Compliance January 27, 2015

Council Supports Keeping Participants in Retirement Plans

The ERISA Advisory Council has made recommendations to support the idea of retirement plan participants keeping their savings in ERISA-covered plans for life.
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The 2014 ERISA Advisory Council examined recent movement of participant assets out of defined contribution (DC) and defined benefit (DB) plans—as plan distributions or rollovers into retirement accounts not covered by the Employee Retirement Income Security Act (ERISA), such as individual retirement accounts (IRAs) or other savings accounts.

The Council’s report provides ideas for plan administrators and plan participants, including communication strategies and plan design options to facilitate lifetime retirement plan participation.

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The Council noted it heard considerable testimony about the various factors terminating employees might consider in evaluating whether to keep assets in an employer-sponsored retirement plan, take a cash distribution, or roll assets into an IRA. According to the report, some factors participants may wish to consider include:

  • The plan’s fees versus the fees of an IRA;
  • Investment vehicles offered in the plan versus another savings vehicle;
  • Availability of loans;
  • Tax considerations;
  • IRAs are not subject to ERISA;
  • Protection against creditors;
  • The need for immediate cash; and
  • The health of the participant.

In addition, the Council looked at considerations for plan sponsors when deciding whether to encourage participants to keep assets in the plan. According to the report, Robert Hunkeler, vice president of investments at International Paper and a former chair of the Committee on Investment of Employee Benefit Assets (CIEBA), indicated  90% of CIEBA members surveyed (who primarily represent the investment functions at plan sponsors) indicated that keeping participants in ERISA-covered DC plans after termination of employment is a good idea because it will result in lower participant costs and provide ERISA fiduciary protections. On the other hand, only around 60% of the surveyed plan participants felt that their company wanted to keep participants in the plan, and less than one-quarter of the plan sponsors had a program in place to encourage retention.

Hunkeler attributed this difference more to the newness of the concept than to opposition, as less than 10% of those surveyed felt their organization would be opposed to the concept of employee retention in their plan. He said the primary reasons for not having a retention program were that “it was a low corporate priority and that there were concerns about fiduciary liability and cost.”

The Council looked at notices required when a retirement plan participant requests a distribution and the information available about distribution options on certain websites. It offered communication steps for plan sponsors to consider to encourage participants to stay in their plans and for the Department of Labor (DOL) to consider in educating and encouraging plan sponsors and participants.

“Based on the testimony and statements presented, it is the Council’s view that participants need more information and advice to make informed decisions about how to handle potential plan distributions and that DOL can play a role in providing this information directly through its educational programs and indirectly by encouraging plan sponsors to provide educational materials to participants at various stages during their employment relationship and beyond after employment has ended,” the Council wrote in its report.

The Council noted that if employer-sponsored plans are to encourage lifetime plan participation, they will need to include more products and services geared towards retirees in the decumulation phase of saving. Lifetime income options, such as annuities, will likely play a more prominent role in the future. The Council said it believes additional guidance to sponsors about lifetime income, including an updated DC plan annuity safe harbor, would result in reducing some of the biggest barriers to inclusion of such options in plans today. Specifically, the Council recommends that DOL provide additional guidance to encourage plan sponsors to offer lifetime income options, including an updated defined contribution plan annuity selection safe harbor; and look for additional ways to make useful tools available, including the DOL’s Lifetime Income Calculator, and integrate existing tools such as My Social Security.

The ERISA Advisory Council’s report, “Issues and Considerations Surrounding Facilitating Lifetime Plan Participation,” is here.

Administration January 27, 2015

Retirement Plan Rollover Basics

Departing retirement plan participants may wish to roll over their plan assets to another qualified plan or individual retirement account (IRA) to avoid paying taxes and to continue saving for retirement.
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There are certain guidelines that must be adhered to when rolling over retirement plan assets to an IRA or another qualified plan.

Retirement plan participants may choose a direct rollover, where the distributing plan sends the eligible distribution to the trustee or custodian of the recipient IRA or plan. This method does not require any withholding of taxes, and the participant never handles the funds.

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If a participant receives a distribution from the retirement plan, he has 60 days to decide whether to roll the money into a new plan or IRA. “This gives the participant time to decide whether to keep the funds as a taxable distribution or roll over the amount to preserve the tax-advantaged status,” says Bob Kaplan, national retirement consultant for retirement solutions at Voya Financial. He warns, “If a participant fails to do so within the 60 days, the amount not rolled over is then subject to taxation, including penalties that may apply if the individual is under the age of 59½.”

