Tag Archive for: 403(b)

Print Friendly Version Print Friendly Version

What’s My Limit? Contributions to both a 403(b) and a governmental 457(b) plan

“One of my clients participates a 403(b) plan and a governmental 457(b) plan (through a state university). Her accountant is telling her that she, potentially, could contribute $41,000 of deferrals between the two plans for 2022.  How can that be so?”

ERISA consultants at the Retirement Learning Center Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings plans, including nonqualified plans. We bring Case of the Week to you to highlight the most relevant topics affecting your business.

A recent call with a financial advisor from Illinois is representative of a common inquiry related to the maximum annual limit on employee salary deferrals.

Highlights of Discussion

Generally speaking, it may be possible for her to contribute more than one would expect given the plan types she has and based on existing plan contributions rules, which are covered in the following paragraphs. Your client should rely on her tax advisor in order to determine what amounts she can contribute to her employer-sponsored retirement plans because this is an important tax question that is best answered with the help of professionals.

For 2022, 457(b) contributions (consisting of employee salary deferrals and/or employer contributions combined) cannot exceed $20,500, plus catch-up contribution amounts ($6,500) if eligible [Treasury Regulation Section (Treas. Reg. §1.457-5)]. Since 2002, contributions to 457(b) plans no longer reduce the amount of deferrals to other salary deferral plans, such as 401(k) or 403(b) plans. A participant’s 457(b) contributions need only be combined with contributions to other 457(b) plans when applying the annual contribution limit. Therefore, contributions to a governmental 457(b) plan are not aggregated with deferrals an individual makes to other types of deferral plans.

Consequently, an individual who participates in both a governmental 457(b) plan and one or more other deferral-type plans, such as a 403(b), 401(k), salary reduction simplified employee pension plan, or savings incentive match plan for employees has two separate annual deferral limits. Here’s an example.

Example

For 2022, 32-year-old Toni is on the faculty at the local state university and participates in its 457(b) and 403(b) plans. Assuming adequate levels of compensation, Toni can defer up to $20,500 in her 403(b) plan, plus another $20,500 to her 457(b) plan—for a total of $41,000.

Also, keep in mind the various special catch-up contribution options depending on the type of plan outlined next.

 

403(b) 457(b)
15-Years of Service with Qualifying Entity Option:[1]

 

402(g) limit, plus the lesser of

 

1) $3,000 or

2) $15,000, reduced by the amount of additional elective deferrals made in prior years because of this rule, or

3) $5,000 times the number of the employee’s years of service for the organization, minus the total elective deferrals made for earlier years.

 

Age 50 or Over Option

 

Employees age 50 or over can make catch-up contributions of $6,500 beyond the basic 402(g) limit.

 

Note:  Must apply the 15-year option first

Age 50 or Over Option

 

Employees age 50 or over can make catch-up contributions of $6,500 beyond the basic 457 deferral limit of $20,500.

 

Special “Last 3-Year” Option

 

In the three years before reaching the plan’s normal retirement age employees can contribute either:

•Twice the annual 457(b) limit (in 2022, $20,500 x 2 = $41,000),

 

Or

 

•The annual 457(b) limit, plus amounts allowed in prior years but not contributed.

 

Note:  If a governmental 457(b) allows both the age-50 catch-up and the 3-year catch-up, one or the other—but not both—can be used.

 

Another consideration when an individual participates in more than one plan is the annual additions limit under IRC Sec. 415(c),[2] which typically limits plan contributions (employer plus employee contributions for the person) for a limitation year [3] made on behalf of an individual to all plans maintained by the same employer. However, contributions to 457(b) plans are not included in a person’s annual additions (see 1.415(c)-1(a)(2).

 

Conclusion

Sometimes individuals who are lucky enough to participate in multiple employer-sponsored retirement plan types may be puzzled by what their maximum contribution limits are. This is especially true when a person participates in a 403(b) and 457(b) plan. That is why it is important to work with a financial and/or tax professional to help determine the optimal amount based on the participant’s unique situation.

[1] A public or private school, hospital, home health service agency, health and welfare service agency, church, or convention or association of churches (or associated organization) and it is allowed by the terms of the plan document

[2] For 2022, the limit is 100% of compensation up to $61,000 (or $67,500 for those > age 50).

