Industry & Regulatory News

DOL Releases Final ESG Guidance

The Department of Labor today posted on its website a final rule prescribing fiduciary obligations when selecting plan investments—guidance initially focused on restricting the use of environmental, social, and governance (ESG) investments. Indicative of the recent frenetic pace of agency guidance, a proposed rule was issued in June with a brief 30-day comment period ending July 30. The final rule was recently submitted for review with the Office of Management and Budget on October 14.

While sub-regulatory guidance has been issued from time to time over the years regarding the promotion of non-financial objectives when selecting plan investments, this final rule importantly codifies several requirements for fiduciaries to consider.

  • 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.

This guidance is effective 60 days after publication in the Federal Register.


Retirement Spotlight: Proposed DOL Rule to Help Define “Employee” vs. “Independent Contractor”

Companies that use independent contractors can cut costs and boost productivity. But some businesses have run afoul of federal and state laws by classifying workers as independent contractors when they are really employees. Because various definitions of “independent contractor” have emerged under federal and state laws, determining whether workers are independent contractors or employees is confusing, causing courts—and businesses—to inconsistently classify workers.

To bring clarity and consistency to this process, the Department of Labor’s (DOL’s) Wage and Hour Division has proposed changes. On September 25, 2020, it published a notice of proposed rulemaking to help define “employee” under the Fair Labor Standards Act (FLSA), which sets the standards for minimum wage and overtime payments. This change should “promote certainty for stakeholders, reduce litigation, and encourage innovation in the economy.”

 

FLSA Economic Reality Test

Currently, the FLSA defines “employee” as “any individual employed by an employer” and defines “employ” as “to suffer or permit to work.” These circular and vague definitions are decidedly unhelpful and have led to numerous rule changes and court cases dating back to 1947. The Supreme Court has ruled that these definitions rely on the “economic reality” of the relationship between the parties: is the worker dependent on someone else’s business or in business for himself? This determination was generally based on the following six factors.

  1. Degree of control over the work performed
  2. Worker’s opportunities for profit or loss
  3. Worker’s investment in equipment or facilities
  4. Permanency of the working relationship
  5. Special skill required by the task or service
  6. Whether the work was part of the integrated unit of production

Since these factors have emerged—and have been refined—the courts have generally considered them when determining the economic reality of the relationship. But decisions were still inconsistent because different courts would give more or less weight to different aspects of the test; no factor had been clearly identified as being more important than another. Some of the factors overlapped, so the same facts could be considered under multiple factors, resulting in a skewed analysis. For example, a worker’s investment in equipment (one factor) could also have a direct effect on the worker’s profit or loss (a separate factor).

 

New Economic Reality Test

The DOL’s proposed rule adds a simpler “economic reality” test to the FLSA regulations, which will replace its previous interpretations. Five of the six factors remain, supporting the DOL’s intent “to clarify the existing standard, not to radically transform it.”

  1. Degree of control an individual has over his or her work
  2. Opportunity for individual profit or loss
  3. Amount of skill required to do the work
  4. Degree of permanence of the working relationship between the worker and employer
  5. Degree to which a worker’s output is integrated into other elements of the employer’s products or services

 

The big difference is that now, the first two factors—control and opportunity for profit or loss—will be given greater weight. The DOL considers these “core factors” as most likely to determine whether a worker is an employee or an independent contractor. After all, the extent by which workers can exercise substantial control over key aspects of their work performance—such as setting their own hours or choosing what projects to work on—and how much they can earn tend to be the main reasons for working as an independent contractor.

If both core factors point toward the same classification, that classification is probably accurate. On the other hand, if these two factors point to different classifications, the other three factors will help determine the correct classification. In applying all of these factors, the DOL advises that actual work practices are more important than a contractual arrangement when determining “employee” or “independent contractor” status.

 

ERISA Impact: Common Law Still Applies

The DOL’s proposed rule applies in the context of the FLSA. Different standards for determining independent contractor status may apply in different contexts or under other laws. For retirement plans and employee benefit plans covered by ERISA Title I, the term “employee” is defined as “any individual employed by the employer.” And because ERISA uses the same circular definition that the FLSA contains, the practical definition for ERISA purposes has also been determined by the courts.

