Industry & Regulatory News

Retirement Spotlight: IRS Releases New Escheatment Guidance

Handling unclaimed account balances has always challenged plan administrators and financial organizations. Even some government-approved options—such as rolling over plan assets to an IRA—can create difficulties when distributing missing or unresponsive individuals’ account balances. Escheating (i.e., reverting) assets to a state’s unclaimed property fund is also an option—especially for smaller account balances—but it’s usually considered a last-ditch effort by plan administrators and financial organizations who have tried but failed to locate missing account owners and their beneficiaries.

In January 2019, the U.S. Government Accountability Office (GAO) released a GAO 19-88 report that found reporting and withholding inconsistencies among plan administrators who escheated plan assets to a state’s unclaimed property fund. The GAO found that some plan administrators withheld taxes on escheated plan assets, but others did not. The GAO also found that administrators could benefit from additional guidance on reporting escheated assets and on whether individuals could later roll over escheated amounts to an IRA.

In response to the GAO’s recommendations, in October 2020 the IRS issued Revenue Ruling (Rev. Rul.) 2020-24 and Revenue Procedure (Rev. Proc.) 2020-46. This guidance builds on previous pronouncements in Rev. Proc. 2016-47, which provided self-certification procedures for rollovers, Rev. Rul. 2018-17, which explained how financial organizations should report escheated IRA assets, and Rev. Rul. 2019-19, which laid out reporting and withholding requirements for uncashed checks.

This Retirement Spotlight summarizes Rev. Rul. 2020-24 and Rev. Proc. 2020-46 and explains how they interact with other IRS and Department of Labor (DOL) guidance.

 

Highlights of Rev. Rul. 2020-24

In Rev. Rul. 2020-24, the IRS provides the following escheatment example and determines that the distribution is subject to withholding and reporting requirements.

  • A 401(a) qualified retirement plan administrator escheats an individual’s $900 account balance to a state unclaimed property fund. (This amount is beneath the $1,000 threshold that would require an automatic rollover to an IRA.)
  • The account does not include employer securities, nondeductible employee contributions, designated Roth amounts, or accident or health plan benefits.
  • The plan administrator does not have a withholding election on file for this individual.

Withholding Requirements – The IRS states that the $900 distribution is a “designated distribution” and is subject to the withholding requirements under Internal Revenue Code Section (IRC Sec.) 3405. A designated distribution is defined as any taxable payment from a deferred compensation plan (which is broadly defined), an IRA, or a commercial annuity. The IRS also notes that the following payments are not considered designated distributions.

  • Wages
  • Payments to a nonresident alien or corporation
  • Dividends on employer securities

Because the $900 designated distribution is considered an eligible rollover distribution, the plan administrator must withhold 20 percent ($180) for federal income taxes.

Reporting Requirements The IRS ruling verifies that plan administrators must report this type of distribution on IRS Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc. Although the escheated assets are being paid to the state’s unclaimed property fund, the plan administrator must report the $900 distribution amount in Box 1, Gross distribution, and the $180 federal withholding amount is reported in Box 4, Federal Income tax withheld. While Rev. Rul. 2018-17 verifies that financial organizations should report escheated IRA assets under the missing individual’s name and Social Security number, Rev. Rul. 2020-24 is silent on this issue. Additional guidance may be needed.

Transition Relief Although many plan administrators already follow the withholding and reporting requirements described in Rev. Rul. 2020-24, the IRS is providing a transition period for those who need time to prepare. Plan administrators must comply with this guidance by the earlier of 1) the first payment date that occurs on or after January 1, 2022, or 2) the date it becomes “reasonably practicable” to comply.

 

Highlights of Rev. Proc. 2020-46

IRC Secs. 402(c)(3)(B) and 408(d)(3)(I) authorize a waiver of the 60-day rollover requirement in certain circumstances, such as when a financial organization makes a mistake or if a family member dies or becomes seriously ill. Previous IRS guidance (Rev. Proc. 2016-47) included a sample letter that may be provided to a plan administrator or financial institution to identify the reason for extending the normal 60-day period in order to complete an otherwise eligible rollover.

Rev. Proc. 2020-46 modifies Rev. Proc. 2016-47 by adding another reason to the self-certification letter: “a distribution was made to a state unclaimed property fund.” So individuals who recover escheated retirement plan assets can use this self-certification to document their rolling over such assets to an eligible plan. Self-certification applies only to the waiver of the 60-day rollover rule, so individuals cannot use this process on a distribution that is otherwise ineligible for rollover treatment, such as a required minimum distribution (RMD). Rev. Procs. 2020-46 and 2016-47 apply to eligible rollovers from 401(a) plans, 403(a) and 403(b) annuity plans, governmental 457(b) plans, and IRAs.

