New Requirements for 403b Plans
A review of the changes
Gone are the days of exemptions for 403(b) retirement plan holders. Starting this year, most 403(b) plans – generally offered for employees of schools, hospitals, churches, and other tax-exempt organizations – are subject to the same annual reporting, disclosure, and audit requirements as 401(k) plans.
The Internal Revenue Service (IRS) and U.S. Department of Labor (DOL) recently issued new requirements for 403b retirement plans effective January 1, 2009. This is part of a larger trend to bring more accountability and transparency to government and non-profit organizations that rely on public dollars in some part to fund their operations.
What does it mean for you as a 403(b) plan provider? Well, quite a bit. There are many things you must do to bring your plan into compliance with these complex and hefty new rules, from creating a thorough plan document to disclosing detailed participant and financial information to establishing investment contracts – and all are subject to audit.
Here is an overview of the most pressing components of the new rules:
Written plan document
All 403(b) plans must be operated in accordance with a written plan document. The plan document must include provisions for eligibility, benefits, contribution limits, contracts available under the plan, and distributions. The plan document is separate from any written annuity contracts and mutual fund custodial agreements, but can incorporate terms from these other documents by reference. Your organization must have a written plan document adopted by December 31, 2009. (Originally, this document was to have been completed by January 1, but an extension of one year has been granted.)
The written plan may allocate administrative and tax reporting responsibilities to the employer or a third party. However, an employer may no longer push the responsibility for administration of the plan to the participants.
Universal availability for salary deferrals
Plan sponsors must offer all employees, with certain limited exceptions, the right to make salary deferral contributions to the 403(b) plan. An employer must notify employees of their right to make salary deferral contributions.
Roth contributions
Roth salary deferrals are permitted in a 403(b) plan. An employee will be limited to a single dollar amount for both pre-tax and Roth contributions made within the same taxable year. Roth salary deferrals are also subject to the universal availability requirement.
Catch-up contributions
The special 403(b) catch-up contribution that was available to certain qualified employees will continue to be available along with the age 50 catch-up contribution. The IRS has issued rules for the coordination of both types of catch-up contributions.
For example, an employee who is eligible for the age 50 catch-up and the special 403(b) catch-up may be able to make contributions under both provisions. The special catch-up provision applies to employees of certain education organizations, hospitals, health and welfare agencies, or church related organizations. The definition of health and welfare agency was expanded to include home health services, hospices, adoption agencies, organizations dedicated to the prevention of cruelty (to animals or humans), agencies that provide personal services to the needy or organizations that provide help to the disabled or individuals with substance abuse problems.
Transferring employee contributions
Effective January 1, 2009, all 403(b) plans are required to transfer employee contributions to the plan within a reasonable time period, such as within 15 business days following the month in which the amounts were withheld from the employees.
Employee contributions include pre-tax salary deferrals, after-tax employee contributions, Roth salary deferrals and participant loan payments.
ERISA plans are subject to a shorter timeframe and generally must deposit employee contributions “as soon as administratively feasible,” i.e. within seven business days following the payroll date when the funds were withheld from employees’ compensation.
Nondiscrimination rules
Effective January 1, 2009, most 403(b) plan sponsors must comply with nondiscrimination rules on employer contributions to the plan. Governmental and church plans continue to be exempt from these nondiscrimination rules.
Hardship distributions
Hardship distributions must follow new guidelines. In addition, the amount available for a hardship is limited to the participant’s cumulative salary deferrals without any income. If the plan sponsor fails to keep separate accounts of 403(b) salary deferrals from other contributions, the hardship distribution option is not available.
Information sharing agreements
Employers are responsible for identifying the investment providers who have received 403(b) contributions after 2004. Investment providers who are no longer receiving contributions are still required to obtain certain information about employees. Therefore, employers and investment providers are expected to adopt information sharing agreements which outline the responsibilities of each party to provide information to the other. Employers should take the initiative to contact each investment provider and ask them for an information sharing agreement.
Transferring or exchanging contracts
Old rules permitted an employee to transfer money from one 403(b) contract to another without employer involvement or approval. New rules provide that such exchanges may occur only if the plan permits, benefits are not reduced as a result of the transfer, the existing contract’s distribution restrictions will carry over to the new contract, and the issuer of the new contract shares information with the employer.
Transfers can also be made from one 403(b) plan to another 403(b) plan provided certain requirements are met.
Plan termination
Previously, 403(b) plans could not make distributions to participants due to plan termination. Under the new rules, employers are able to issue participant distributions following the termination of a 403(b) plan provided the employer does not make any contributions to another 403(b) plan within 12 months.
This new provision allows plan sponsors to terminate their 403(b) plans and distribute the assets. In fact, employees can roll over their distributions from the terminated 403(b) plan to their employer’s 401(k) plan or to an IRA or other qualified retirement plan. This distribution opportunity may provide welcome relief to some not-for-profits that were trying to consolidate their 403(b) and 401(k) programs.
Consequences of a failure to comply
If a plan fails to meet the written plan requirement or the nondiscrimination requirement, the entire 403(b) plan is disqualified and all participants will lose the tax-deferred benefits of the plan. Other plan failures that relate to a particular participant’s contract or account will only affect that participant and other participants will not be affected.
Form 5500 and 403(b) plan audits
The new DOL rules apply to 403(b) plans that are subject to the Employee Retirement Income Security Act of 1974 (ERISA). Starting with plan years beginning on or after January 1, 2009, ERISA plans must file a complete Form 5500 at the DOL. This filing must include detailed participant and financial information. Specifically, the Form 5500 must report all assets, liabilities, income and expenses of the plan. In addition, if the employer has at least 100 employees eligible to participate in the 403(b) plan, an independent qualified public accountant must audit the plan.
Facts and circumstances determine whether a 403(b) plan is exempt from ERISA. Plans sponsored by governmental entities and churches are exempt from ERISA (unless the church made an irrevocable election to be subject to ERISA). In addition, salary deferral only plans with no employer contributions and limited employer involvement may be exempt from ERISA. However, given the new IRS rules that require greater employer involvement, it is expected that many salary deferral only plans will become subject to ERISA in 2009.
Summary
The key provisions of the new requirements are clearly cumbersome and will require significant preparation and response. Your organization would do well to consult with a certified public accountant and audit expert to help determine which of the rules apply to you and to ensure compliance with these regulations.