The most relevant ERISA case on the subject is Nationwide Mutual Insurance Company v. Darden, 503 U.S. 318 (1992). In this case, the Supreme Court determined whether certain workers were either employees that were eligible for ERISA-covered benefit plans or independent contractors who could be excluded from those plans. ERISA’s definition of employee was not helpful. So the Court held that where Congress failed to provide a meaningful definition of “employee,” the term would be defined by incorporating traditional agency law criteria for identifying master-servant relationships. This common law test focuses on the hiring party’s right to control the means and manner of the work performed. It considers factors that are similar to the DOL’s newly proposed “economic reality” test, as well as others, like the location of the work and the method of payment.

This common law standard also must be used in other contexts when no clear statutory or regulatory definition of “employee” applies. For example, this standard is used for the Consolidated Omnibus Reconciliation Act (COBRA), which requires employers with 20 or more employees that maintain a group health plan to offer employees the right to continue their coverage under the plan after their employment ends. The IRS also uses the common law standard when considering whether businesses have properly classified workers for federal tax withholding purposes. In addition, the IRS considers the degree of control and independence by looking at facts that fall under three categories, each with additional underlying considerations: behavioral control, financial control, and relationship.

Although the new economic reality rules are proposed in the FLSA context, they may have a more far-reaching impact. To the extent that these rules provide a clear, practical method for evaluating the employer-employee relationship, they may help courts to apply a common law standard more consistently.

 

FMLA Impact; Economic Reality Applies

The proposed rule directly applies to the Family Medical Leave Act (FMLA), which uses the FLSA definition of “employee.” As a result, the new economic reality test applies. FMLA is a federal law permitting eligible employees of covered employers to take job-protected, unpaid leave for specified medical and family reasons. It also requires that health benefits be maintained during the leave period as if the employee had continued working instead of taking leave. Employers that are public employers (including state and federal employers and educational institutions) and private-sector employers that employ 50 or more employees are required to offer FMLA benefits.

In addition to the FMLA, the proposed rule affects other laws that use the economic reality test to determine employee status. These include the Age Discrimination in Employment Act (ADEA), which prohibits discrimination against employees age 40 and older, and the Equal Pay Act (EPA), which prohibits discrimination on account of sex in the payment of wages by employers.

 

State Law Standards May Apply

The proposed rule will not change how many states determine independent contractor status under their own wage and hour statutes. Certain states have their own standards for defining whether an employer-employee relationship exists—standards that may be more restrictive than the proposed rule—adding to the complexity that employers face when classifying workers. Employers should carefully review how applicable state laws apply to their workers, and, if the proposed rule becomes final, whether and how the rule would apply.

 

A Step in the Right Direction

Hiring contract workers is commonplace today. There are good reasons to do this, just as there are good reasons to favor hiring workers as employees. And it’s sometimes difficult to distinguish between “employee” and “independent contractor.” But the cost of misclassifying workers makes it critically important to have a clear standard.

Historically, the various tests that have evolved—either through statutes and regulations, or through case law—have added to the confusion. Clearer direction is needed for businesses to accurately classify workers. The DOL’s proposed rule is a step in that direction, giving companies additional guidance under the FLSA. But to minimize risk, employers will want to ensure that they classify their workers to satisfy any test that applies so that they do not have to manage workers that are classified as independent contractors for certain purposes, but are considered employees for others.

 

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


IRS Announces 2021 Inflation-Adjusted Amounts for Welfare Benefits

On October 26, 2020, the IRS published Revenue Procedure (Rev. Proc.) 2020-45, which provides the 2021 inflation-adjusted amounts for various provisions of the Internal Revenue Code (IRC), including employer-provided welfare benefits. Specifically, Rev. Proc. 2020-45 provides inflation adjusted limitations that apply to voluntary employee salary reductions under an IRC Section (Sec.) 125 cafeteria plan, fringe benefit exclusion amounts under an IRC Sec. 132(f) qualified transportation fringe benefit, and total amount of payments and reimbursements under an IRC Sec. 9831(d) qualified small employer health reimbursement arrangement (QSEHRA). Details are described below.