When the participant receives the distribution, 20% of the pre-tax amount is taken as taxes and sent to the Internal Revenue Service (IRS). “If the participant decides to complete the rollover, the amount distributed [the 80%] can be rolled over and the participant can also roll the cash equivalent of the 20% that was sent to the IRS,” Kaplan says. If the participant decides to send the gross distribution amount to a new plan or IRA, he would have to fund the amount that was taken as taxes and sent to the IRS, but would not have to report any of the distribution as taxable income on his annual tax return, so he would get back the taxes originally taken from the distribution.

Rollover distributions are allowed from any type of retirement plan or IRA, but there are some restrictions on plans to which a rollover may be made. The rules for allowable rollovers are detailed in a Rollover Chart provided by the IRS.  

“A participant who receives an eligible distribution has the right to roll over the amount to a tax-deferred vehicle; however, qualified plans are not required by law to have a provision to accept rollovers,” Kaplan explains. “Not all plans accept rollovers, so participants who want to roll funds to a qualified plan must check with that plan’s administrator before making the transaction.” If the new plan does not accept rollovers, the participant would have to roll the amount into an IRA.

 

According to the IRS, the following retirement plan distributions are not eligible for rollover:

  • Hardship withdrawals;
  • Corrective distributions for failed discrimination tests;
  • Permissive withdrawals of deferrals within 90 days from an eligible automatic contribution arrangement (EACA);
  • A payment from a series of substantially equal payments;
  • Required minimum distributions (RMDs) (both 70½ and death benefit);
  • Loans that are treated as distributions;
  • Distributions to pay for accident, health or life insurance;
  • Dividends on employer securities; or
  • S corporation allocations treated as deemed distributions.

 Kaplan describes a situation in which a defined benefit (DB) plan is paying a retiree an annual annuity (substantial equal payments). “Those would not be eligible [for rollover],” he says. “However, a lump sum from the same plan would be eligible. The key item to keep in mind is not the type of plan where the distribution is coming from, but rather the type of distribution.”

Participant loans are eligible for rollover and, if rolled over, would not be treated as distributions. However, rolling over loans from one qualified plan to another is contingent upon the receiving plan allowing for loans and accepting rollovers. Additionally, if a participant is paid directly (a 60-day rollover option) and part of the taxable distribution is a loan, the cash equivalent of the loan amount may be rolled to a new plan or IRA.

Recent Changes to Rollover Rules  

There are additional special rules regarding the proration of pre-tax and after-tax accounts when a participant takes a rollover. “Effective with the release of IRS Notice 2014-54, participants now have much more flexibility when their accounts being distributed have an after-tax component to them,” Kaplan observes.

Instead of having to prorate each distribution with both pre-tax and after-tax dollars, as was the rule prior to the change, the following approaches may be taken:

  • The entire pre-tax amount is considered to have been rolled over if the pre-tax amount of the account being distributed is less than the amount rolled over. The amount in excess of the pre-tax funds is considered a Roth after-tax account rollover.
  • If there are multiple rollovers from the same source, the participant may allocate the amounts between rollovers. According to Kaplan, “This also leads the way for participants to roll over the pre-tax and take a distribution of the after-tax or convert the after-tax to a Roth,” which will have no tax consequences.
  • When there are both direct and 60-day rollovers from the same source, the pre-tax amounts are allocated first to the direct rollovers. Kaplan notes, “The amount assigned to the 60-day rollover will not have tax implications if it is all after-tax dollars.”
  • If less than all of the pre-tax funds are rolled over, the participant pays tax on the pre-tax portion of the distribution that is not rolled over.

 

Rollover Rules for Beneficiaries  

If a participant dies, only a spouse may roll over an inherited benefit to either that person’s own IRA or qualified plan (assuming the plan has a provision to accept rollovers), Kaplan says. The spousal beneficiary also has the option of leaving the funds in the account until the participant would have turned 70½, take a lifetime annuity or a lump sum.

Kaplan says a designated non-spouse beneficiary has three options: 1) have the entire account distributed by the end of the fifth year containing the anniversary of the accountholder’s death; 2) initiate a lifetime payment annuity by the of the year following the death of the accountholder; or 3) initiate a direct rollover to an inherited IRA. However, he notes, the required minimum distribution rules follow the money—if RMDs had started from the participant’s account, they must continue to the beneficiary, recalculated based on the beneficiary’s life expectancy. The IRA is not treated as the beneficiary’s IRA and must be identified with both the deceased’s name and the beneficiary’s name. The non-spouse beneficiary may not roll over the amount to another IRA in his or her own name or to a qualified plan.

 

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