[3] Generally, the calendar year, unless the plan specifies otherwise

© Copyright 2022 Retirement Learning Center, all rights reserved
Print Friendly Version Print Friendly Version

Dual-Status Hospitals and Retirement Plans

“One of my plan sponsor clients is a hospital that has dual status as a tax-exempt entity and a governmental entity. Could the dual-status hospital have both a 403(b) plan and a 457(b) plan?

ERISA consultants at the Retirement Learning Center Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings and income plans, including nonqualified plans, stock options, and Social Security and Medicare.  We bring Case of the Week to you to highlight the most relevant topics affecting your business.

A recent call with an advisor in Colorado is representative of a common inquiry regarding governmental and tax-exempt entities.

Highlights of Discussion

Dual-status entities could include governmental hospital organizations that have received a determination letter from the IRS stating it is exempt from taxes under IRC Sec. 501(c)(3) and that it also qualifies as an affiliate of a government unit as described in Rev. Proc. 95-48.

Yes, a governmental entity that also satisfies the requirements of IRC Sec. 501(c)(3) (i.e., a dual-status entity) may maintain both a 403(b) plan and a 457(b) plan. This was affirmed in the preamble to the proposed 403(b) regulations (see page 67078 of REG–155608–02).

“Under sections 457(b)(6) and 457(g), an entity that is both an instrumentality of a State and a section 501(c)(3) organization can have an eligible plan under section 457(b) only if it is funded. However, under section 403(b)(1)(A)(i) and (ii), an entity that is both an instrumentality of a State and a section 501(c)(3) organization could cover any of its employees, regardless of whether they are performing services for a public school.”

That means, any employee that is eligible to participate in both the 403(b) plan and the 457(b) plan would have two separate deferral limits and, potentially, would be able to essentially “double up” on elective deferral contributions (See PLR-145997-08). The Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA), effective after December 31, 2001, no longer imposes any requirement to reduce the maximum amount that an individual may defer under a 457(b) plan by any amount contributed for such individual to a different type of deferral plan such as a 403(b) plan.

A word of caution:  It is important for a dual-status hospital to make sure it satisfies the requirements of IRC Sec. 501(r)(1) as well as  Revenue Ruling 69-545. In recent years, the IRS has revoked a hospital’s tax-exempt status under IRC Sec. 501(c) for failing to comply with IRC Sec. 501(r)(1) (PLR 201829017). For more information see Charitable Hospitals – General Requirements for Tax-Exemption Under Section 501(c)(3).

Conclusion

It is possible for a governmental entity that also satisfies the requirements of IRC Sec. 501(c)(3) (i.e., a dual-status entity) to maintain both a 403(b) plan and a 457(b) plan.

 

 

© Copyright 2022 Retirement Learning Center, all rights reserved
Print Friendly Version Print Friendly Version

Remember the Saver’s Tax Credit

“Can you remind me of the special tax credit available for individuals who make retirement savings contributions, please?”

ERISA consultants at the Retirement Learning Center Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings and income plans, including nonqualified plans, stock options, and Social Security and Medicare.  We bring Case of the Week to you to highlight the most relevant topics affecting your business.

A recent call with an advisor in Nevada is representative of a common inquiry regarding available tax credits for personal contributions to eligible plans.

Highlights of Discussion

Absolutely, after all, it is tax time! IRA owners, retirement plan participants (including self-employed individuals) and others may qualify for the IRS’s “Saver’s Credit” for certain contributions made to eligible savings arrangements. Details of the credit appear in IRS Publication 590-A and here Saver’s Credit.

The credit

  • Equals an amount up to 50%, 20% or 10% of eligible taxpayer contributions up to $2,000 ($4,000 if married filing jointly), depending on adjusted gross income (as reported on Form 1040, 1040SR or 1040NR);
  • Relates to contributions taxpayers make to their traditional and/or Roth IRAs, or elective deferrals to a 401(k) or similar workplace retirement plan (other plans qualify so see full list below); and
  • Is claimed by a taxpayer on Form 8880, Credit for Qualified Retirement Savings Contributions.

Contributors can claim the Saver’s Credit for personal contributions (including voluntary after-tax contributions) made to

  • A traditional or Roth IRA;
  • 401(k),
  • Savings Incentive Match Plan for Employees (SIMPLE) IRA,
  • Salary Reduction Simplified Employee Pension (SARSEP),
  • 403(b),
  • Governmental 457(b),
  • Federal Thrift Savings Plan,
  • ABLE account* or
  • Tax-exempt, union pension benefit plan under IRC Sec. 501(c)(18)(D).