 

Cafeteria Plan

For taxable years beginning in 2021, the dollar limitation under IRC Sec. 125(i) on voluntary employee salary reductions for contributions to health flexible spending arrangements is $2,750. If the cafeteria plan permits the carryover of unused amounts, the maximum carryover amount is $550.

 

Qualified Transportation Fringe Benefit

For taxable years beginning in 2021, the monthly limitation under IRC Sec. 132(f)(2)(A) for the aggregate fringe benefit exclusion for transportation in a commuter highway vehicle and any transit pass is $270. The monthly limitation under IRC Sec. 132(f)(2)(B) for the fringe benefit exclusion amount for a qualified parking benefit is $270.

 

QSEHRA

For taxable years beginning in 2021, to qualify as a QSEHRA under IRC Sec. 9831(d), the arrangement must provide that the total amount of payments and reimbursements for any year cannot exceed $5,300 ($10,700 for family coverage).

 

For additional information on the 2021 inflation-adjusted limits, see Rev. Proc. 2020-45.


IRS Announces Louisiana Hurricane-Related Deadline Extensions

The IRS has issued Announcement LA-2020-05, which describes the postponement of deadlines for victims of Hurricane Delta, damage from which began on October 6, 2020. In addition to extending certain tax filing and tax payment deadlines, the relief includes completion of many time-sensitive, tax-related acts described in Treasury Regulation 301.7508A-1(c)(1), which include filing Form 5500 for retirement plans, completing rollovers, making retirement plan loan payments, etc.

The parishes included in the relief include Acadia, Calcasieu, Cameron, Jefferson Davis, and Vermilion. Taxpayers in other locations will automatically be added to the relief if the disaster area is further expanded.

Affected taxpayers with a covered deadline occurring on or after October 6, 2020, and on or before February 16, 2021, will have until February 16, 2021, to complete the act. “Affected taxpayer” automatically includes anyone who resides, or has a business located, within the designated disaster area. Those who reside or have a business located outside the identified disaster area, but have been affected by the hurricane, may contact the IRS at 866-562-5227 to request the relief.


IRS Updates California Wildfire-Related Deadline Extensions

The IRS has updated previously-issued Announcement CA-2020-07, which describes the postponement of deadlines for victims of California wildfires that began on September 4, 2020. In addition to extending certain tax filing and tax payment deadlines, the relief includes completion of many time-sensitive, tax-related acts described in Treasury Regulation 301.7508A-1(c)(1), which include filing Form 5500 for retirement plans, completing rollovers, making retirement plan loan payments, etc.

The counties included in the relief now include Fresno, Los Angeles, Madera, Mendocino, Napa, San Bernardino, San Diego, Shasta, Siskiyou, and Sonoma counties. Taxpayers in other locations will automatically be added to the relief if the disaster area is further expanded.

Affected taxpayers with a covered deadline occurring on or after September 4, 2020, and on or before January 15, 2021, will have until January 15, 2021, to complete the act. “Affected taxpayer” automatically includes anyone who resides, or has a business located, within the designated disaster area. Those who reside or have a business located outside the identified disaster area, but have been affected by the wildfires, may contact the IRS at 866-562-5227 to request the relief.


Sequel to SECURE Act Introduced in Final Days Before General Election

House Ways and Means Committee Chairman Richard Neal (D-MA) and GOP Ranking Member Kevin Brady (R-TX) have introduced the Securing a Strong Retirement Act of 2020, legislation that is described as building on major retirement legislation enacted in December 2019. The new legislation is being referred to as “SECURE 2.0,” a reference to the Setting Every Community Up for Retirement Enhancement (SECURE) Act of 2019 that preceded it.

It is not generally expected that this legislation will be acted upon before the November 3 elections, or necessarily even during the “lame duck” period between November 3 and the seating of the 117th Congress in January. Instead, it could represent the first attempt at bipartisan retirement legislation to be considered in 2021.

