The sponsor of a tax-qualified retirement plan and the plan's fiduciaries
have a number of obligations once a plan is established. Many of these
obligations relate to the day-to-day operation of a plan. However, plan
document maintenance issues are sometimes overlooked.
This newsletter will summarize some of these issues and describe the
consequences of not timely amending plan documents. It will also summarize
the new IRS determination letter process.
Written Plan Document Requirement
Tax-qualified retirement plans are governed by the Employee Retirement
Income Security Act of 1974 (“ERISA”). All ERISA-governed plans must be
documented in a written plan document.
The IRS has the primary responsibility for the review of the terms and
conditions of a tax-qualified plan. The IRS reviews the plan document when a
determination letter is requested or during a plan audit.
Plan documents can take various forms including individually designed,
volume submitter and prototype plans which are described below.
Individually Designed Plans
This type of plan document is custom designed to meet the employer's
specific needs. The employer has the greatest variety of available options
with this type of plan.
Volume Submitter Plans
Volume submitter plans generally look like individually designed plans,
but the IRS has pre-approved much of the document language since it is
expected they will see a large volume of these plans utilizing the document
options.
Prototype Plans
Prototype plans are pre-approved by the IRS and come with two types of
adoption agreements: standardized and non-standardized. Standardized
adoption agreements have very limited choices which prevent the plan sponsor
from designing a plan that will not satisfy discrimination tests.
Non-standardized plans offer additional flexibility to exclude certain
forms of compensation for allocation purposes or exclude certain employees
from the plan or contribution eligibility.
Plan provisions usually take the form of a fill-in-the-blank adoption
agreement. The selection of available options varies by sponsor of the
prototype document. These documents are generally sponsored by companies
such as retirement consulting firms, brokerage firms, banks, insurance
companies and mutual funds.
Determination Letter Applications
A first way that the IRS may wind up reviewing a plan document is when a
determination letter application is submitted. A plan is voluntarily
submitted to the IRS for a determination that its terms and conditions
satisfy all applicable IRS tax-qualification requirements.
Plan sponsors are not required to submit pension, 401(k), money purchase
or other tax-qualified plans for IRS approval. If, however, a plan sponsor
does not submit a plan and the IRS later determines that the plan does not
satisfy a legal requirement, the plan may be “disqualified” with negative
tax consequences for the plan's participants.
When a determination letter request is submitted, the IRS reviews the
submitted plan against a checklist of legally-required provisions derived
from the Internal Revenue Code and related regulations. If the IRS concludes
that the plan satisfies these requirements, the plan will be issued a
favorable determination letter.
If the IRS concludes that the plan does not satisfy these requirements or
has questions about plan terms and when they were adopted, it will contact
the person submitting the determination letter request for more information.
The Internal Revenue Code and related IRS guidance allows a plan sponsor
to adopt retroactive plan amendments in certain limited circumstances. If a
retroactive amendment is not permitted, the IRS may refer a determination
letter application to its employee plans correction program which will
trigger additional IRS fees.
Recent IRS Update of Determination Letter Process
The IRS recently issued guidance (Revenue Procedure 2005-66) updating the
rules governing the determination letter process.
Although a plan sponsor may submit a determination letter application at
any time, the IRS has historically been faced with periodic waves of
determination letter applications. These waves have generally occurred at
the end of an applicable “remedial amendment period.” A remedial amendment
period is a period of time during which a plan sponsor may amend a plan
retroactively to comply with changes in applicable law.
The result of these waves was that the IRS often found itself needing to
adjust its staff (including using audit staff) to review determination
letter applications. The new determination letter application process
attempts to smooth these waves.
Impact on Volume Submitter and Prototype Plans
The IRS has historically required that pre-approved plan documents, such
as volume submitter and prototype plans, be amended from time-to-time to
comply with applicable legal changes. If a pre-approved plan satisfies
applicable IRS requirements, an opinion letter is issued to the sponsor of a
pre-approved plan. Many individual plan sponsors rely on this opinion letter
rather than submitting a request for their own determination letter.