In general, the contribution tax credit is available to individuals who

1) Are age 18 or older;

2) Not a full-time student;

3) Not claimed as a dependent on another person’s return; and

4) Have income below a certain level (see table that follows).

* The Achieving a Better Life Experience (ABLE) Act of 2014 allows states to create tax-advantaged savings programs for eligible people with disabilities (designated beneficiaries). Funds from ABLE accounts can help designated beneficiaries pay for qualified disability expenses on a tax-free basis.

2021 Saver’s Credit Income Levels

Credit Rate Married Filing Jointly Head of Household All Other Filers*
50% of your contribution AGI not more than $39,500 AGI not more than $29,625 AGI not more than $19,750
20% of your contribution $39,501 – $43,000 $29,626 – $32,250 $19,751 – $21,500
10% of your contribution $43,001 – $66,000 $32,251 – $49,500 $21,501 – $33,000
0% of your contribution More than $66,000 More than $49,500 More than $33,000

*Single, married filing separately, or qualifying widow(er)

The IRS has a handy on-line “interview” that taxpayers may use to determine whether they are eligible for the credit.

Conclusion

Every deduction and tax credit counts these days. Many IRA owners and plan participants may be unaware of the retirement plan-related tax credits for which they may qualify.

 

 

 

 

 

© Copyright 2022 Retirement Learning Center, all rights reserved
Print Friendly Version Print Friendly Version

“Disregarded Entities,” 403(b)s and 457(b)s

“How are subsidiaries and affiliates of an employer eligible to sponsor a 403(b) plan treated for plan participation purposes?”

Highlights of the Discussion

Generally, in order to offer an IRC §403(b) plan, the sponsor must be an “eligible employer” [e.g., a public school, church, or IRC §501(c)(3) organization as defined under Treasury Regulation (Treas. Reg) §1.403(b)-2(b)(8)(i)]. If the eligible 403(b) sponsor has a subsidiary or other affiliate; it, too, must be an eligible employer, in and of itself, in order to allow its employees to participate in the 403(b) plan [Treas. Reg. §1.403(b)-2(b)(8)(ii)].  There is an exception, however, for “disregarded entities” under Treas. Reg. §301.7701-3(b)(ii), including certain limited liability companies (LLCs) as explained in Chief Counsel Memorandum 201634021.[1] Memoranda are not formal guidance, but they do provide insight into how the IRS interprets and applies its rules and regulations.

In general, an LLC with a single owner may elect to be classified as either an association by filing Form 8832, Entity Classification Election or to be disregarded as an entity separate from its owner pursuant to Treas. Reg. §301.7701-3(b)(ii). If an entity is a disregarded entity, its activities are treated as those of a sole proprietorship, branch, or division of the owner under Treas. Reg. §301.7701-2(a). Consequently, a disregarded entity is treated as a branch or division of the 403(b) plan sponsor and not as a subsidiary or affiliate. Therefore, the employees of a disregarded entity are treated as employees of the entity sponsoring the 403(b), and must be allowed to make elective deferrals in order to satisfy the universal availability rule under Treas. Reg. § 1.403(b)-5(b).

The IRS applies similar reasoning to a governmental or tax-exempt, single-member LLC with a disregarded entity that sponsors a 457(b) plan. The disregarded entity is treated as a branch or division of the governmental or tax-exempt organization, so the employees of the disregarded entity are treated as employees of the governmental or tax-exempt organization and may, but are not required to, participate in the 457(b) plan.

Conclusion

In most cases, if a 403(b) sponsor has a subsidiary or other affiliate; it, too, must be an eligible employer, on its own, in order to allow its employees to participate in the 403(b) plan. There is an exception for certain disregarded entities. Employees of a disregarded entity are treated as employees of the entity sponsoring the 403(b), and must be allowed to make elective deferrals in order to satisfy the universal availability rule.

 

[1] Note:  General Counsel Memoranda are prepared by Chief Counsel attorneys and are intended primarily for IRS internal use. They are similar to standard attorney opinions and indicate the reasoning behind revenue rulings, private letter rulings, and technical advice memoranda.

 

© Copyright 2022 Retirement Learning Center, all rights reserved
Print Friendly Version Print Friendly Version

Are Governmental Plans Exempt from ERISA?

“I have a colleague that says governmental retirement plans are exempt from ERISA and one that says they are not. Can you settle the argument? Are retirement plans maintained by governmental entities exempt from ERISA?”

