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5500 Preparer's Manual for 2012 Plan Years

5500 Preparer's Manual for 2012 Plan Years
The premier resource in the field of Form 5500 preparation, 5500 Preparer's Manual will help you handle the required annual Form 5500 filings for both pension benefits and welfare benefit plans.


IRS issues final regulations providing comprehensive guidance on 403(b) plans

The IRS has issued final regulations governing tax-sheltered annuity contracts under Code Sec. 403(b) . The final regulations update prior rules last adopted in 1964 and reflect legislative and regulatory developments released over the past 40 years, including amendments made by ERISA, the Small Business Job Protection Act of 1996 (SBJPA), the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA), and the Pension Protection Act of 2006 (PPA; P.L. 109280), which have had the effect of diminishing the differences between 403(b) plans and other salary reduction arrangements, such as 401(k) plans and 457(b) plans. The regulations also provide guidance on Code Sec. 414(c) common control rules for certain tax-exempt organizations. The final regulations will generally apply for tax years beginning after December 31, 2008. Thus, because individuals will almost uniformly be on a calendar tax year, the regulations will generally apply on January 1, 2009. There are later dates of application for collectively bargained and church plans. In addition, the regulations are subject to a number of explicit transition rules. Taxpayers may generally rely on the final regulations prior to the applicable date provided they do so on a “consistent and reasonable” basis.

Code Sec. 403(b) provides an exclusion from gross income for contributions made by certain employers (public schools and Code Sec. 501(c) (3) organizations) and by certain ministers to specified types of funding arrangements. The funding arrangements to which Code Sec. 403(b) applies are annuity contracts issued by an insurance company, custodial accounts invested in mutual funds, and retirement income accounts, which are only permitted for church employees and certain ministers. The exclusion applies only if certain availability, nondiscrimination, and distribution requirements are satisfied. The final regulations require a 403(b) contract to satisfy the requirements for exclusion both in form and in operation. The final rules also require that a 403(b) contract be maintained pursuant to a written plan. Under the final regulations, the written plan may incorporate by reference other documents, including the insurance policy or custodial account, which as a result of such reference would become part of the plan.

Exchanges and transfers

The final regulations provide for three kinds of non-taxable exchanges or transfers of amounts in 403(b) contracts: (1) a contract exchange (a change of investment within the same plan); (2) a plan-to-plan transfer, where another employer plan is receiving the exchange; or (3) a transfer to purchase permissive service credit. If an exchange or transfer does not constitute a contract exchange, plan-to-plan transfer, or purchase of permissive service credit, it is treated as a taxable distribution of benefits if the exchange occurs after a distributable event (unless it is rolled over to an eligible retirement plan) or as a taxable conversion to a nonqualified annuity if a distributable event not occurred.

Limitations on contributions

Annual additions to a 403(b) plan may not exceed the limits specified under Code Sec. 415. Under the regulations, if an excess annual addition is made to a 403(b) contract, the portion of the contract that includes the excess will fail to be a 403(b) contract and will be subject to tax under the rules of Code Sec. 403(c). However, in order for this treatment to apply, the issuer of the contract must maintain separate accounts for the portion that includes the excess additions and the portion of the arrangement that includes the amount not in excess of the 415 limits.

Catch-up contributions

A special catch-up election under Code Sec. 402(g)(7) allows employees who have completed 15 or more years of service with a qualified employer (e.g., an educational organization or hospital) to make a catch-up contribution to a 403(b) plan in excess of the generally applicable dollar limit. In addition, employees who will attain age 50 by the end of the tax year and for whom no other elective deferrals may otherwise be made to the plan for the year because of the deferral limits or any other comparable plan limit, may, under Code Sec. 414(v) , make additional catch-up contributions, up to a specified dollar limit ($5,000 for 2007), to the 403(b) plan. The final regulations provide that any catch-up contribution for an employee who is eligible for both an age 50 Code Sec. 414(v) catch-up contribution and the special 403(b) catch-up under Code Sec. 402(g)(7) is treated first as a special 403(b) catch-up and then as an amount contributed as an age 50 catch-up (to the extent that an age 50 catch-up amount exceeds the maximum special 403(b) catch-up).

Severance from employment

The final regulations provide that a severance from employment occurs when an employee ceases to be employed by an eligible employer, even if the employee may continue to be employed by an entity that is part of the same controlled group but is not an eligible employer. A severance from employment also occurs when an employee ceases working for a public school, but continues to work for the same state employer.

Nondiscrimination and universal availability

Employer contributions and employee after-tax contributions (but not elective deferrals) under a 403(b) contract are subject to nondiscrimination rules, including restrictions on contributions, benefits, coverage and annual compensation. The IRS had provided in Notice 89-23, that the nondiscrimination requirements could be met through a reasonable good faith interpretation of the rules under Code Sec. 403(b)(12) . The final regulations do not include the Notice 89-23 good faith standard. However, the Notice 89-23 good faith standard will continue to apply to state and local public schools and certain church entities for determining the controlled group.

Under the universal availability rule of Code Sec. 403(b)(12)(A)(ii) , an eligible employer that authorizes any employee to make elective deferrals pursuant to a 403(b) plan, must allow all employees to make a 403(b) deferral election. The final regulations clarify that the employee’s right to make elective deferrals also includes the right to designate 403(b) elective deferrals as designated Roth contributions if any employee of the eligible employer may elect to have the organization make 403(b) elective deferrals as designated Roth contributions.

Interaction of ERISA Title I and 403(b) rules

Not all tax-sheltered annuity contracts are subject to ERISA Title I. Plans maintained by governmental employers and non-electing church plans are exempt from ERISA Title I. The determinative factor in the application of Title I is whether the TSA is an employee benefit pension plan, as defined by ERISA. The coverage, reporting and disclosure, summary plan description, summary annual report, and joint and survivor annuity rules of ERISA, for example, only apply to employee benefit pension plans.

ERISA Reg. §2510.3-2(f) provides that a salary reduction 403(b) arrangement will not be considered an employee benefit pension plan subject to Title I if, among numerous factors, participation is voluntary for employees; all rights under the contract are enforceable only by the employee, the employee’s beneficiary, or their authorized representative; the employer’s involvement in the plan is limited to such matters as selecting an annuity provider and placing limits on the number of available annuity providers; and the employer receives no compensation other than reasonable compensation to cover expenses incurred in the performance of duties pursuant to the salary reduction agreement.

The preamble to the final regulations notes that the question of whether any particular employer, in complying with the 403(b) regulations, has established or maintained a plan covered under ERISA Title I, will be analyzed on case-by-case basis, applying the criteria of ERISA Reg. §2510.3-2(f) and ERISA §3(2). To assist employers interested in offering their employees access to a TSA that would not be an ERISA-covered plan, the Labor Department is issuing, in conjunction with the final IRS regulations, a Field Assistance Bulletin to provide additional guidance on the interaction of the safe harbor and the final 403(b) rules.

Designated Roth accounts

The final regulations provide rules on designated Roth contributions under 403(b) plans, but do not address the taxation of distributions from Roth 403(b) plans.

For more information on this and related topics, consult the CCH Pension Plan Guide.

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