The following provisions are included in the proposed legislation.

  • Require automatic enrollment of eligible employees in 401(k), 403(b) and SIMPLE IRA plans with certain exceptions and grandfathering provisions
  • Further enhance the small retirement plan start-up credit, with a maximum credit of 100% (vs. the current 50%) for employers with no more than 50 employees
  • Increase the amount of, and eligibility for, the “saver’s credit” for taxpayers making IRA contributions or deferral contributions to employer-sponsored retirement plans
  • Exempt up to $100,000 of accumulated retirement account balances from required minimum distribution (RMD) requirements
  • Reduce the penalty for failure to satisfy RMD requirements from 50% to 25%; if an IRA RMD failure is timely corrected, the penalty would be further reduced to 10%
  • Permit 403(b) plans to invest in collective investment trusts
  • Increase the RMD age to 75 from 72 (increased from 70½ to 72 by the SECURE Act)
  • Align ESOP rules of S Corporations with those of C Corporations
  • Provide for indexing of IRA catch-up contributions
  • Provide a second, higher tier of catch-up deferral contributions for those age 60 and older, with indexing provision
  • Permit 403(b) plans to participate in multiple employer plan (MEP) arrangements
  • Permit certain student loan repayments to qualify for employer retirement plan matching contributions
  • Allow a small employer joining a MEP or pooled employer plan (PEP) arrangement to potentially claim a small plan start-up credit during the first three years of the MEP/PEP arrangement’s existence
  • Provide a new small employer tax credit for enhanced plan eligibility for military spouses
  • Enhance options for correcting employee salary deferral errors
  • Increase the qualifying longevity annuity contract (QLAC) RMD exemption
  • Permit increasing payments in IRA and defined contribution plan life annuity benefits
  • Allow retirement plan fiduciaries additional discretion in whether to seek recoupment of accidental overpayments
  • Simplify retirement plan disclosures to non-participating employees
  • Create a national online “lost and found” database to connect individuals with unclaimed retirement account benefits
  • Expand the IRS retirement plan correction program to permit self-correction of certain inadvertent IRA errors
  • Permit tax-free qualified charitable contributions to be made from employer-sponsored retirement plans (now permitted only from IRAs)
  • Make certain technical corrections to SECURE Act provisions

2021 Retirement Savings Limitations Released

The IRS has issued Notice 2020-79, which contains the following 2021 retirement savings plan limitations.

  • Annual additions under Internal Revenue Code Section (IRC Sec.) 415(c)(1)(A) for defined contribution plans: $58,000 ($57,000 for 2020)
  • Annual additions under IRC Sec. 415(b)(1)(A) for defined benefit pension plans: $230,000 (unchanged)
  • Annual deferral limit (402(g) limit) for 401(k), 403(b) and 457(b) plans: $19,500 (unchanged)
  • Catch-up contributions to 401(k), 403(b), and 457(b) plans: $6,500 (unchanged)
  • Annual deferral limit for SIMPLE IRA and SIMPLE 401(k) plans: $13,500 (unchanged)
  • Catch-up contributions for SIMPLE IRA and SIMPLE 401(k) plans: $3,000 (unchanged)
  • IRC Sec. 401(a)(17) compensation cap: $290,000 ($285,000 for 2020)
  • Highly compensated employee (HCE) definition income threshold: $130,000 (unchanged)
  • Top-heavy determination key employee definition income threshold: $185,000 (unchanged)
  • SEP plan employee income threshold for benefit eligibility: $650 ($600 for 2020)
  • Qualifying longevity annuity contract (QLAC) amount excludible from required minimum distribution determinations: $135,000 (unchanged)

IRA Contribution and Taxpayer Contribution Credit Amounts
Annual limitations for IRA contributions, deductibility for those who are active participants in employer-sponsored retirement plans, and those seeking an income tax credit for retirement saving contributions, have slightly different indices than are used for determining cost-of-living adjustments (COLAs) in employer plans. Following are the limitations for 2021.