ERISA consultants at the Retirement Learning Center (RLC) Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings and income plans, including nonqualified plans, stock options, and Social Security and Medicare.  We bring Case of the Week to you to highlight the most relevant topics affecting your business.

A recent call with an advisor in Wisconsin is representative of a common question on the Employee Retirement Income Security Act of 1974 (ERISA) and retirement plans maintained by governmental entities.

Highlights of the Discussion

  • Yes and no; both answers are partially correct. ERISA consists of five sections or “Titles:”
    • Title I: Protection of Employee Benefit Rights
    • Title II: Amendments to the Internal Revenue Code Relating to Retirement Plans
    • Title III: Jurisdiction, Administration, Enforcement; Joint Pension Task Force, Etc. and
    • Title IV: Plan Termination Insurance
  • Generally, governmental retirement plans are fully exempt from Titles I and IV of ERISA. Those titles cover fiduciary duties, reporting and disclosure requirements, and termination insurance from the Pension Benefit Guaranty Corporation [ERISA Secs. 4(b)(1) and 4021(b)(2)].
  • A few of the provisions of Title II of ERISA apply to governmental plans. Title II relates to the portion of ERISA that amended the Internal Revenue Code and includes certain plan qualification requirements like limits on plan contributions.
  • Governmental plans are subject to Title III of ERISA, which contains procedures for co-coordinating enforcement efforts between the Department of Labor and Treasury Department.
  • While governmental plans are exempt from the federal fiduciary requirements of Title I of ERISA, they are subject to any fiduciary requirements imposed by applicable state laws. For example, California Government Code Section 53213.5 applies fiduciary standards and responsibilities to plans of governmental entities that essentially mirror those fiduciary standards and responsibilities in Title I of ERISA. Similarly, Florida imposes a federal-like fiduciary standard on plan officials under Florida Statute 112.656.
  • Other state statutes have fiduciary provisions that may be different than federal fiduciary rules. A sponsor of a governmental plan must be familiar with the fiduciary standards of its state, as well as other state laws that may affect the operation of its plan.

Conclusion

As a rule, retirement plans of governmental employers are exempt from the federal fiduciary requirements imposed under Title I of ERISA, as well as the plan termination insurance requirements under Title IV.  However, it is important for plan sponsors and others who may have discretionary authority over governmental plans to consider any fiduciary requirements and other legal requirements under applicable state law.

 

© Copyright 2022 Retirement Learning Center, all rights reserved
Print Friendly Version Print Friendly Version

403(b) Plan RAP Coming to an End March 31

“Is there some kind of amendment deadline coming up with respect to 403(b) plans?”

ERISA consultants at the Retirement Learning Center (RLC) Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings and income plans, including nonqualified plans, stock options, and Social Security and Medicare.  We bring Case of the Week to you to highlight the most relevant topics affecting your business.

A recent call with a financial advisor from Ohio is representative of a common inquiry related to 403(b) governing plan documents.

Highlights of the Discussion

Yes, March 31, 2020, is the last day most 403(b) plan sponsors of both 403(b) pre-approved plans and 403(b) individually designed plans have to correct any plan provisions that fail to meet the requirements of Internal Revenue Code Section (IRC §) 403(b) (see Revenue Procedure 2017-18).[1]  Sponsors can use this “remedial amendment period” or RAP to add required provisions or correct defective provisions to ensure the form of the plan is satisfactory.

The correction can be accomplished by

1) Adopting a 403(b) pre-approved plan by March 31, 2020, that has a 2017 opinion or advisory letter; or 2) Amending their individually designed plan by March 31, 2020, to incorporate the corrected language.

The program allows an eligible employer to retroactively correct defects in the form of its written 403(b) plan back to the first day of the plan’s remedial amendment period, which is the later of:

  • January 1, 2010, or
  • the plan’s effective date.

EXAMPLE:

Plan A, adopted a 403(b) effective January 1, 2011, doesn’t contain language limiting participants’ annual additions to the IRC §415(c) limit. No participant has exceeded the 415(c) limit since the start Plan A started (i.e., January 1, 2011).

Because Plan A doesn’t include language for the 415(c) limit, Plan A doesn’t comply with the requirements as to plan form. The plan sponsor must correct the plan’s form by adopting a corrective plan amendment by March 31, 2020. The amendment must be effective retroactively to the start of Plan A’s remedial amendment period, which is January 1, 2011.