 

Key Takeaways

This latest IRS guidance should be evaluated in light of existing DOL guidance. The DOL considers escheatment a less desirable option and believes that ERISA preempts state escheatment laws for active retirement plans. The DOL makes its position clear in Field Assistance Bulletin (FAB) 2014-1, which addresses fiduciary duties with respect to missing participants of terminated retirement plans. In FAB 2014-1, the DOL indicates that plan administrators should roll over unclaimed balances to an IRA when possible. As a last resort, plan administrators of terminated retirement plans may escheat any unclaimed balances to a state’s unclaimed property fund. Although the DOL has not issued any guidance for active retirement plans, escheatment may still be an option for ineligible rollover distributions, such as RMDs.

Some in the industry have asked for additional guidance on missing plan participants (such as a safe harbor for retirement plans with missing participants). Although the DOL has yet to release additional guidance, the IRS has included missing participant guidance in its 2020-2021 Priority Guidance Plan. Congress has also recently introduced legislation that proposes to create a national online “lost and found” database to connect individuals with unclaimed retirement account benefits.

Meanwhile, escheatment is a viable option only after pursuing all reasonable steps to locate a missing or unresponsive plan participant or IRA owner. The IRS’s guidance addresses how to withhold and report on escheated assets, but it doesn’t address whether or when escheatment should be used. Questions also remain on how to treat escheated assets once they’re rolled over to an eligible plan. For example, consider an individual who recovered escheated assets and rolled them over to an IRA. Would the assets be taxed when distributed from the IRA, or would they be considered basis in the IRA? If the assets are treated as after-tax basis, how would the IRA owner document this? And those considering escheatment should be aware of the substantial variation in rules from state to state.

Although questions remain, plan administrators who escheat plan assets should ensure that their systems are set up to apply the correct withholding amount and to report the distribution properly. Ascensus will continue to follow any new guidance as it is released. Visit ascensus.com for the latest developments.

 

Click here for a printable version of this issue of the Retirement Spotlight.


Washington Pulse: IRS Issues Final Life Expectancy Regulations

On November 12, 2020, the IRS published final regulations updating life expectancy tables that are used for required minimum distributions (RMDs) and for other purposes. These new tables reflect an increase in life expectancies since the last tables were issued nearly 20 years ago. Although the updated tables do not apply until distribution years beginning in 2022, financial professionals should learn how the new life expectancy figures may affect their clients and should assess how their administrative systems will accommodate the changes.

 

Background

Two years ago, President Trump issued Executive Order 13847, which (among other things) directed the IRS to examine the life expectancy tables and to “determine whether they should be updated to reflect current mortality data and whether such updates should be made annually or on another periodic basis.” On November 8, 2019, the IRS published proposed regulations in response to the executive order. The IRS received numerous comments, but the only substantial change made in creating the final regulations was pushing back the applicability date to the 2022 calendar year.

Internal Revenue Code Section (IRC Sec.) 401(a)(9) and associated RMD regulations require “employees” to begin distributing their accumulated retirement assets by their required beginning date. (In this article, we will use the term “employee” because that is the term found in the Internal Revenue Code. It includes qualified plan participants, IRA owners, and all those who must take RMDs (e.g., beneficiaries).) The RMD rules help ensure that employees start taking distributions, and they permit payments over their life expectancy to avoid outliving their retirement savings. The IRS life expectancy tables determine the distribution period over which defined contribution-type retirement plans must be paid. The regulations specifically apply to RMDs taken from

  • qualified trusts (such as a 401(k) trust);
  • individual retirement accounts and annuities described in IRC Secs. 408(a) and (b);
  • eligible deferred compensation plans under IRC Sec. 457; and
  • IRC Secs.403(a) and §403(b) annuity contracts, custodial accounts, and retirement income accounts.

The life expectancy tables determine the distribution period for RMDs. The final regulations revise the three life expectancy tables found in Treasury Regulation (Treas. Reg.) 1.401(a)(9)-9. The Uniform Lifetime Table is used to determine the distribution period for those employees who must take RMDs during their lifetime. This table begins at age 72, which is the age at which RMDs must first be calculated under the SECURE Act rules. The distribution periods listed are simply the joint life expectancy of the employee at a certain age and a beneficiary who is exactly 10 years younger. Years ago, the IRS simplified the RMD process by allowing all employees—regardless of their beneficiary’s actual age—to use the Uniform Lifetime Table.

