Additional Guidance On In-Plan Rollovers to Roth Accounts

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1 FEBRUARY 2014 Additional Guidance On In-Plan Rollovers to Roth Accounts Author, Mark Kelly, Atlanta, , On December 11, 2013, the IRS issued Notice to provide guidance regarding in-plan Roth rollovers (also commonly referred to as in-plan Roth conversions ). This Notice builds on Notice which addressed in-plan Roth rollovers of amounts to the extent such amounts were otherwise distributable from the plan. With the enactment of the American Taxpayer Relief Act of 2012 (ATRA), the availability of in-plan Roth rollovers was expanded to include any vested amounts regardless of whether such amount is otherwise distributable. In other words, as long as the plan permits, any vested amount can now be converted from a non-roth account to a Roth account. Background Effective for distributions made after September 27, 2010, the Small Business Jobs Act of 2010 ( SBJA ) amended Section 402A of the Internal Revenue Code of 1986 (the Code ) to permit a plan that includes a qualified Roth contribution program to allow employees to roll over amounts in the plan to their designated Roth accounts in the plan. To be eligible for an in-plan Roth rollover, the amount had to (i) be eligible for distribution under the Code (i.e., be an otherwise distributable amount ) and (ii) be an eligible rollover distribution as defined in Code Section 402(c)(4). ATRA again amended Section 402A of the Code to expand what amounts are eligible for an in-plan Roth rollover. Effective for in-plan Roth rollovers made after December 31, 2012, the new rules now permit in-plan Roth rollovers of vested amounts whether or not the amounts are otherwise distributable from the plan. In this article, we refer to in-plan Roth rollovers of non-distributable amounts as ATRA rollovers, and in-plan Roth rollovers of otherwise distributable amounts as SBJA rollovers. Our Practice We advise public, private, taxable and tax-exempt clients on a wide variety of issues related to the design, preparation, communication, administration, operation, merger, split-up, amendment and termination of all forms of employee benefit plans and executive compensation programs and related funding vehicles. The firm has defended clients in significant highprofile ERISA litigation matters, including 401(k) plan stock drop cases and other breach-of-fiduciary-duty class actions. Contact Kenneth A. Raskin Chair of the Employee Benefits & Executive Compensation Practice New York kraskin@kslaw.com Page 1 of 10

2 Key provisions of Notice Application of Notice : In general, the rules set forth in Notice continue to apply to all in-plan Roth rollovers, including ATRA rollovers, with the following exceptions: While an SBJA rollover may be accomplished by a 60-day rollover, an ATRA rollover must be made by a direct rollover. A notice regarding eligible rollover distributions (commonly known as a 402(f) notice) is not required with respect to an ATRA rollover. New Amounts Eligible for In-Plan Rollovers: The following types of contributions (and earnings) are eligible for an ATRA rollover, without regard to whether the amounts satisfy the conditions for distribution: Elective deferrals made to 401(k) and 403(b) plans Matching contributions and nonelective contributions (including qualified matching and nonelective contributions) Deferrals made to governmental 457(b) plans Distribution Restrictions: ATRA rollover amounts and their earnings must remain subject to the distribution requirements that applied to such amounts before the roll over to a Roth account. For example, if a 401(k) plan participant who has not had a severance from employment makes an ATRA rollover prior to age 59 ½, the amount of the rollover (and earnings) may not be distributed prior to age 59 ½ or another permitted 401(k) plan distribution event. Withholding: Neither mandatory nor voluntary withholding may be applied to an ATRA rollover because there is no distribution event permitting money to leave a plan. Participants are encouraged to consider altering the amount of their wage withholding, or make estimated tax payments, if they wish to prepay an anticipated tax obligation to avoid a potential under-withholding penalty. Amendment Deadline: Plans that allow ATRA rollovers must be amended by the later of December 31, 2014, or the last day of the plan year in which the ATRA rollovers become effective. For example, in the case of a 401(k) plan that has a calendar-year plan year and allowed an in-plan Roth rollover of an otherwise nondistributable amount during 2013, a plan amendment providing for that option must be adopted no later than December 31, Special rules discussed below apply to safe harbor 401(k) plans and certain 403(b) plans. (1) Special Rules for 401(k) Safe Harbor Plans: Although most mid-year changes to 401(k) safe harbor plans are prohibited, plans that wish to provide for ATRA rollovers mid-year may do so for 2013 or 2014 if the amendment is executed no later than December 31, Beyond this deadline, 401(k) safe harbor plans will generally be required to modify plan provisions for in-plan Roth rollovers prospectively. Page 2 of 10