  • Traditional and Roth IRA contributions: $6,000 (unchanged)
  • Traditional and Roth IRA catch-up contributions: $1,000 (not subject to COLA adjustments)
  • IRA deductibility phase-out for single taxpayers participating in employer plans rises to $66,000 to $76,000 (was $65,000 to $75,000)
  • IRA deductibility phase-out for married joint filing taxpayers participating in employer plans rises to $105,000 to $125,000 (was $104,000 to $124,000)
  • IRA deductibility phase-out for married with spouse an active participant in employer plan rises to $198,000 to $208,000 (was $196,000 to $206,000)
  • Roth IRA income limitation for determining maximum contribution for married joint filers: phase-out range rises to $198,000 to $208,000 (was $196,000 to $206,000)
  • Roth IRA income limitation for determining maximum contribution for single filers and heads-of-households: phase-out range rises to $125,000 to $140,000 (was $124,000 to $139,000)

Taxpayers who make contributions to IRAs or deferral-type employer-sponsored retirement plans of up to $2,000 may be eligible for a special income tax credit, the “saver’s credit,” of 10, 20, or 50 percent of the amount contributed, depending on their income.

For joint filers, the maximum adjusted gross income level for

  • the 50 percent tax credit is $39,500;
  • the 20 percent tax credit is $43,000; and
  • the 10 percent tax credit is $66,000.

For head of household filing status, the maximum adjusted gross income level for

  • the 50 percent tax credit is $29,625;
  • the 20 percent tax credit is $32,250; and
  • the 10 percent tax credit is $49,500.

For all other filing statuses, the maximum adjusted gross income level for

  • the 50 percent tax credit is $19,750;
  • the 20 percent tax credit is $21,500; and
  • the 10 percent tax credit is $33,000.

 

 

 


IRS Revises Rollover Self-Certification Rules to Include Accounts Recovered From Unclaimed Property Funds

The IRS has issued Revenue Procedure (Rev. Proc.) 2020-46, which modifies earlier guidance describing the process by which taxpayers can self-certify their eligibility for an extension of the 60-day deadline to complete an otherwise-eligible rollover.

Previous IRS guidance (Rev. Proc. 2016-47) identified circumstances under which a taxpayer would be eligible to extend the normal 60-day period in which to complete a rollover, and the procedure by which one can self-certify that eligibility. Rev. Proc. 2020-46 now adds to these qualifying circumstances amounts that are recovered by a taxpayer after being distributed and paid “to a state unclaimed property fund.”

This new guidance does not modify in any manner other conditions necessary for rollover eligibility. (Rev. Proc. 2020-46 was issued simultaneous to IRS Revenue Ruling 2020-24, which describes withholding and reporting obligations of qualified retirement plans that escheat amounts to unclaimed property funds.)


IRS Publishes Guidance on Withholding and Reporting of Retirement Plan Accounts Escheated to Unclaimed Property Funds

The IRS has issued Revenue Ruling 2020-24, guidance for qualified retirement plans that pay or “escheat” certain accounts of unresponsive or missing participants or beneficiaries to state unclaimed property funds. The guidance addresses the issues of tax withholding and reporting when such amounts are escheated.

In Revenue Ruling 2020-24, the IRS poses an escheatment scenario for illustration purposes, and describes what is required under this fact pattern.

  • The balance in the account being escheated is $900 (an amount beneath the 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.
  • There is no withholding election with respect to this account.
  • It is being paid to a state unclaimed property fund from which the owner can later make a claim.

Withholding

An amount as described in the Revenue Ruling 2020-24 example is a “designated distribution” (not wages, not a payment to a nonresident alien or corporation, or dividends on employer securities), and is therefore subject to withholding under Internal Revenue Code Sec. 3405.

Reporting

Qualified retirement plans must report such a payment on IRS Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc. The distribution amount is reported in Box 1, and the federal withholding amount (e.g., 20%) is reported in Box 4.

The date by which qualified retirement plans must comply with this guidance is the earlier of the following.

  • The date it becomes “reasonably practicable” to comply
  • A payment date occurring on or after January 1, 2022