Under the new determination letter process, pre-approved plans must be
submitted once every six years for a new opinion letter. The timing of this
six-year cycle depends on the type of plan involved--the cycle will differ
for defined contribution and defined benefit plans.
When the review of a cycle of pre-approved plans (which is anticipated to
last two years) has neared completion, the IRS will publish an announcement
stating a uniform date by which all employers using a pre-approved plan must
adopt the newly approved plans. It is expected that this date will give
virtually all plan sponsors adopting a pre-approved plan a two-year window
in which to adopt the updated plan and, if necessary, submit the plan for
its own determination letter.
Impact on Individually Designed Plans
Under the new determination letter process, individually designed plans
have a five-year remedial amendment period that, in most cases, is based on
the last digit of a plan sponsor's federal employer identification number.
A plan sponsor may apply for an updated determination letter during the
last twelve months of its five-year filing cycle. In general, a plan sponsor
may submit either a restatement or a working copy that incorporates all
amendments. The sponsor's favorable determination letter will include an
expiration date, so the sponsor will need to refile if it wants to preserve
reliance.
Interim Amendments
Changes to a plan document, either due to Internal Revenue Code
tax-qualification requirements or because of a discretionary plan design
change, must be reflected in a timely adopted good-faith “interim”
amendment. An interim amendment addressing a disqualifying plan provision
will be treated as timely adopted if the plan amendment is adopted by the
due date (including extensions) of the employer's tax return for the year in
which the change is first effective. However, any discretionary change must
be adopted by the end of the plan year in which the plan amendment is
effective (unless earlier adoption is necessary to prevent a cutback under
applicable IRS guidance).
Plans must always be operated in compliance with a new or changed
tax-qualification requirement as of its effective date regardless of when an
amendment is adopted.
Plan Audits
A second way that the IRS may wind up reviewing a plan document is when
the IRS conducts an audit of a plan. The IRS, as part of its enforcement
activities, may request the plan document and other information about the
plan.
Although these activities have been relatively infrequent in recent
years, the IRS has recently begun renewed enforcement activities. As part of
its renewed efforts, the IRS is working to streamline the audit process to
avoid “open ended” audits that consume significant amounts of time. Instead,
many IRS auditors are likely to initially focus on a few core areas of
concern when conducting an audit.
Of course certain audits, such as the IRS's new Employee Plans Team Audit
program for large employers, may be far more comprehensive.
Timely plan amendments are key to avoiding problems when a plan is
audited. Although the IRS may also focus on operational activities, a clear
plan document helps to streamline the audit process. Plan sponsors who fail
to timely adopt plan amendments to comply with law changes may utilize the
IRS's Voluntary Correction Program (“VCP”), as long as the plan is not under
examination by the IRS. Reduced filing fees apply if the VCP filing is
within one year of the missed deadline.
If the IRS finds that a plan has not been timely amended during an audit,
a plan and plan sponsor may be subject to significant IRS closing agreement
fees and, in the worst case, a plan may lose its tax-qualified status.
Summary Plan Description and Summary of Material Modification
A summary plan description (“SPD”) generally describes the material terms
of a plan, including all contribution rules, distribution rules, fees and
other participant rights under the plan in a manner designed to be
understood by an average plan participant.
An updated summary plan description must be provided once every ten years
if there have been no plan amendments and every five years if plan
amendments have been adopted. A plan administrator must provide a summary
plan description to a participant or beneficiary within 90 days of becoming
a participant or becoming eligible to receive benefits from a plan. Also,
unless a new SPD is provided each time an amendment is adopted, a plan
administrator must provide a summary of the amendment in a summary of
material modifications to participants and beneficiaries within 210 days
after the close of a plan year in which an amendment is adopted.
Conclusion
There are a number of ongoing plan document maintenance activities that
are easily overlooked by plan sponsors and fiduciaries. Pre-approved and
individually designed plan sponsors should keep in mind the need to timely
amend their plan for discretionary and Internal Revenue Code-mandated
changes and be aware of the new remedial amendment periods.
Complying with IRS requirements involve a commitment of time and effort.
However, taking steps to comply with these requirements now can help to
prevent the need for more time consuming and costly efforts to achieve
after-the-fact compliance at a later date.
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