3 (2) Special Rules for 403(b) Plans: If an employer adopted a written 403(b) plan by December 31, 2009 (or, if later, the date the plan is established), the employer has a remedial amendment period to correct any form defects retroactive to January 1, 2010 (or the date the plan is established). Plans that allow ATRA rollovers must be amended by the last day of the 403(b) remedial amendment period, which will be announced by the IRS in the future. 403(b) plans that do not qualify for the remedial amendment period must meet the general amendment deadline described above. (3) Covered Amendments: The extended amendment deadlines apply not only to a plan amendment to permit ATRA rollovers, but also to related amendments including: (i) a plan amendment that permits elective deferrals under the plan to be designated as Roth contributions; (ii) a plan amendment that provides for the acceptance of rollover contributions by designated Roth accounts; and (iii) a plan amendment that permits in-plan Roth rollovers of otherwise distributable amounts. In addition to this specific guidance regarding ATRA rollovers, Notice also provides additional rules that relate generally to in-plan Roth rollovers, regardless of whether or not amounts are otherwise distributable ( Roth rollovers ). Plan-Prescribed Restrictions: Plans are allowed to restrict the kinds of contributions eligible for in-plan Roth rollover treatment and the frequency of such rollovers. For example, to simply recordkeeping, a plan could restrict Roth rollovers to deferral contributions and limit participants to one Roth rollover each year. Not Section 411(d)(6) Protected Benefits: An employee s ability to make a Roth rollover is not a section 411(d)(6) protected benefit. However, any amendment that eliminates Roth rollovers must not discriminate in favor of current or former highly compensated employees. Qualified Distribution Five-Year Clock: If a Roth rollover is the first contribution made to a participant s Roth account, the five-year clock necessary for a qualified, tax-free distribution begins on the first day of the first taxable year in which the employee makes the Roth rollover. Net Unrealized Appreciation Tax Treatment: A participant that receives a lump-sum distribution in a single tax year may be eligible for special tax treatment pertaining to the net unrealized appreciation (NUA) on any employer securities in the participant s account. A Roth rollover is treated as a distribution when determining if a lump-sum distribution occurs within one taxable year, whether completed in a direct or indirect (60-day) rollover. Top-Heavy Determination: When calculating participant account balances to determine a plan s top-heavy status, a Roth rollover is treated like any related rollover made between plans of the same employer. As a result, it is generally counted in the participant s account balance for purposes of determining top-heavy status. Excess Contribution Amounts: If all or a portion of a participant s Roth rollover is later determined to be an excess deferral, excess contribution or excess aggregate contribution (under the ADP/ACP tests), a corrective distribution to the participant must be made even if the amount was an otherwise non-distributable amount at the time of the rollover. Page 3 of 10

4 King & Spalding would be pleased to provide you with additional information regarding in-plan Roth rollovers and assist you with any other issues involving your retirement programs. MyRA: What Employers Need to Know about New Savings Option Authors, Eleanor Banister, Atlanta, , ebanister@kslaw.com and Ryan Gorman, Atlanta, , rgorman@kslaw.com. In his State of the Union address on January 28, 2014, President Obama announced the creation of a new retirement savings option. The my Retirement Account or myra, which will be developed by the U.S. Department of Treasury, is touted as a starter savings account. The program will depend on employer payroll deductions. This article answers questions employers may have about the details of the myra program, which is set to roll out in late What is a myra? MyRA s will be Roth individual retirement accounts ( Roth IRA s ) designed for individuals who either do not have access to an employer-sponsored retirement savings plan or desire to supplement an employer-sponsored plan. Participants will make after-tax contributions to a myra account that is administered by the Treasury Department. Investments in myra s will be backed by U.S. savings bonds and other Treasury securities, and will never decline in value. MyRA s will earn interest at the same variable rate as the federal employee s Thrift Savings Plan Government Securities Investment Fund. Only individuals whose annual income is less than $129,000 ($191,000 for couples) will be able to participate in myra s. The initial minimum contribution through direct deposit will be $25, and employees will be able to contribute as little as $5 per paycheck. MyRA contributions may be withdrawn tax-free at any time. Earnings on myra accounts may be withdrawn tax-free after age 59 1/2. Under the rollover procedures to be developed by the Treasury Department, the myra account balance will be rolled over into a private-sector retirement account when the balance reaches $15,000 or after 30 years, whichever is earlier. Employers should expect rollover procedures to be released by the Treasury Department in late How does this impact employers? The myra program will be funded through payroll deductions only. Once the program is available in late 2014, employees of participating employers may sign up online and coordinate contributions, free of charge, via direct deposit through their employer. Employers, however, will not be required to offer the myra option. The Treasury Department has advertised this as a benefit with little or no cost to employers, although further guidance is required to clarify whether any fiduciary responsibility could be incurred by employers who offer the program. Page 4 of 10