The Joint and Last Survivor Table reflects the life expectancy of two individuals. The ages in the table range from 0 to 120 years, and it shows the likely number of years that at least one of the two individuals will live. Despite listing all combinations of ages up to 120, this table is used in the RMD context for one purpose: to determine the distribution period for an employee who has named the spouse as the sole designated beneficiary—when the spouse is more than 10 years younger than the employee. This allows the employee to calculate the RMD using a longer life expectancy than under the Uniform Lifetime Table, resulting in a smaller RMD.

The third life expectancy table, the Single Life Table, is required in several situations. Perhaps the most common use is for determining the distribution period that a beneficiary must use when an employee dies. For example, assume that an IRA owner dies this year at age 75 and has named his 70-year-old sister as the sole beneficiary. Next year, his sister will determine her distribution period using the Single Life Table. The life expectancy for a (now) 71-year-old is 16.3 years under the current table.

The tables are also used for “substantially equal periodic payments” under IRC Sec. 72(t)(2)(A)(iv). The Internal Revenue Code contains an exception to the 10 percent early distribution penalty tax for certain pre-59½ distributions. Payments must be properly structured using the life expectancy tables contained in the regulations—and they must continue for at least five years and until the recipient reaches age 59½. This payment stream permits access to retirement funds while also preventing excessive fund depletion. The details of setting up such equal periodic payments are found in Revenue Ruling 2002-62, which the IRS expects to update to reflect the changes in the final life expectancy regulations.

 

The Transition Rule

The one provision that will likely create the most activity—and questions—is the final regulation’s “transition rule.” The IRS states that this rule is “designed to recognize that the general population has longer life expectancies than the life expectancies set forth in the formerly applicable Treas. Reg. 1.401(a)(9)-9.” The transition rule allows a beneficiary who has already locked into a life expectancy for RMD payouts to use a “one-time reset” to take advantage of the longer life expectancies in the new tables. This situation occurs when the employee died before January 1, 2021, and the beneficiary was using the old life expectancy tables to determine the RMD. Starting in 2022, the beneficiary’s RMD is based on the new tables, using the age for which the life expectancy was originally determined. An example may help.

Example: Frank died at age 80 in 2018. Frank’s nonspouse beneficiary, Rose, was 75 in the year he died. In 2019, the distribution period that Rose must use is 12.7 (the single life expectancy of a 76-year-old). For her distribution in 2021, Rose reduces that figure to 10.7 years: one year for 2020 and one year for 2021. Normally, Rose would then reduce her distribution period by one more year for 2022, to 9.7. But the transition rule permits Rose to reset her distribution period based on the new tables. Rose still uses her age in the year following Frank’s death, but she simply replaces the old life expectancy, 12.7, with the new one, which is 14.1. She then reduces that figure one year for each subsequent distribution year (2020, 2021, and 2022) to arrive at 11.1 instead of 9.7 (under the old tables).

Although this transition rule makes only incremental decreases in the amount that beneficiaries must distribute, this reset provides some relief for those who wish to distribute the smallest amount required in order to preserve assets. On the other hand, redetermining the distribution periods for beneficiaries who had commenced required distributions before 2022 will entail additional effort by financial organizations, plan administrators, and other advisers.

Note: The proposed regulations seemed to limit the circumstances under which a beneficiary could use the one-time reset. This apparent limitation was likely unintentional. But the final regulations revised the transition rule wording enough to verify a more expansive interpretation of the rule. So irrespective of how a beneficiary came to use the old Single Life Table, the new table can now be used. For those required to use “nonrecalculation” (by reducing the life expectancy by one year for each successive distribution year), the starting age remains the same. Spouse beneficiaries, who may use the “recalculation” method, simply start using the new tables in 2022.

 

Key Takeaways

The final regulations are nearly identical to the proposed regulations. While these new regulations are straightforward, there are still some important points to remember.

  • The new tables apply for distribution calendar years beginning on or after January 1, 2022.
  • The transition rule allows certain beneficiaries a one-time reset to use the longer life expectancies.
  • The IRS expects to review these tables every 10 years (or when new mortality studies are published).
  • The final regulations will require a significant number of individual RMD payout redeterminations.
  • Software platform providers and others may face sizeable programming tasks.

