The U.S. Department of Labor (“DOL”) has provided new guidance to plan fiduciaries of terminated defined contribution plans for locating missing or unresponsive participants in order to distribute their benefits. The guidance, which comes in the form of Field Assistance Bulletin (“FAB”) 2014-0, replaces the prior guidance provided in FAB 2004-02.
FAB 2014-01 outlines the mandatory steps that plan fiduciaries must take to discharge their duty to locate missing participants and provides acceptable options for distributing a benefit when participants remain unresponsive.
Background. The inability to locate and make distributions to participants when terminating a retirement plan can present several quandaries for plan fiduciaries, including:
- Delaying the filing of the plan’s final Form 5500. All plan assets must be distributed from the plan’s trust before a final Form 5500 can be filed.
- Voiding a favorable determination letter issued by the Internal Revenue Service (“IRS”) in relation to the plan’s termination. In order to rely on an IRS determination letter, a plan administrator must make final distributions within a reasonable time following the plan termination.
- The Internal Revenue Code’s mandate that fiduciaries must seek affirmative direction from plan participants when making termination distributions.
Prior Guidance. To address these concerns, in 2004 the DOL released FAB 2004-02. FAB 2004-02 provided plan fiduciaries with guidance on how to meet their obligations under ERISA to locate and distribute benefits to missing participants in the context of a defined contribution plan termination. FAB 2004-02 advised plan fiduciaries to use the following methods to locate missing participants:
- Send notices by certified mail;
- Review related plan and employer records;
- Contact the participant’s designated beneficiary; and
- Use the letter-forwarding services of the IRS or Social Security Administration (“SSA”).
Internet search tools, commercial locator services and credit reporting agencies were also recommended as search resources. FAB 2004-02 relied heavily on the IRS and SSA letter-forwarding programs. Both of these programs, however, were recently discontinued. (The SSA program ended in May of this year, and the IRS excluded retirement plans from its program effective August of 2012.)
DOL Safe Harbor Regulations. In 2006, DOL issued regulations to provide fiduciaries of terminating defined contribution plans with “safe-harbor” procedures for making distributions to participants who do not affirmatively request distributions. (See ERISA Regulation Section 2550.404a-3.) These regulations specify the content and manner for providing notice to missing participants, as well as various options for distributing an unresponsive participant’s account balance. Distribution options include transferring the participant’s account balance to:
- an interest bearing bank account;
- an individual retirement account (“IRA”) in the participant’s name; or
- the unclaimed property fund of the state in which the participant was last known to reside.
FAB 2014-01. FAB 2014-01, which supersedes FAB 2004-02, reflects certain changes that have occurred over the last decade, including the expansion of internet search tools and the discontinuance of the IRS and SSA letter forwarding programs. Similar to the prior guidance, FAB 2014-01 requires plan fiduciaries to take certain steps to locate missing participants in a terminated defined contribution plan and outlines certain additional steps that, in the DOL’s opinion, plan fiduciaries must consider to fully discharge their duties under ERISA.
ERISA 404(a) requires plan fiduciaries to act prudently and solely in the interest of plan participants and beneficiaries. While DOL views the decision to terminate a retirement plan as a “settlor” function not regulated by ERISA, it maintains that steps taken to implement this decision are fiduciary activities, including steps taken to locate missing participants and distribute unresponsive participants’ account balances. Thus, FAB 2014-01 notes that in accordance with their duties of prudence and loyalty, plan fiduciaries must take reasonable steps to locate missing participants.
Required Search Steps. Where plan fiduciaries are unable to locate participants through routine delivery methods, such as first class mail or electronic notice (i.e., e-mail), FAB 2014-01 indicates that plan fiduciaries must take the following steps (before concluding their search efforts for the missing participants):
- Send notices by certified mail;
- Review related plan and employer records;
- Contact the participant’s designated beneficiary; and
- Use free electronic search tools (e.g., internet searches, public records databases, etc.).
DOL considers the failure to take these steps as a breach of fiduciary duty.
