance on the information that would be required to be provided to tax-qualified retirement plan participants, in connection with the distribution of their benefits from such plan, in order to satisfy the requirement that the participant be notified of the consequences of failing to defer (i.e., taking an immediate distribution). In addition, the Proposed Treasury Regulations would expand from 90 to 180 days: (a) the election period during which a qualified joint and survivor annuity may be waived and (b) the notice period for describing the terms and conditions of a qualified joint and survivor annuity.
A. Notice of Consequences of Failing to Defer
Where a tax-qualified retirement plan participant’s nonforfeitable accrued benefit exceeds US$5,000, Section 411(a)(11) of the Internal Revenue Code (the “Code”) provides that a qualified plan may not distribute that benefit to the participant prior to the later of age 62 or normal retirement age without the participant’s consent. Section 411(a)(11) of the Code also requires the plan to provide a notice to such participant informing them of their right to defer receipt of such distribution.
The Pension Protection Act of 2006 (the “PPA”) instructed the Department of the Treasury to modify the regulations under Code Section 411(a)(11) to provide that the applicable notice be expanded to include a description of the consequences of failing to defer receipt of the applicable distribution (i.e., the consequences of taking such an immediate distribution of the accrued benefit). The PPA also mandated that the changes to these notices apply to years beginning after December 31, 2006. Prior to the promulgation of regulations by the Treasury, IRS Notice 2007-7 provided guidance on how a plan sponsor could comply with the PPA’s modifications to Code Section 411(a)(11)’s notice requirements. Notice 2007-7 required the plan administrator to make a “reasonable attempt” to comply with the requirements and included a safe harbor that would be considered a reasonable attempt to comply. Such safe harbor would be satisfied if the notice included: (a) in the case of a defined benefit plan, a description of how much larger benefits will be if the commencement of distributions is deferred; (b) in the case of a defined contribution plan, a description indicating the investment options available under the plan (including fees) that will be available if distributions are deferred and (c) the portion of the plan’s summary plan description that contains any special rules that might materially affect a participant’s decision to defer (e.g., provisions which would limit retiree health benefits to participants who have an undistributed benefit under the employer’s retirement plan).
B. Expansion of Applicable Election Period
Section 401(a)(11)(A) of the Code provides that, except as provided in Section 417 of the Code, a tax-qualified retirement plan must provide the accrued benefit payable to a vested participant who does not die prior to commencement of his or her benefit payments in the form of a qualified joint and survivor annuity (QJSA). Section 417 of the Code generally provides that a plan participant may elect at any time during the “applicable election period” to waive the QJSA form of benefit.
The PPA changed the “applicable election period” for electing a distribution subject to the QJSA rules of Sections 401(a)(11) and 417 of the Code in a form other than a QJSA from a 90-day period to a 180-day period. Under Section 417(a) of the Code, the participant must be given notice of their right to waive the QJSA form of benefit during the “applicable election period” no less than 30 days and no more than 90 days before the annuity starting date. (417(a)(1)(A)) The PPA provided that the Secretary of the Treasury amend the regulations relating to these Code Sections to substitute “180 days” for “90 days” each place it appears.
C. Expansion of Period for Notices
Section 417(a)(3)(A) of the Code provides that a tax-qualified retirement plan must provide to each participant, “within a reasonable period of time before the annuity starting date,” a written explanation of the terms and conditions of the QJSA and certain other information. Similarly, Section 402(f) of the Code provides that a plan administrator must, “within a reasonable period of time” before making an eligible rollover distribution, provide to recipients an explanation of certain tax consequences of the distribution. Regulations issued under such Code Sections provided that 90 days was a “reasonable period of time” for these purposes.
PPA provides that the Secretary of the Treasury shall modify the Treasury Regulations referenced above by substituting “180 days” for “90 days.”
IRS Proposed Regulations on Distribution Notices
A. Notice of Consequences of Failing to Defer
The Proposed Regulations would require that the notice required by Section 411(a)(11) of the Code provide guidance on the relevant information that must be provided to a participant in order to satisfy the requirement that the participant be notified of the consequences of failing to defer (i.e., the consequences of an election to take an immediate distribution). These consequences include the differences in timing of the taxation of an immediate distribution that is not (or cannot be) rolled over and a distribution deferred to the later of age 62 or normal retirement age, including the differences in the taxation of Roth deferrals (where applicable), application of the 10 percent additional tax on certain distributions before age 59½ and, in the case of a defined contribution plan, loss of the opportunity upon immediate commencement for future tax-favored treatment of earnings if the distribution is not rolled over (or not eligible to be rolled over) to an eligible retirement plan.
The Proposed Regulations would require notices to participants in defined contribution plans to include a description of the loss of the opportunity for the participant’s account balance to accrue additional tax-favored treatment of earnings where the participant chooses an immediate distribution. Plan administrators would also have to include a statement that investment options available outside the plan may not be generally available on similar terms to those in the plan, as well as a statement that fees and expenses on investment options outside the plan may be different from the fees and expenses applicable to the participant’s account in the plan. The notice would also have to contain contact information so that the participant may obtain additional information from the plan on fees and expenses applicable to the participant’s account.
In the case where the distribution is made from a defined benefit plan, the Proposed Regulations would require the notice to contain a statement of the amount payable to the participant under the normal form of benefit both upon immediate commencement and when the benefit is no longer immediately distributable (i.e., the later of age 62 or normal retirement age).
The Proposed Regulations would require the notice to contain an explanation of any plan provisions (including provisions of an accident or health plan maintained by the employer) that could reasonably affect the participant’s decision whether to take an immediate distribution of their benefit or defer it, such as plan terms under which the participant would lose eligibility for retiree medical benefits or an early retirement subsidy.
The information required by the Proposed Regulations must appear consecutively within the notice, but the notice may incorporate required information by reference, so long as the notice contains a statement of how the documents which provide information on the consequences of choosing an immediate distribution may be obtained by the participant without charge and why the referenced information is relevant to a decision whether to defer.
B. Expansion of Applicable Election Period and Period for Notices
The Proposed Regulations would (1) expand the definition of “applicable election period” to up to 180 days and (2) expand the time period for notices issued under Code Sections 402(f), 411 and 417 to allow the notices to be issued up to 180 days prior to the annuity starting date.
Effective Date; Transition Period
The Proposed Regulations are proposed to become effective for notices provided (and election periods beginning) on or after the first day of the first plan year beginning on or after January 1, 2010, pending publication of Final Regulations in the Federal Register. However, as noted above, the PPA requirement to notify distributees of the consequences of failing to defer the receipt of distributions applies to years beginning after December 31, 2006. Therefore, prior to the effective date of the Final Regulations, with respect to the rules relating to the notice of consequences of failing to defer the receipt of distributions, a tax-qualified retirement plan will be treated as complying if: (a) the plan complies with the Proposed Regulations or the requirements set forth in Notice 2007-7, or (b) the plan administrator makes a reasonable attempt to comply with the requirement to provide notice of a participant’s right to defer receipt of a distribution which also includes a description of the consequences of failing to defer. With respect to the rules relating to the expanded applicable election period and the expanded period for notices, a tax-qualified retirement plan may rely on the Proposed Regulations for notices provided (and election periods beginning) during the period beginning on the first day of the first plan year beginning on or after January 1, 2007 and ending on the effective date of the Final Treasury Regulations.
The Proposed Regulations will require changes to the distribution notices and election forms of tax-qualified retirement plans. White & Case would be pleased to review your current distribution notices and election forms for compliance with the PPA and/ or to help modify such forms to comply with the Proposed Regulations.