5 3. How will myra s impact existing retirement plans sponsored by employers? MyRA will be available to employees to supplement their contributions to employer-sponsored plans. That is, employees will have the option to contribute to both an existing retirement plans and a myra account, although as discussed below, maximum contribution limits will likely still apply. 4. What are the benefits to employers of utilizing myra? Expanded Access to Retirement Savings: The myra program can help individuals who do not have access to employersponsored retirement plans save towards retirement, such as temporary, seasonal or leased employees. It can also benefit employers who do not sponsor retirement plans. Low Costs: Employers cost to utilize the myra program will be limited to the cost of additional payroll deductions. Employers are not involved in the administration of the program. 5. What are the potential risks and unknowns associated with offering myra to employees? Application of Roth rules. The myra will be a Roth IRA, although it is unclear at this point whether all rules that apply to Roth IRAs will also apply to myra (such as the requirement that earnings on Roth IRA investments may not be withdrawn without penalty until 5 years after the date initial contributions were made to the account). It is unclear whether the myra will be subject to cumulative contribution limits to Roth IRAs and IRAs. Lack of differentiating factors from existing retirement savings options. Commentators have suggested that the myra option does not significantly expand investment options for individuals who cannot contribute to employer-sponsored plans, as those individuals currently are already eligible to contribute to traditional IRAs or Roth IRAs. 1 It is also debatable whether saving as little as $5 per paycheck will result in any significant retirement savings for myra participants. Lower investment returns. The investment option is significantly limited for myras as compared to other retirement savings options. While guaranteed against loss, the government backed securities may only have a negligible yield against inflation over time, whereas other types of investments may provide better long-term return. Employee engagement. It is unclear how many employees will actually enroll in myra if offered. The voluntary nature of contributions to myra will not be as effective as an automatic enrollment feature in an employer-sponsored plan. Adding in the fact that there will be no employer matching contributions to myra accounts, it is debatable as to how attractive the myra program will be. 6. Conclusion The high profile nature of the announcement of myra may have piqued the interest of many employees who are interested in expanding options for retirement saving. While this program will not be rolled out until late 2014 (at the 1 Although it should be noted that the minimum initial contribution for myra ($25) is significantly lower than those required to set up their own IRAs in the private sector. Page 5 of 10

6 earliest), prudent employers should consider whether to add this program to their retirement savings options. As discussed, there are outstanding questions about the efficacy of the program. Nonetheless, it appears this is an important initiative for the Obama administration that will become a reality at some point later this year. King & Spalding is happy to assist you with any questions you may have about myra. Employee Plans Compliance Resolution System Q&A Authors, Kenneth A. Raskin, New York, , kraskin@kslaw.com and James P. Cowles*, Atlanta, , jcowles@kslaw.com. Introduction: To encourage employers to provide a tax qualified retirement plan, and to encourage employees to participate in such retirement plans, the Internal Revenue Code ( IRC ) provides tax incentives to both employers and employees. To receive these tax advantages, the retirement plan must satisfy certain requirements. Generally, any failure to meet these requirements may result in the disqualification of the retirement plan, which would result in the retroactive loss of tax deductions for the employer, retroactive income for an employee, taxation of plan earnings and loss of the employee s ability to rollover a distribution from the plan to avoid current taxation. If an employer unintentionally fails to comply with the qualification requirements of the IRC with respect to its plan, the employer may be able to avoid disqualification of the retirement plan if the failure is corrected using the Employee Plans Compliance Resolution System ( EPCRS ). King & Spalding has assisted many clients in correcting retirement plan failures using EPCRS. We thought it would be helpful to include a Q&A in the newsletter to assist you in determining what failures to comply can, and cannot, be corrected using the EPCRS. Below is our first installment of what will be an ongoing Q&A in our Compensation and Benefits Insights Newsletter. We encourage you to your questions to us at kraskin@kslaw.com. We will attempt to address your questions in future newsletters. Obviously, we cannot provide specific advice in a newsletter article, but we will provide general information to assist you in answering your questions about EPCRS. For reference, the current EPCRS guidance is contained in IRS Revenue Procedure EPCRS Q&A # 1 Question: Can an employer self-correct a compliance failure in a tax qualified retirement plan without a formal submission to the IRS? Answer: An employer may self-correct certain operational failures made during the administration of a tax qualified retirement plan and maintain the tax qualified status of such plan without submitting any information to the IRS. Page 6 of 10