 

Looking Ahead

Fortunately, the IRS heeded commenters’ requests and delayed the final regulations’ applicability date to 2022. This will allow more time for all affected parties to integrate the new tables into their processes. The IRS will also release guidance regarding SECURE Act provisions, such as the rule that replaces certain beneficiary life expectancy payments with a requirement to deplete beneficiary accounts after 10 years. As guidance is released, rely on Ascensus to monitor developments and to publish helpful analysis.

 

 

Click here for a printable version of this issue of the Washington Pulse.


IRS Seeks Comments on Spousal, Annuity Rights for In-Kind 403(b) Distributions of Terminating Plans

The IRS has issued Notice 2020-80, which requests comments on spousal and annuity rights that may potentially apply to 403(b) custodial accounts that are distributed to participants in-kind upon termination of a 403(b) plan.

The request in Notice 2020-80 was issued in conjunction with IRS Revenue Ruling (Rev. Rul.) 2020-23, which describes the status and tax treatment of in-kind distributions to participants of 403(b) custodial accounts in the event of a plan termination. Rev. Rul. 2020-23 states that if such custodial accounts comply with certain conditions after an in-kind distribution, they will retain their tax-deferred status as 403(b) custodial accounts until such time as the assets are paid out of the account to the participant or a beneficiary.

Notice 2020-80 points out that, while 403(b) plans in general are not subject to the annuity and spousal rights provisions of the Internal Revenue Code, those 403(b) plans that are subject to ERISA requirements—e.g., plans providing employer contributions—must comply with parallel annuity and spousal rights provisions of ERISA Section 205.

Notice 2020-80 specifically requests comments on the following.

  • Information on current practices with respect to termination of ERISA-governed 403(b) plans that are funded through custodial accounts.
  • Administrative or other burdens that might be associated with annuity or spousal rights when applied to such in-kind distributions.
  • Timing for applying a requirement that protects annuity or spousal rights, such as, upon a plan’s termination versus when an account is ultimately distributed.
  • Whether—as an alternative to in-kind distribution—custodial accounts of terminating 403(b) plans subject to spousal and annuity requirements should instead be forwarded to the Pension Benefit Guaranty Corporation defined contribution plan missing participants program.
  • Transition relief that could aid in protecting spousal and annuity rights of terminating 403(b) plans funded through custodial accounts.

Comments in response to Notice 2020-80’s request must be received by the IRS on or before February 3, 2021, preferably submitted by electronic means.


IRS Clarifies Extended Due Date for Single-Employer DB Plan Contributions

The IRS clarified today in IRS Notice 2020-82 that contributions to single-employer defined benefit plans due January 1, 2021, under the Coronavirus Aid, Relief, and Economic Security (CARES) Act are considered timely if they are made no later than Monday, January 4, 2021.

The CARES Act delayed both the annual and quarterly minimum funding contributions for single-employer defined benefit plans to January 1, 2021. While plan sponsors appreciated this delay, this raised a concern, as January 1, 2021, is a federal holiday falling on a Friday. While tax deadlines falling on a federal holiday generally are considered performed timely if they are performed on the next day that isn’t a Saturday, Sunday, or legal holiday, it was unclear if this extension to January 1, 2021, would be considered performed timely if completed on January 4, 2021.

 


Pooled Plan Provider Registration Regulations Published

The final regulations from the Department of Labor (DOL) outlining registration requirements for pooled plan providers of pooled employer plans were published today in the Federal Register. These regulations are effective upon this publication.

The DOL received many comment letters identifying concerns with the timing of registration relative to being able to offer these arrangements, as well as questions regarding specific data required in the filings. Of primary interest are the following changes from the proposed rule released by the DOL in August.

  • The meaning of “beginning operations as a pooled plan provider” was modified to mean “when the first participating employer executes or adopts a participation, subscription, or similar agreement for the plan specifying that it is a pooled employer plan or, if earlier, when the trustee of the plan first holds any asset in trust.” Previously, this definition was linked to marketing and other activities.
  • A special provision was added that allows initial registration to be filed any time before February 1, 2021, provided it is filed on or before the initiation of operations. This effectively waives the otherwise applicable 30-day waiting period to begin operations after registration for plans intending to operate before this date.
  • Several clarifications to the data required in the initial and supplemental filings was provided.

