Each January, the IRS updates several revenue procedures that prescribe the process for requesting determination letters for qualified retirement plans. For the most part, these have changed very little from one year to the next, except for increases in user fees charged. This year, the IRS made significant changes, which purportedly are intended to improve its efficiency. To understand why the new guidance involves both good news and bad news for plan sponsors necessitates a bit of background.
Several years ago, with the objective of leveling its workload, the IRS instituted a cyclical compliance system, with individually designed plans being assigned to a five-year remedial amendment cycle, based on the last digit of the plan sponsor’s taxpayer identification number. When requesting a determination letter for such a plan, a Form 5300 application is submitted, and a user fee of $2,500 must be paid.
Pre-approved prototype and volume submitter plans, however, have a slightly longer life span, as the remedial amendment cycle for these plans is six years. Employers that adopt these plans seek a determination letter by filing a Form 5307 application and paying a user fee of just $300. As part of the application, the plan sponsor is required to identify those provisions of the plan that deviate from the pre-approved specimen language. Generally, the deviations are rather modest, but the IRS has allowed significant customization.
It has been our policy to recommend that adopters of prototype and volume submitter documents obtain a determination letter in all cases. By doing so, the plan sponsor is able to assure itself that all required interim amendments have been adopted on a timely basis, that any unique language in the plan document has been reviewed and approved and that the plan document has received a “clean bill of health” through the date of the determination letter, making the plan documents subject to scrutiny only from that point forward. Most plan sponsors agree that the minimal cost of submitting the Form 5307 application is a small price to pay for peace of mind.
Effective as of May 1, 2012, the IRS will accept Form 5307 applications for determination from sponsors of pre-approved volume submitter plans, only when the pre-approved language has been modified and only when those modifications are relatively minor. If the IRS determines that the changes are more significant, the plan will be deemed to be an individually designed plan, subject to the five-year amendment cycle and the $2,500 user fee when submitting an application for determination. That said, what is the good news and what is the bad news in all of this? The good news is that, in most cases, no application for determination will be filed. This means the requalification process every six years is somewhat simpler and less expensive.
Unfortunately, the news is not all good. Because we have been provided with no guidance as to what is meant by “minor changes,” every deviation from the pre-approved language entails some risk. Customization to any extent increases the likelihood that a plan will be deemed to be individually designed, which means more frequent restatements and higher user fees. Moreover, by the time a plan sponsor or the IRS concludes that the plan is individually designed, the five-year compliance cycle may have passed, putting plan qualification in jeopardy. Even in a best case scenario, when the pre-approved language has not been modified, the plan sponsor no longer will have the added assurance of a determination letter or the “clean slate” it provided.
Under prior determination application procedures, a plan sponsor could request that the IRS consider not only the form of the plan document but also operational compliance by the plan with the nondiscrimination, minimum coverage and minimum participation requirements. Such a request was accomplished by including a Schedule Q with the application, along with the data necessary to demonstrate compliance. In its 2012 guidance, the IRS announced that these elective demonstrations no longer will be accepted.
Plan sponsors may be impacted in different ways by these changes. Some may welcome the simplification; others will want to reassess how their plans are designed and operated. Clearly, though, what for decades has been routine now warrants careful consideration.
For more information, please contact Partner Susan Foreman Jordan with Fox Rothschild’s Employee Benefits & Compensation Planning Practice Group at (412) 394-5543 or email@example.com.
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