For defects in form that occur after March 31, 2020, 403(b) sponsors should follow Revenue Procedure 2019-39. 403(b) plans sponsors who didn’t adopt a written plan before December 31, 2009, can use the 403(b) Voluntary Program Submission Kit to correct this error.

Conclusion

403(b) plan documents must comply with regulations as to their form. If they don’t, plan sponsors must ensure the plan is amended to bring it into compliance. The initial RAP to correct the written form of a 403(b) plan ends March 31, 2020. For errors after this date, follow Rev. Proc. 2019-39.

[1] Note:  Rev. Proc. 2019-39 provides a limited extension of the initial remedial amendment period for certain form defects.

© Copyright 2022 Retirement Learning Center, all rights reserved
Print Friendly Version Print Friendly Version

Universal Availability Rule

“Can you explain the universal availability rule and does that apply to 401(k) plans?”

ERISA consultants at the Retirement Learning Center Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings and income plans, including nonqualified plans, stock options, and Social Security and Medicare. We bring Case of the Week to you to highlight the most relevant topics affecting your business.

A recent call with a financial advisor from Illinois is representative of a common inquiry related to 403(b) plans.

Highlights of the Discussion

The universal availability requirement is a rule that relates to eligibility to make elective deferrals in 403(b) plans—not 401(k) plans. It is the nondiscrimination test for 403(b) elective deferrals. Universal availability requires that if the sponsor of a 403(b) plan allows any employee to make elective deferrals to the plan, it must permit all employees to make elective deferrals as well [Treas. Reg. Sec. 1.403(b)-5(b)]. There are a few limited exceptions explained next.

The IRS allows a 403(b) plan sponsor to disregarding the following excludable employees when applying the universal availability test to their plans:

  • Nonresident aliens with no U.S. source income;
  • Employees who normally work fewer than 20 hours per week (or a lower number if specified in the plan document);
  • Student workers performing services as described in Treas. Reg. Sec. 31.3121(b)(10)–2 (note that medical residents are not considered to be students for this purpose);
  • Employees whose maximum elective deferrals under the plan are less than $200; and
  • Employees eligible to participate and make elective deferrals under another 401(k), 403(b) or 457(b) plan sponsored by the same employer.

Under the fewer-than-20-hours-per-week and student worker exclusions listed above, if any employee who would be excluded under either exclusion is permitted to participate, then no employee may be excluded under that exclusion [ Treas. Reg. Sec. 1.403(b)-5]. Consequently, if the plan allows an employee working fewer than 20 hours per week to participate, the plan cannot exclude any employee using the fewer-than-20-hours-per-week exclusion.

A 403(b) plan may not exclude employees based on a generic classification such as the following:

  • Part-time,
  • Temporary,
  • Seasonal,
  • Substitute teacher,
  • Adjunct professor or
  • Collectively bargained employee.

However, if these employees fall under the fewer-than-20-hours criterion, then they may be excluded on that basis. For examples on the application of the exclusion, please see IRS 403(b) Universal Availability. The key to this exclusion is that a plan must determine eligibility for making 403(b) elective deferrals based on whether the employee is reasonably expected to normally work fewer than 20 hours per week and has actually never worked more than 1,000 hours in the applicable 12-month period.

And don’t forget, an employee is not considered to have had the right to make a deferral election unless he or she has had what the IRS calls an “effective opportunity” to make such an election. Effective opportunity is a facts-and-circumstances test. Essentially, at least once during a plan year, employees must receive a deferral notice and have a window of time to make or change a deferral election.

If a plan violates the universal availability rule, the effect can be loss of IRC 403(b) status. In that extreme case, contributions to the plan would become subject to income tax, employment tax and withholding. But the IRS wants to avoid that, so it provides correction remedies in its Employee Plans Compliance Resolution System (See the IRS’s 403(b) Fix-It Guide and Rev. Proc. 2019-19 for remedies.)

Conclusion

The ability to make elective deferrals in a 403(b) plan must be universally available to all eligible employees of a 403(b) plan sponsor. Be aware of the subtle nuances and follow IRS guidance on applying this important rule.

© Copyright 2022 Retirement Learning Center, all rights reserved
Print Friendly Version Print Friendly Version

Retirement Savings Tax Credit

“What contributions are eligible for the retirement savings tax credit?”