DOL Final ESG Guidance Published

Today’s Federal Register includes the DOL’s final rule prescribing fiduciary obligations when selecting plan investments—guidance initially focused on restricting the use of environmental, social, and governance (ESG) investments. The final rule codifies several requirements for fiduciaries to consider regarding the promotion of non-financial objectives when selecting plan investments.

  • The final rule confirms that ERISA fiduciaries must evaluate investments based solely on pecuniary factors—financial considerations that have a material effect on the risk and/or return of an investment based on appropriate investment horizons consistent with the plan’s investment objectives and funding policy.
  • The final rule includes an express regulatory provision stating that compliance with the exclusive purpose (loyalty) duty in ERISA Section 404(a)(1)(A) prohibits fiduciaries from subordinating the interests of participants to unrelated objectives, and bars them from sacrificing investment return or taking on additional investment risk to promote non-pecuniary goals.
  • The final rule also includes a provision that requires fiduciaries to consider reasonably available alternatives to meet their prudence and loyalty duties under ERISA.
  • The final rule added new regulatory text that sets forth required investment analysis and documentation requirements for those circumstances in which plan fiduciaries use non-pecuniary factors when choosing between investments that the fiduciary is unable to distinguish on the basis of pecuniary factors alone.
  • The final rule indicates that the prudence and loyalty standards set forth in ERISA apply to a fiduciary’s selection of designated investment alternatives to be offered to plan participants and beneficiaries in a participant-directed individual account plan. A fiduciary is not prohibited from considering an investment fund or product merely because it seeks or supports one or more non-pecuniary goals, provided that the fiduciary satisfies the prudence and loyalty provisions in ERISA and the final rule. However, the provision prohibits adding such a fund as a qualified default investment alternative if the fund or product includes non-pecuniary factors.

The rule is effective 60 days after publication in today’s Federal Register: January 12, 2021.

 


DOL Issues Final Pooled Plan Provider Registration Regulations

The Department of Labor (DOL) Employee Benefits Security Administration (EBSA) has issued a news release and pre-publication version of final regulations on registration requirements for “pooled plan providers,” those entities that will administer the new retirement plan structure known as a pooled employer plan, or PEP. PEPs were created by the Setting Every Community Up for Retirement Enhancement (SECURE) Act, signed into law in December 2019.

These arrangements are expected to differ from similar multiple employer plans by being less likely to have common interest or common ownership among the participating employers. A PEP is intended to offer reduced burdens and costs for the participating employers, compared to an employer sponsoring its own separate retirement plan.

A pooled plan provider is the named fiduciary for a PEP, and must register with the DOL following procedures prescribed in this guidance. Registration will be accomplished with new EBSA Form PR, filed electronically. PEP arrangements can be offered beginning January 1, 2021.

These final regulations will become effective on the date of their publication in the Federal Register.

 


Federal Agencies Jointly Issue Final Rule on Transparency In Healthcare Coverage

In response to President Trump’s Executive Order, Improving Price and Quality Transparency in American Healthcare to Put Patients First, the IRS, Department of Labor, and Department of Health and Human Services have jointly issued a Transparency In Coverage final rule. This guidance is intended to make healthcare price information accessible to consumers and other stakeholders to permit comparison-shopping.

The final rule requires that most healthcare plans make available to participants, beneficiaries, and enrollees (or their authorized representative) personalized out-of-pocket cost information, and the underlying negotiated rates for all covered healthcare items and services, including prescription drugs, through an Internet-based, self-service tool and in paper form upon request.

The guidance also requires most healthcare plans to make available to the public, including stakeholders such as consumers, researchers, employers, and third-party developers, three separate machine-readable files that include detailed pricing information. The detailed pricing information is to include 1) negotiated rates for all covered items and services between the plan or issuer and in-network providers; 2) historical payments to, and billed charges from, out-of-network providers; and 3) in-network negotiated rates and historical net prices for all covered prescription drugs by plan or issuer at the pharmacy location level.


Updated Life Expectancy Tables Published

Today’s Federal Register includes IRS final regulations providing updated life expectancy tables. These tables are to be used when calculating required minimum distributions (RMDs) from IRAs and other tax-qualified retirement savings arrangements, such as 401(k) plans. Those affected will include IRA owners, plan participants, beneficiaries, and employer-sponsored retirement plan administrators.

These final regulations take effect today, with publication in the Federal Register, but the life expectancy tables they contain will not be used for calculations until distribution calendar years beginning January 1, 2022.

The purpose of these new life expectancy and distribution tables is to ensure that future required payments from retirement savings arrangements better reflect actual life expectancies of those who receive such payments.