In a recent news briefing, a former Department of Labor official hinted that employers still struggling to comply with 415 rules outlined for 403(b) plans under the Pension Protection Act of 2006 may have played out the last of the agency's leniency regarding enforcement.
Brad Campbell, former head of the Employee Benefits Security Administration, told attendees at the Washington, D.C., meeting presented by The Hartford that plan sponsors don't have "a whole lot longer to get our acts together before the enforcement starts becoming more pointed."
"I think the IRS will be examining plans," concurs Terry Richardson, director in the PwC Human Resource Services retirement practice. "How much will they hold people accountable at this point? We just don't know because this is very difficult and fairly onerous."
The first thing a 403(b) plan sponsor must do is determine whether they are protected under safe harbor or are subject to ERISA. Government plans are subject to ERISA, while plans sponsored by religious organizations may elect whether 403(b) applies. Charter schools or charitable organizations can usually fall under safe harbor - if the employer doesn't contribute to the plan. If the employer contributes, however, it's an ERISA plan. For employers that provide 403(b) contributions, they must file a Form 5500 and will be audited if the plan has a certain number of participants.
For fiduciaries that have the choice, Campbell recommends opting not to be covered by ERISA. Still, he adds that sponsors should apply the rules to their plans just so that they are following best practices.
Testing for violations
"Under the 415 regs, there are some complicated and, some may say, archaic ways of looking at 403(b) plans that aren't exactly the same as 401(k) plans. These are subtle distinctions, but distinctions nonetheless," Richardson says.
Individuals can make contributions to a 401(a) plan alongside their 403(b) plan. Yet, under 415 rules, contribution limits exist for both the 401(a) and 403(b) on behalf of the individual in a given plan year. These limits are normally separate, however, if a participant owns an outside business that sponsors a 401(a) plan. In that case, contributions to the 401(a) plan will be aggregated with the contributions to the 403(b) plan under one 415 limit.
However, under the preamble to the 415 regulations, 403(b) plan administrators must track contributions and, if there is a violation of 415 regulations, then they have to reduce the excess from the participant's 403(b) account.
"It's your responsibility [as a 403(b) plan administrator] to test on an individual basis your plan as well as on an aggregate basis to test between the two plans to make sure no one is violating 415. If they violate 415 between the aggregate of those contributions to those two different plans, you as the plan administrator have to deal with the overage in your 403(b) plan," Richardson says.
If a plan sponsor identifies a 415 violation, the employer needs to set aside the overage amount and tax the individual on the amount in their compensation in the year the contribution was made. The individual would, if they have money in a custodial account such as a mutual fund, also be subject to an excise tax.
Even though individuals are required to submit such information to their plan sponsor, it's difficult to get information on outside contributions to qualified plans from individuals because of participants' privacy concerns. "To be honest, no one was really tracking this. Realistically, it's been very difficult for the 403(b) administrators to be able to gather this data and effectively test it," Richardson adds.
In addition, Campbell recommended that fiduciaries have quarterly meetings with the plan committee and review service provider commitments often.
403(b) or 401(k)?
Some 403(b) plan sponsors are considering a shift to a 401(k), but 403(b) plans have a slightly wider array of investment options. As nonprofits generally have modest budgets, 403(b) plans are more attractive because billing is more flexible for service providers. Further, since the differences between 403(b)s and 401(k)s isn't very pronounced, and rules traditionally made it difficult to terminate a 403(b), there's little reason to make a change.
In general, a 403(b) is a plan of the individual, while the 401(k) or 401(a) are plans of the employer, explains Richardson. Individuals can make contributions to a 403(b) plan, while their employer makes contributions to a 401(a) plan on an individual's behalf.
Whatever they choose, fiduciaries should "do your best. Be focused that there are a lot of changes that you have to go through," Richardson says. "Don't take anything for granted and work with competent counsel if you need to, but don't be the ostrich and stick your head in the sand. You have to be working to get this stuff organized and establish solid policies around it because that's what the IRS and DOL want. They are going to be much more forgiving of the employer who made a valiant effort and did something wrong."
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