Transmenu powered by JoomlArt.com - Mambo Joomla Professional Templates Club

Safe Harbor Guidelines for Salary Deferral Deposits

Under Department of Labor (DOL) guidelines, deferral contributions to a 401(k) plan are to be deposited as of:

• the earliest date on which such contributions can be reasonably segregated from the employer’s assets,
• but in no event more than 15 business days following the month in which contributions were withheld from pay.

When the DOL conducts a plan examination, they consider the number of locations a company may have, the number of payrolls they process, and the company’s deposit history, in establishing the earliest date deferrals should have been deposited in the company’s retirement plan. Amounts deposited after that date are considered late, thus creating excise tax and other consequences. For a small company with one location, the “bright line” might be drawn anywhere from three to seven days after pay date.

Many plan sponsors find it difficult to establish their own “bright line” and be certain it will withstand DOL scrutiny. Fortunately, the DOL has just issued proposed regulations to establish a deposit safe harbor for small plans. Under the safe harbor, participant contributions to a pension or welfare benefit plan with fewer than 100 participants at the beginning of a plan year will be treated as complying with the deposit regulations if deposited no later than the 7th business day following the date withheld from pay.

Although the regulations are still in proposed format, the DOL will not assert a deposit violation if a plan follows the proposed guidance. The DOL is considering a similar safe harbor standard for large plans.

Responsibility for Deposit Oversight

In a separate field assistance bulletin, the DOL stated that responsibility for monitoring and collecting contributions is a trustee responsibility. Even directed trustees such as banks and trust companies may be liable as co-fiduciaries if they fail to pursue delinquent contributions. The duty to monitor and collect contributions can be specifically assigned to a discretionary trustee, a directed trustee, or an investment manager. If responsibility is not assigned, the party responsible for the appointment (generally the employer) will be liable for plan losses resulting from failure to collect. Even if a trustee is not designated as responsible for collecting contributions, that trustee would have an obligation to take appropriate action upon discovering that contributions are delinquent.

Rollovers to Roth IRAs

Prior to 2008, a 401(k) participant could only transfer amounts in their Roth 401(k) accounts directly to a Roth IRA. Balances in their pretax deferral, and other accounts could not be directly transferred to a Roth IRA. However, participants who wished to endure a two-step approach could transfer those amounts to a traditional IRA and then make a Roth conversion by re-transferring those amounts from the traditional IRA to a Roth IRA. An individual could only complete the Roth conversion if certain income limitations were met.

Beginning in 2008, participants will be able eliminate one step in the two-step approach to Roth conversion. They will be able to roll over a distribution of their 401(k) plan balance directly to a Roth IRA. The participant who makes such a rollover must include the taxable portion of the conversion amount in gross income. The conversion is not subject to an early distribution penalty. However, the general income limits on Roth conversions continue to apply. That effectively prevents individuals with modified adjusted gross income (MAGI) exceeding $100,000 or who are married filing separately from making Roth conversions via direct rollover from an eligible retirement plan to a Roth IRA. (Note that Congress has eliminated the MAGI limitation on Roth IRA conversions for post-2009 distributions.)

When participants request distribution, the tax notices that accompany their distribution election forms should reflect the new rules. Thankfully, employers are not responsible for confirming a participant’s MAGI eligibility. A direct rollover is not subject to mandatory withholding even if the distribution is included in gross income.

Partial Plan Terminations

During economic downturns, a company may experience a significant reduction in workforce. A company might also experience workforce reduction if a plant is closed or a division eliminated. As a result, the company’s retirement plan might experience what is called a “partial plan termination.” Such an event results in 100% vesting of participant balances for those affected by the partial termination.

In 2007, the Internal Revenue Service issued their latest guidance for determining when a partial termination has occurred. Revenue Ruling 2007-43 states that there is a presumption of partial termination if “turnover rate” is at least 20%. Turnover rate is determined by dividing the number of participants who had an employer-initiated severance during the “applicable period” by the sum of participating employees at the start of the period plus participants added during the period. Generally, the applicable period is a plan year, but a series of related severance events could cause the applicable period to be extended. Severance is considered employer-initiated even if it is caused by circumstances beyond the employer’s control.

An employer can still overcome the presumption of partial plan termination through a review of its own facts and circumstances. For example, facts and circumstances might dictate that a 20% turnover rate is routine for an employer. Other relevant information includes the extent to which terminated employees were replaced and whether the new employees are performing the same function with comparable pay. An employer can also demonstrate that some severances were voluntary.

While the guidance is helpful, it doesn’t consider the small employer who could have a 20% turnover rate by dismissing one of its five employees. Nor does the guidance seem to address employer-initiated severance for cause. However, the requirement to vest affected participants in a partial plan termination is included in the Internal Revenue Code. Therefore, an employer that experiences significant workforce shrinkage should conduct an analysis to determine if a partial plan termination occurred.

For more information, contact:

Dolores Lawrence, CPA, QKA
Manager 
RubinBrown Benefits Group
314.290.3224
This e-mail address is being protected from spam bots, you need JavaScript enabled to view it