ERISA consultants at the Retirement Learning Center Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings and income plans, including nonqualified plans, stock options, and Social Security and Medicare. We bring Case of the Week to you to highlight the most relevant topics affecting your business. A recent call with an advisor in Oklahoma is representative of a common inquiry regarding available tax credits for retirement contributions.

Highlights of Discussion

IRA owners and retirement plan participants (including self-employed individuals) may qualify for a retirement savings contribution tax credit. Details of the credit appear in IRS Publication 590-A and here Saver’s Credit.

The credit

  • Equals an amount up to 50%, 20% or 10% of the taxpayer’s retirement plan or IRA contributions up to $2,000 ($4,000 if married filing jointly), depending on adjusted gross income (as reported on Form 1040, 1040A or 1040NR);
  • Relates to contributions taxpayers make to their traditional and/or Roth IRAs, or elective deferrals to a 401(k) or similar workplace retirement plan; and
  • Is claimed by a taxpayer on Form 8880, Credit for Qualified Retirement Savings Contributions.

Contributors can claim the Saver’s Credit for personal contributions (including voluntary after-tax contributions) made to

  • A traditional or Roth IRA;
  • 401(k),
  • Savings Incentive Match Plan for Employees (SIMPLE) IRA,
  • Salary Reduction Simplified Employee Pension (SARSEP) IRA,
  • 403(b) or
  • Governmental 457(b) plan.

In general, the contribution tax credit is available to individuals who

1) Are age 18 or older;

2) Not a full-time student;

3) Not claimed as a dependent on another person’s return; and

4) Have income below a certain level.

2018 Saver’s Credit Income Levels

Credit Rate Married Filing Jointly Head of Household All Other Filers*
50% of your contribution AGI not more than $38,000 AGI not more than $28,500 AGI not more than $19,000
20% of your contribution $38,001 – $41,000 $28,501 – $30,750 $19,001 – $20,500
10% of your contribution $41,001 – $63,000 $30,751 – $47,250 $20,501 – $31,500

*Single, married filing separately, or qualifying widow(er)

The IRS has a handy on-line “interview” that taxpayers may use to determine whether they are eligible for the credit.

Conclusion

Every deduction and tax credit counts these days. Many IRA owners and plan participants may be unaware of the retirement plan related tax credits for which they may qualify.

© Copyright 2022 Retirement Learning Center, all rights reserved
Print Friendly Version Print Friendly Version

403(b) 15 years-of-service catch-up contribution election

“How does the special 15-year catch-up contribution rule works for 403(b) plans?”

ERISA consultants at the Retirement Learning Center Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings and income plans, including nonqualified plans, stock options, and Social Security and Medicare. We bring Case of the Week to you to highlight the most relevant topics affecting your business. A recent call with a financial advisor from Massachusetts is representative of a common inquiry related to 403(b) salary deferrals.

Highlights of the Discussion

The IRS allows certain long-term employees to catch-up on the funding of their 403(b) plans by electing to increase their elective deferrals over the standard dollar limit. The election is available only to employees who have completed at least 15 years of service with one of the following types of employers:

With the exception of church-related organizations or organizations controlled by a church-related organization, years with different employers cannot be added together for purposes of satisfying the 15-year requirement.

Example 1

Anna is a teacher with the West County School System. She has been employed by West County for six years, but worked for the East County School System for 10 years prior to coming to West County. There is a State Teachers Retirement System that covers all of Anna’s years with both West and East Counties. However, only the years that Anna worked while a teacher for West County may be counted for purposes of eligibility for the 15-year catch-up contribution election [see Treas. Regs. 1.403(b)-4(c)(3)(ii)(B) and 1.403(b)-4(e)(3)].

Under the special 15-year catch-up election, the standard annual deferral limit (i.e., $18,500 for 2018) is increased by the lesser of the following three numbers:

  1. $3,000 or
  2. $15,000 minus any elective deferrals previously excluded under this catch-up election, plus any amount of designated Roth contributions in prior years under this catch-up, or
  3. $5,000 multiplied by the employee’s years of service minus the elective deferrals made to plans of the organization in prior taxable years.

There is a lifetime limit of $15,000 for this catch-up election. And, to complicate matters further, an individual age 50 or older may make an additional standard catch-up of $6,000. For an employee eligible to use both the 15-year catch-up and the age 50 catch-up, he or she must apply the 15-year catch-up first. Then an amount may be contributed as an age 50 catch-up to the extent the age 50 catch-up limit exceeds the 15-year catch-up limit.