7 Generally, to be eligible for self-correction, a plan must have received a Favorable Determination Letter from the IRS and have operational procedures in place that are intended to prevent the failure from occurring. An operational failure is a failure that occurs during the administration of the plan, but the terms of the plan with regard to such failure comply with the applicable IRC requirements. For example, an operational failure would occur if a 401(k) plan document prohibited a participant from contributing an amount in excess of the IRC 402(g) limit (which is $17,500 for 2014) but, due to a payroll error, the participant exceeded such deferral limit. There are two types of operational failures that may be self-corrected, significant and insignificant. If an operational failure is determined to be insignificant, the correction can be made at any time (as long as it is made within a reasonable time after it is discovered). If an operational failure is determined to be significant, the correction must be substantially completed by the last day of the second plan year following the plan year in which the significant operational failure occurred (with certain limitations). Note that this correction period is based on the occurrence of the failure, not on the date it is discovered. In determining whether an operational failure is insignificant, an employer must consider (but is not limited to) the following seven factors: (1) whether other failures occurred during the period being reviewed; (2) the percentage of plan assets and contributions involved in the failure; (3) the number of years the failure occurred; (4) the number of plan participants affected relative to the total number of plan participants; (5) the number of plan participants affected as a result of the failure relative to the number of plan participants who could have been affected; (6) whether the correction was made within a reasonable time after discovery of the failure; and (7) the reason for the failure (for example, a data entry or arithmetic error). For example: Employer X sponsors a profit-sharing plan. During an audit, the employer discovers that, due to a payroll error, three of the 250 plan participants received contributions in excess of the limits allowed by the plan and the IRC during a plan year. Employer X contributed $3,500,000 to the plan for the plan year and the amount of the excess contributions totaled $4,550. There were no other operational failures made during the plan year. After considering all of the required factors, the employer determined that the operational failure was insignificant because the number of participants affected relative to the total number of participants who could have been affected was only 1.2% and the monetary amount of the failure relative to the total employer contribution was only.13%. The employer corrected the error within a reasonable time after discovery of the failure. To correct an operational failure, the employer must generally fully correct the failure, which means the plan and the affected participants must be put in the same place they would have been had the failure not occurred. This could require Page 7 of 10

