If your business sponsors a qualified retirement plan (401(k) salary deferral
plan, profit sharing plan, money purchase pension plan, etc.), you may be facing
a new requirement for plan distributions, starting March 28, 2005.
On that date, a law first enacted in 2001 goes into effect. The law restricts
a plan sponsor's ability to involuntarily "cash out" low balance
accounts belonging to participants who terminate employment.
What the Law Says In general, when a participant terminates employment
and has a plan account balance (or accrued benefit) of $5,000 or less, if the
plan document so provides, a plan sponsor is allowed to distribute that account
balance (or benefit) to the participant, even if the participant does not
consent. The intent of this involuntary cash-out rule: to allow employers to
distribute small inactive plan accounts and avoid the future burden and expense
of administering them.
The 2001 law provided that involuntary cash-outs of more than $1,000 (up to
$5,000) must be rolled over to an Individual Retirement Account (IRA)
established by the employer when the terminated plan participant does not elect
to receive the distribution directly or have it paid as a direct rollover to
another employer's plan or an IRA. The effective date of this rule was delayed
until the government issued regulations spelling out how the law should be
administered.
Last September, the U.S. Department of Labor (DOL) issued final regulations
containing minimum requirements for automatic rollovers. And, in late December
2004, the IRS issued guidance on the tax law requirements that apply.
The automatic rollover rules go into effect on March 28, 2005, for most
plans. If your plan calls for involuntary distributions of small accounts, then
your plan document and operations must be amended to account for the new rules.
DOL and IRS Requirements Basically, to satisfy the government's
automatic rollover rules, a plan must meet these DOL requirements.
The present value of the account balance (or accrued benefits) being
cashed out cannot exceed $5,000.
Absent an election by the terminated participant, the distribution must be
rolled over to a qualified IRA provided by a state or federally regulated
financial institution.
The plan fiduciary (generally, the employer-plan sponsor) must enter a
written agreement (enforceable by the participant) with the IRA provider
specifying that the rolled over funds will be invested in a way designed to
preserve principal and provide a reasonable rate of return, consistent with
liquidity.
Fees and expense cannot exceed those charged by the IRA provider for
comparable IRAs set up for reasons other than involuntary cash-outs.
The plan sponsor must provide the terminated participants with a summary
plan description (SPD) or summary of material modification (SMM) that (1)
explains the plan's automatic rollover provision, (2) describes the
investment product that will be used for the IRA, (3) states the IRA fees
and expenses and to whom they will be charged, and (4) provides the name,
address, and phone number of a contact who can provide additional
information.
In addition, the IRS has imposed these rules:
The plan sponsor must notify the participant that his or her account
(benefit) will be rolled over to an IRA unless the participant directs
otherwise. This notice must also identify the trustee or issuer of the IRA.
The notice can be provided separately or as part of the Special Tax Notice
that is already required before a plan distribution is made. It may be sent
electronically within IRS guidelines. Generally, if the participant fails to
make an election within 30 days after the notice, the plan can implement the
automatic rollover.
A plan can use the participant's last known mailing address when sending
the automatic rollover notice and setting up the rollover account. The
notice rule will be met even if the notice is returned as undeliverable.
Plans implementing the automatic rollover rules must adopt a "good
faith" plan amendment by the end of the first plan year ending on or
after March 28, 2005. For calendar-year plans, the amendment must be made by
December 31, 2005.
The automatic rollover rules apply to governmental 457(b) plans and 403(b)
plans as well as certain church plans. Delayed effective dates may apply.
While the rules go into effect as of March 28, 2005, if a plan does not
have adequate administrative procedures in place at that time to process
distributions under the new rules, it can delay the required automatic
rollovers from March 28 and beyond until it sets up those procedures.
However, all required rollovers for that period must be completed by
December 31, 2005.
Your Plan's Options If your plan's legal provisions are contained in
an IRS pre-approved plan document (a prototype document or volume submitter
document), you should contact your document sponsor to find out what options
might be available to you. If you have an individually designed plan, consult
with your professional advisor.
At the very least, if your plan contains involuntary cash-out provisions, you
will need to amend the plan to accommodate the automatic rollover rules.
Most plan sponsors will have the option of eliminating involuntary cash-out
distributions entirely to avoid the automatic rollover rules. Those plans that
currently provide for involuntary cash-outs would need to amend their plans to
do this.
Another option: Plans may be amended to eliminate involuntary cash-outs of
amounts greater than $1,000. Under current law, amounts of $1,000 or less can be
cashed out without being subject to the automatic rollover rules.
How We Can Help You should review your plan in light of the new automatic
rollover rules and decide what approach is best for your business and its
employees. Since the March 28 deadline is not far away, that review should be
undertaken now. We would be happy to assist in that review.
In fact, we are available to take a look at your plan's provisions in general
to determine if there are any changes you could make that would make operating
your plan simpler and more efficient. Contact us for more information.
The information provided in the newsletter has been obtained
from sources believed to be reliable but its accuracy is not guaranteed.