Additional Search Steps. If all four required search methods are unsuccessful, plan fiduciaries must determine whether additional steps are appropriate. In making this determination, plan fiduciaries must consider the size of a participant’s account balance and the cost of further search efforts. Additional steps include fee-based Internet search tools, commercial locator services, credit reporting agencies, information brokers, and investigation databases and similar services that may include charges.
NOTE: DOL maintains the position that plan fiduciaries may charge missing participants’ accounts for search-related costs, provided the charges are reasonable.
Distributing an Unresponsive Participant’s Account. Where a missing participant remains unresponsive, a plan fiduciary must determine the appropriate method for distributing that participant’s account balance. FAB 2014-01 establishes a range of options for distributing benefits to unresponsive participants after a plan fiduciary has exhausted the search efforts described above. Specifically, FAB 2014-01 identifies a preferred method and two alternative methods for consideration if the preferred approach is not viable.
NOTE: These methods are the same as those provided under the DOL’s 2006 safe-harbor regulation.
The preferred method for distributing a missing participant’s account is to roll over the benefit to an IRA established in the participant’s name. DOL prefers this method because it avoids immediate taxation of the benefit and it is the option most likely to preserve the benefit.
NOTE: Because the selection of an IRA provider and the manner in which the benefit will be invested in the IRA are fiduciary actions, plan fiduciaries are advised to rely on the DOL’s 2006 safe-harbor regulations when effectuating rollovers missing participants’ accounts to IRAs.
Alternative methods for distributing a missing participant’s account include:
- transferring the benefit to an interest-bearing account (in the name of the missing participant) in a federally insured bank; or
- transferring the benefit to a state unclaimed property fund.
When deciding between these two options, the plan fiduciary must consider the attendant facts and circumstances, including bank charges, interest rates, and the process for searching the state’s unclaimed property fund. Before deciding to take either of these steps, however, the plan fiduciary must first conclude that using these methods is appropriate despite the adverse tax consequences to participants as opposed to the tax-free rollover to an IRA.
FAB 2014-01 clarifies that 100% income tax withholding is not an acceptable method for distributing a missing participant’s account balance. In the past, plan fiduciaries have withheld 100% of a missing participant’s distribution, thereby essentially turning the benefit over to the IRS. The DOL has confirmed that this method is objectionable because it does not necessarily result in an offset to the participant’s income taxes and can deprive a participant of his or her benefit.
Action Steps for Plan Fiduciaries. Plan fiduciaries should review their plan procedures for missing participants and amend them, if needed, to conform to FAB 2014-01’s guidance. In addition, plan administrators should be sure to thoroughly document all steps taken to locate and make distributions on behalf of missing participants.
While FAB 2014-01 specifically applies to locating missing participants in connection with a defined contribution plan termination, it may provide useful guidance in other similar circumstances involving missing participants, such as un-cashed checks and required minimum distributions.
Florida Legislature Considers Exempting Participant Loans from State’s Stamp Tax
Members of the Florida legislature recently proposed a change to the state’s stamp tax law that would specifically exclude its application to participant loans from ERISA-covered retirement plans (“participant loans”). This proposal, and the exploration of its revenue impact, suggests that the Florida legislature is aware of the confusion for retirement plans created by the state’s stamp tax.
Background. Florida state law establishes a “stamp tax” on loans that are made, executed or delivered in Florida. (See Chapter 201.08(1) of the Florida Statutes.) The applicable tax rate on loans is $.35 for each $100 borrowed, or $175.00 on a $50,000 loan. The Florida Department of Revenue (“DOR”) has previously confirmed that the stamp tax applies to participant loans. (See Tax Information Publication # 00B04-06.) The Florida stamp tax statute specifically provides that in the event any party to a covered transaction is exempt from paying the stamp tax, the tax must be paid by the nonexempt party.
Financial Impact of Exemption. At a Revenue Estimating Conference that took place on February 20, 2014, the Florida legislature reviewed the financial impact of the proposed exemption. It was estimated that this exemption would result in a first-year loss in revenue to the state of approximately $6,200,000.00.
NOTE: This estimate was not based on any historical data of actual collections of stamp tax revenue attributable to retirement plan loans. Rather, the estimate was based on national averages of plan assets and outstanding retirement plan loans.