8 the employer to make additional contributions to the plan. However the failure is corrected, we strongly suggest employers draft a detailed memorandum on the determination of whether the failure was insignificant or significant, how the correction was made and how the correction method was determined. In certain instances, a full correction of the operational failure may not be required. For example, if a corrective distribution due a participant is $75 or less and the cost of processing and delivering the distribution is greater than $75, the plan sponsor is not required to make the corrective distribution. We hope you found this Q&A helpful. If you have specific questions related to an operational failure in your plan, or any other matter related to employee benefits or executive compensation, please contact us. *Non-lawyer Employee Benefits Consultant March and April 2014 Filing and Notice Deadlines for Qualified Retirement and Health and Welfare Plans Author, Ryan Gorman, Atlanta, , rgorman@kslaw.com Employers and plan sponsors must comply with numerous filing and notice deadlines for their retirement and health and welfare plans. Failure to comply with these deadlines can result in costly penalties and excise taxes. To avoid such penalties and excise taxes, employers must remain informed with respect to the filing and notice deadlines associated with their plans. The filing and notice deadline table below provides key filing and notice deadlines common to calendar year plans for the next two months. Please note that the deadlines will be different if your plan year is not the calendar year. Please also note that the table does not include all applicable filing and notice deadlines, just the most common ones. King & Spalding is happy to assist you with any questions you may have regarding compliance with the filing and notice requirements for your employee benefit plans. Deadline Item Action Affected Plans March 1 (60 days after the beginning of the plan year) Medicare Part D Creditable Coverage Disclosure Deadline for employers that provide prescription drug coverage to Medicare Part D eligible individuals to disclose to the Centers for Medicaid and Medicare Services (CMS) whether the coverage is creditable prescription drug coverage by completing the Online Disclosure to CMS Form at Coverage/CreditableCoverage/CCDisclosureForm.h tml Health and Welfare Plans that provide prescription drug coverage to Medicare Part D eligible individuals Page 8 of 10

9 Deadline Item Action Affected Plans March 15 (2 ½ months after the plan year) Excess Contributions Deadline for plan administrator to distribute any excess contributions and earnings from the prior year to avoid 10% excise tax on employer (other than eligible automatic contribution arrangements (EACAs)). 401(k) Plans Other Than EACAs March 31 (last day of 3rd month following the end of the prior plan year) Certification of Adjusted Funding Target Attainment Percentage (AFTAP) Deadline for actuary to certify AFTAP to avoid presumption that AFTAP is 10 points less than prior year AFTAP. Defined Benefit Plans April 1 Age 70 ½ Distribution Requirements (RMD) Deadline for plan administrator to distribute prior year s required minimum distribution for any terminated employee who reached age 70 ½ or older during the prior year. Qualified Retirement Plans April 15 Excess Deferrals Deadline for plan to distribute prior year s deferrals in excess of Internal Revenue Code (IRC) 402(g) annual dollar limit and related earnings. 401(k) Plans April 15 (105 days after the end of the plan year) Pension Benefit Guaranty Corporation (PBGC) 4010 Filing Deadline for contributing sponsors (and each controlled group member) to file PBGC Form 4010 if: 1) Any single-employer plan in the contributing sponsor s controlled group had a prior year AFTAP of less than 80%; Defined Benefit Plans 2) Any single-employer plan in the contributing sponsor s controlled group fails to make a required installment or other required payments to a plan, and as a result, a lien is imposed pursuant to section 303(k)(1) of the Employee Retirement Income Page 9 of 10

10 Deadline Item Action Affected Plans Security Act (ERISA) or IRC section 430(k)(1); or 3) The IRS has granted funding waivers of more than $1 million to any single-employer plan in the contributing sponsor s controlled group and any portion of such waiver is still outstanding. April 30 (no later than 120 days after the end of the plan year) Annual Funding Notice Deadline for the plan administrator to provide a plan funding notice to the PBGC, to each plan participant and beneficiary and to each employer that has an obligation to contribute under the plan. Defined Benefit Plans Page 10 of 10

11 Employee Benefits & Executive Compensation Team Partners Kenneth A. Raskin Chair, Employee Benefits & Executive Compensation Practice Eleanor Banister Counsel Donna W. Edwards Mark P. Kelly Associates Ryan Gorman Consultant* James P. Cowles Emily Meyer Laura Westfall *Non-lawyer Employee Benefits Consultant About King & Spalding Celebrating more than 125 years of service, King & Spalding is an international law firm that represents a broad array of clients, including half of the Fortune Global 100, with 800 lawyers in 17 offices in the United States, Europe, the Middle East and Asia. The firm has handled matters in over 160 countries on six continents and is consistently recognized for the results it obtains, uncompromising commitment to quality and dedication to understanding the business and culture of its clients. More information is available at The contents of this newsletter and any attachments are not intended to be and should not be relied upon as legal advice. In some jurisdictions, this may be considered "Attorney Advertising." If you are not currently on our Employee Benefits & Executive Compensation Practice mailing list under your own name, and you would like to join to receive our monthly Compensation and Benefits Insights publication and to receive notices of future programs and occasional commentaries on new legal developments in the industry, you can make that request by submitting your full contact information to CBI@kslaw.com King & Spalding