Earlier this year, the Internal Revenue Service (IRS) issued final regulations for 403(b) plans. Most of the requirements in the regulations, including the requirement to have a written plan, are delayed until January 1, 2009. However, the portion of the regulations that provides new restrictions regarding plan transfers applies to transfers that occur after September 24, 2007.
90-24 Transfers and the New Regulations
Exchanges of 403(b) contracts are currently governed by IRS Revenue Ruling 90-24. Under the ruling, 403(b) contracts may be exchanged, without income inclusion, if the new contract includes distribution restrictions that are the same or more stringent than the distribution restrictions in the original contract. The final regulations retain the concept of 90-24 transfers but add restrictions for certain transfers after September 24, 2007.
The final regulations permit transfers in three cases: a change in the contract within the same plan (contract exchange); a plan-to-plan transfer of assets from one plan to the plan of another employer (plan-to-plan transfer); and a transfer for the repayment or purchase of permissive service credits in a governmental defined benefit plan.
Contract Exchanges
For contract exchanges, there are several requirements. First, the original contract must provide for the exchange. Second, the accumulated benefit immediately after the exchange must be at least equal to the accumulated benefit immediately before the exchange. Third, the new contract must be subject to distribution restrictions that are not less stringent than those under the current contract, and the employer must enter into an agreement with the issuer of the new contract under which the employer and issuer will from time to time provide each other with certain required information. The information basically allows for the coordination of certain matters such as whether a severance from employment distribution event has occurred and whether hardship withdrawal rules have been satisfied. Therefore, contract exchanges after September 24, 2007, will be limited to 403(b) providers with whom the employer has entered into an information sharing agreement. The IRS Commissioner is authorized to issue future guidance on contract exchanges.
Plan-to-Plan Transfers
Plan-to-plan transfers from one 403(b) plan to another 403(b) plan are also allowed, subject to certain requirements. First, for participant transfers, the participant must be an employee or former employee of the employer for the new plan; for the beneficiary of a deceased participant, the participant must have been an employee or former employee of the employer for the new plan. Second, the old plan must provide for the transfer, and the new plan must provide for the receipt of transfers. Third, as with contract exchanges, the accumulated benefit immediately after the transfer must be at least equal to the accumulated benefit immediately before the transfer. Fourth, to the extent any amount is subject to any distribution restrictions, the receiving plan must impose restrictions that are not less stringent than those imposed in the old plan.
Consequences and Compliance
An exchange or transfer that fails to meet the requirements of the final 403(b) regulations will be treated as a taxable distribution to the employee (if a distribution-triggering event such as severance from employment has not otherwise occurred). As a result, employers need to be mindful of the restrictions and new requirements.
Ensuring compliance will require a review of the plan’s current documentation and procedures. Employers should ensure that changes in documentation and procedures consistent with the final regulations are established by providers receiving transfers. They should request certification from their 403(b) provider that it will enter into an agreement on or before January 1, 2009, to share the required information for compliance with the final regulations. Employers could notify employees that, starting on September 25, 2007, requests to make contract exchanges will be suspended until the provider has certified that it will provide the required information.