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The IRS has issued comprehensive final regulations on the benefit and contribution limitations under Code Sec. 415 . The regulations reflect the numerous statutory changes to Code Sec. 415 and related provisions that have been made since 1981, the last time regulatory guidance on these rules was issued. The final regulations adopt, with modifications, the guidance provided in proposed regulations that were issued in May 2005, and reflect additions made to Code Sec. 415 by the Pension Protection Act of 2006 (PPA; P.L. 109-280). The regulations generally apply to limitation years beginning on or after July 1, 2007, subject to certain exceptions.
Modifications to Code Sec. 415 that were made by the PPA include: (1) changes to the interest rate assumptions that are used for converting certain forms of benefit to an equivalent straight life annuity; (2) elimination of the active participant requirement in determining a participant’s high-three years of service; (3) exemption from the compensation limit of Code Sec. 415(b)(1)(B) for certain benefits provided under a church plan; and (4) expansion of the definition of “qualified participant” to include certain participants in a defined benefit plan maintained by an Indian tribal government.
The regulations provide rules under which a retirement benefit payable in any form other than as a straight life annuity must be converted to an actuarially equivalent straight life annuity to determine the annual benefit (used to demonstrate compliance with Code Sec. 415) for that form of distribution. In addition to setting forth rules for adjusting forms of benefits other than straight life annuities, the regulations permit the IRS to issue simplified methods for making these adjustments.
A Social Security supplement is included in determining the annual benefit. Under Code Sec. 415(b)(2)(B), the annual benefit does not include ancillary benefits that are not directly related to retirement benefits. However, because a Social Security benefit is payable upon retirement as a form of retirement income, it is a retirement benefit.
The proposed regulations contained two changes that would have had a significant effect on the calculation of a participant’s average compensation in determining the participant’s high-three consecutive years. One change would have restricted compensation to that earned while the participant was an active participant in the plan. Because the PPA eliminated the active participation requirement for years beginning after 2005, this change was not incorporated into the final regulations. The second change clarified that a plan’s definition of compensation in each of the high-three years cannot exceed the annual compensation limit under Code Sec. 417(a)(3). The final regulations retain this provision, but include a special grandfather rule for pre-existing benefits.
The final rules clarify how the Code Sec. 415 limitations for the survivor annuity portion of a qualified joint and survivor annuity (QJSA) apply to benefits paid partially as a QJSA and partially in some other form. Under this clarification, the rule excluding the survivor portion of a QJSA from the annual benefit applies to the survivor annuity payments under the portion of a benefit that is paid in the form of a QJSA, even if another portion of the benefit is paid in some other form.
The regulations generally use the plan’s determinations for actuarial equivalence of early or late retirement benefits, but override those determinations where the use of the specified statutory assumptions results in a lower limit. The regulations adopt rules for mortality adjustments used in computing the dollar limitation on a participant’s annual benefit for distributions commencing before age 62 or after age 65 that are generally consistent with IRS Notices 83-10 (CCH Pension Plan Guide ¶17,099T) and 87-21 (CCH Pension Plan Guide ¶17,100O). Under these rules, to the extent that a forfeiture does not occur upon the participant’s death before the annuity starting date, generally no adjustment is made to reflect the probability of the participant’s death during the relevant time period (the period before age 62 or after age 65). However, to the extent that a forfeiture occurs upon the participant’s death before the annuity starting date, an adjustment must be applied to reflect the probability of the participant’s death during the relevant time period.
The regulations provide a simplified method for applying these rules. Under the simplified method, no forfeiture would occur upon a participant’s death if the plan does not charge participants for providing a qualified preretirement survivor annuity, but only if the plan applies this treatment for adjustments that apply both before age 62 and after age 65. The regulations also clarify that, notwithstanding the generally applicable rules for adjustments to the dollar limit of Code Sec. 415(b)(1)(A) for pre-age 62 benefit commencement, the age-adjusted dollar limit does not decrease on account of an increase in age or the performance of additional service.
The regulations clarify that the annual benefit does not include the annual benefit attributable to rollover contributions made to a defined benefit plan. In this case, the annual benefit attributable to rollover contributions is determined by applying the Code Sec. 411(c) rules treating the rollover contributions as employee contributions, regardless of whether Code Secs. 411 and 417 apply to the plan. This will occur, for example, if a distribution is rolled over from a defined contribution plan to a defined benefit plan to provide an annuity distribution.
Rollover contributions to an account that is treated as a separate defined contribution plan under Code Sec. 414(k) do not give rise to an annual benefit because the separate account is not treated as a defined benefit plan under Code Sec. 415(b). These rollover contributions to a separate account are excluded from the definition of annual additions to a defined contribution plan.
The proposed regulations contained rules for calculating the annual benefit under a defined benefit plan when there is more than one annuity starting date (for example, when benefits under one plan are aggregated with benefits under another plan, which has commenced distributions). However, the IRS received numerous comments on these proposed rules. Based on these comments, the IRS has determined that revisions to these rules are needed before they are adopted in final form. Accordingly, new proposed regulations on multiple annuity starting dates are being developed.
The final regulations adopt a provision in the proposed rules under which “restorative payments” (i.e., payments made to restore losses to a plan resulting from actions by a fiduciary for which there is a reasonable risk of liability for breach of fiduciary duty under ERISA Title I) do not give rise to an annual addition for any limitation year. The final rules expand this provision to include payments made to restore losses to a plan resulting from actions by a fiduciary for which there is a reasonable risk of liability for breach of fiduciary duty under other applicable federal or state laws, to take into account contributions to plans that are not subject to ERISA Title I in appropriate circumstances.
The final regulations, like the proposed rules, generally provide that amounts received following severance from employment are not considered compensation under Code Sec. 415. The final regulations provide exceptions to this rule for certain payments made by the later of 2½ months after the severance of employment or the end of the limitation year that includes the date of severance from employment.
The final regulations set forth rules for aggregating plans under Code Sec. 415(f) and make various changes and clarifications to the regulations issued in 1981. In particular, the final regulations clarify the aggregation rules that apply to 403(b) plans, other plans of the employer, and plans of related employers.
The regulation preamble notes that, generally, a provision of a plan that results in the plan’s failure to follow the final rules is a disqualifying provision. Therefore, the plan would need to be amended within the remedial amendment period. For example, for a plan using a calendar plan year, limitation year, and tax year, the plan’s remedial amendment period with respect to a disqualifying plan provision as a result of the final regulations ends on the date prescribed by law for filing the employer’s income tax return (including extensions) for the 2008 tax year. In addition, the preamble notes, special timing rules apply in the case of certain plan amendments made pursuant to changes made to Code Sec. 415 by the Pension Funding Equity Act and PPA.
For more information on this and related topics, consult the CCH Pension Plan Guide.
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