Example 2

Let’s apply all this in an example.

For 2018, Dion, age 50, has taxable compensation of $70,000. He has worked for the local hospital for 15 years. Dion has made no other elective deferrals during the year, and this will be the first year he contributes to the hospital’s 403(b) plan.

The general 402(g) limit is $18,500. Dion can use up to $3,000 of the 15-year catch-up, and he qualifies for the age 50 catch up of $6,000. Therefore, the maximum amount Dion can elect to defer is $27,500 ($18,500 + $3,000 + $6,000). If Dion defers only $24,500, then $3,000 will count as his 15-year catch-up contribution (reducing future 15-year catch-up contributions because of the $15,000 lifetime limit) and $3,000 will count as his age 50 catch-up.

Example 3

Similarly, Fiona, age 50, has taxable compensation of $70,000 for 2018. She has worked for the local hospital for 20 years. Fiona has made no other elective deferrals during the year, but she has made elective deferrals in prior years to the 403(b) plan of $175,000.

The general 402(g) limit is $18,500. The 15-year catch-up is only available if prior deferrals do not exceed $5,000 x her years of service (i.e., $5,000 x 20 = $100,000). Fiona had prior deferrals of $175,000. Therefore, she has used up her 15-year catch-up. However, because she has attained age 50, she is eligible for the age 50 catch-up limit of $6,000. Consequently, the maximum Fiona can elect to defer is $24,500 ($18,500 plus $6,000 under the age 50 catch-up).

Be sure to check the terms of the 403(b) document for any additional limitations that may apply on salary deferrals.

Conclusion

Certain long-tenured 403(b) plan participants who work for eligible employers such as a public school system, hospital or church have special considerations when it comes to the maximum amount they can defer into their 403(b) plans. Plan language can also affect how much participants are eligible to contribute. The rules are complicated; therefore, 403(b) plan participants should be encouraged to discuss their contributions with a tax advisor.

© Copyright 2022 Retirement Learning Center, all rights reserved
Print Friendly Version Print Friendly Version

Changes to hardship distributions for 2019

“Are the rules for hardship distributions from 401(k) plans changing?”

ERISA consultants at the Retirement Learning Center Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings and income plans, including nonqualified plans, Social Security and Medicare. We bring Case of the Week to you to highlight the most relevant topics affecting your business. A recent call with a financial advisor from Illinois is representative of a common inquiry related to hardship distributions.

Highlights of the Discussion

Yes, changes to the hardship distribution rules for 401(k) plans as a result of the Bipartisan Budget Act of 2018 will take effect for the 2019 plan year (e.g., as of January 1, 2019, for calendar year plans). There are three primary changes to the current hardship distribution rules.

Participants will

  1. Not be required to take plan loans before a hardship distribution is granted;
  2. Not need to suspend their employee salary deferrals for six months following a hardship withdrawal; and
  3. Will be able to distribute other types of contributions beyond employee salary deferrals and grandfathered, pre-1989 earnings thereon as part of a hardship distribution, including qualified nonelective contributions (QNECs), qualified matching contributions (QMACs), safe harbor contributions, and earnings from all eligible sources (including post 1988 earnings on elective deferrals).

Items 1. and 2. are currently part of the IRS’s requirements for a hardship distribution to meet the safe harbor definition of “necessary to satisfy an immediate and heavy financial need.” [See Treasury Regulation Section 1.401(k)-1(d)(3)].

In order to implement the new provisions, plan sponsors will need to

  • Update their hardship distribution procedures,
  • Ensure plan record keepers are making necessary administrative changes, and
  • Review plan document language for necessary amendments.

We believe it was Congress’s intent to have the same changes apply to hardship distributions from 403(b) plans, but clarifying guidance from the IRS is needed. Treasury regulations under Section 403(b) of the Internal Revenue Code state that a hardship withdrawal from a 403(b) plan has the same meaning, and is subject to the same rules and restrictions, as a hardship withdrawal under the 401(k) regulations [see Treasury Regulation Section 1.403(b)-6(d)(2)]. The Treasury Secretary has until early 2019 to modify the current 401(k) regulations to reflect the new hardship distribution rules.

Conclusion

Come 2019, plan sponsors may incorporate softer hardship distribution rules into their plans, policies and procedures as a result of changes under the Bipartisan Budget Act of 2018.

© Copyright 2022 Retirement Learning Center, all rights reserved