Enforcement of the Stamp Tax. The Florida DOR does not have a viable means of enforcing the law as applied to participant loans. Documents associated with participant loans are not public record. Moreover, because there is no state individual income tax in Florida, there is no related disclosure on a state income tax form of receipt of a participant loan or the default of a participant loan. Absent the Florida DOR’s unprecedented audit of a retirement plan, it is unlikely that the existence of a participant loan would be discovered.
Consequences of Noncompliance with Stamp Tax. Among the consequences of the failure to comply with Florida’s stamp tax is that the loan is unenforceable in Florida state courts. Therefore, the failure to pay the stamp tax on a participant loan may result in a prohibited transaction and/or tax qualification failure, as well as a deemed distribution due to the potential inability of the plan to enforce its rights in court in the event of a default, in violation of the enforceable agreement requirement articulated in applicable IRS regulations. (See Treas. Reg. Section 1.72(p)-1.)
Because a participant loan is generally limited to 50% of a participant’s plan account balance and secured by the participant’s remaining account balance, which may be foreclosed upon on default and after the participant’s severance from employment, without court intervention, it would seem a participant loan is adequately enforceable regardless of whether court intervention is precluded due to failure to pay the Florida stamp tax. In any event, plan sponsors are extremely unlikely to pursue relief for a plan loan default in court.
ERISA Preemption. Various opinions exist as to whether ERISA preempts the Florida stamp tax statute with respect to participant loans. Since this issue has yet to be litigated, there is no clear guidance.
Courts have previously held that ERISA preempts a state law that specifically and exclusively targets ERISA-covered plans. However, courts have been hesitant to find that ERISA preempts state laws more general in nature. In fact, state laws of general applicability with only a tangential impact on ERISA plans (and even state laws specifically, but not exclusively, related to ERISA plans) have commonly been found to not be preempted by ERISA. A recent example of this would be a California law that established an unrelated business income tax that was determined by the Second Circuit Court of Appeals to not be subject to preemption by ERISA despite its application to ERISA-covered retirement plan trusts. (See Hattem v. Schwarzenegger, 2d Cir., No. 05-3926-cv, 5/23/06.)
Courts have articulated that the purpose behind ERISA’s preemption clause is to “enable employers to establish a uniform administrative scheme, which provides a set of standard procedures to guide processing of claims and disbursement of benefits.” Thus, it may be reasonable to conclude that because the stamp tax may apply in a non-uniform manner to some plans (as the tax would apply to some borrowing participants (i.e., Florida residents) but not others (i.e., non-Florida residents)), that it should be preempted by ERISA. It can be argued that while ERISA preemption might prevent assessment of the stamp tax on the plan, the plan sponsor or plan administrator, it does not prevent its assessment on the borrowing participant.
Conclusion. It is reasonable to conclude that, based on the general applicability of the Florida stamp tax statute and recent jurisprudence related to ERISA preemption, participant loans from ERISA-covered retirement plans are subject to the Florida stamp tax. If you think this tax applies to your plan or a participant in your plan, please contact us for assistance.
2015 Cost of Living Adjustments
|Maximum annual payout from a defined benefit plan at or after age 62 (plan year ending in stated calendar year)||$210,000*||$210,000*|
|Maximum annual contribution to an individual’s defined contribution account (plan year ending in stated calendar year)||$52,000**||$53,000**|
|Maximum Section 401(k), 403(b) and 457(b) elective deferrals (under Code Section 402(g))||$17,500***||$18,000***|
|Section 414(v)(2)(B)(i) catch-up limit for individuals aged 50 and older||$5,500***||$6,000***|
|Maximum amount of annual compensation that can be taken into account for determining benefits or contributions under a qualified plan (plan year beginning in stated calendar year)||$260,000||$265,000|
|Test to identify highly compensated employees, based on compensation in preceding year (plan year beginning in stated year determines “highly compensated” status for next plan year)||$115,000||$120,000|
|Wage Base For Social Security Tax||$117,000||$118,500|
|Wage Base For Medicare||No Limit||No Limit|
|Amount of compensation to be a “key” employee||$170,000||$170,000|