Month: September 2005

Won’t let me correct the typos in the last post! But it will let me download a new post to tell you about it. Go figure!

(By the way, I did receive emails from readers saying that they much preferred the term “top-heaving contributions” to “top-heavy contributions”, a typo I was unable to correct in the previous post for awhile due to the software problem.:-)

Last week at the Mid-Atlantic Pension Liaison Meeting in Philadelphia, Lou Leslie, Tax Law Specialist with the IRS, gave a preview of some of the new guidance coming out soon pertaining to EPCRS (the Employee Plans Compliance Resolution System). He gave the following list of Top Ten Failures in VCP:

1. Failure to properly amend the plan within the remedial amendment period for legislation that was enacted
2. Failure to follow the plan’s definition of compensation for determining contributions
3. Failure to include all eligible employees in the plan
4. Failure to satisfy the loan provisions of the plan
5. Violation of the in-service distribution requirements
6. Violations of Code section 401(a)(9) pertaining to required minimum distributions
7. An employer eligibility failure, i.e. improper entity adopting a type of retirement plan
8. Failure to comply with ADP/ACP testing (sometimes due to a failure to follow the proper definition of compensation)
9. Failure to make a top-heavy minimum contribution
10. Code section 415 violations

Don’t miss this article from Littler, Mendelson on a recent 10th Circuit case which could prove very problematic for employers: “I Don’t Know Why They Picked Me: 10th Circuit Broadens Requirements For Waiving Age Discrimination Claims.” The case is Kruchowski v. Weyerhaeuser, No. 04-7118 (September 13, 2005).

What follows is a more detailed summary of KETRA’s provisions pertaining to retirement plans, as taken from the JCT’s Technical Explanation of H.R. 3768, The “Katrina Emergency Tax Relief Act of 2005” as passed by the House and the Senate on September 21, 2005. If you want to compare the summary with the text of the legislation, you can access the text of the legislation here (from the Ways and Means Committee web page devoted to KETRA).

1. Tax-Favored Withdrawals from Retirement Plans for Relief Relating to Hurricane Katrina (sec. 101 of the bill):

The provision provides an exception to the 10-percent early withdrawal tax in the case of a qualified Hurricane Katrina distribution from a qualified retirement plan, a 403(b) annuity, or an IRA. In addition, as discussed more fully below, income attributable to a qualified Hurricane Katrina distribution may be included in income ratably over three years, and the amount of a qualified Hurricane Katrina distribution may be recontributed to an eligible retirement plan within three years.

A qualified Hurricane Katrina distribution is a distribution from an eligible retirement plan made on or after August 25, 2005, and before January 1, 2007, to an individual whose principal place of abode on August 28, 2005, is located in the Hurricane Katrina disaster area and who has sustained an economic loss by reason of Hurricane Katrina. The total amount of qualified Hurricane Katrina distributions that an individual can receive from all plans, annuities, or IRAs is $100,000. Thus, any distributions in excess of $100,000 during the applicable period are not qualified Hurricane Katrina distributions.

Any amount required to be included in income as a result of a qualified Hurricane Katrina distribution is included in income ratably over the three-year period beginning with the year of distribution unless the individual elects not to have ratable inclusion apply. Certain rules apply for purposes of the ratable inclusion provision. For example, the amount required to be included in income for any taxable year in the three-year period cannot exceed the total amount to be included in income with respect to the qualified Hurricane Katrina distribution, reduced by amounts included in income for preceding years in the period.

Under the provision, any portion of a qualified Hurricane Katrina distribution may, at any time during the three-year period beginning the day after the date on which the distribution was received, be recontributed to an eligible retirement plan to which a rollover can be made. Any amount recontributed within the three-year period is treated as a rollover and thus is not includible in income. For example, if an individual receives a qualified Hurricane Katrina distribution in 2005, that amount is included in income, generally ratably over the year of the distribution and the following two years, but is not subject to the 10-percent early withdrawal tax. If, in 2007, the amount of the qualified Hurricane Katrina distribution is recontributed to an eligible retirement plan, the individual may file an amended return (or returns) to claim a refund of the tax attributable to the amount previously included in income. In addition, if, under the ratable inclusion provision, a portion of the distribution has not yet been included in income at the time of the contribution, the remaining amount is not includible in income.

A qualified Hurricane Katrina distribution is a permissible distribution from a 401(k) plan, 403(b) annuity, or governmental 457 plan, regardless of whether a distribution would otherwise be permissible. A plan is not treated as violating any Code requirement merely because it treats a distribution as a qualified Hurricane Katrina distribution, provided that the aggregate amount of such distributions from plans maintained by the employer and members of the employer’s controlled group does not exceed $100,000. Thus, a plan is not treated as violating any Code requirement merely because an individual might receive total distributions in excess of $100,000, taking into account distributions from plans of other employers or IRAs.

Under the provision, qualified Hurricane Katrina distributions are subject to the income tax withholding rules applicable to distributions other than eligible rollover distributions. Thus, 20-percent mandatory withholding does not apply.

2. Recontributions of Withdrawals for Home Purchases Cancelled Due to Hurricane Katrina (sec. 102 of the bill):

In general, under the provision, a distribution received from a 401(k) plan, 403(b) annuity, or IRA in order to purchase a home in the Hurricane Katrina disaster area may be recontributed to such a plan, annuity, or IRA in certain circumstances.

The provision applies to an individual who receives a qualified distribution. A qualified distribution is a hardship distribution from a 401(k) plan or 403(b) annuity, or a qualified firsttime homebuyer distribution from an IRA: (1) that is received after February 28, 2005, and before August 29, 2005; and (2) that was to be used to purchase or construct a principal residence in the Hurricane Katrina disaster area, but the residence is not purchased or constructed on account of Hurricane Katrina.

Under the provision, any portion of a qualified distribution may, during the period beginning on August 25, 2005, and ending on February 28, 2006, be recontributed to a plan, annuity or IRA to which a rollover is permitted. Any amount recontributed is treated as a rollover. Thus, that portion of the qualified distribution is not includible in income (and also is not subject to the 10-percent early withdrawal tax).

3. Loans from Qualified Plans for Relief Relating to Hurricane Katrina (sec. 103 of the bill):

The provision provides special rules in the case of a loan from a qualified employer plan to a qualified individual made after the date of enactment and before January 1, 2007. A qualified individual is an individual whose principal place of abode on August 28, 2005, is located in the Hurricane Katrina disaster area and who has sustained an economic loss by reason of Hurricane Katrina.

Under the provision, the exception to the general rule of income inclusion is provided to the extent that the loan (when added to the outstanding balance of all other loans to the participant from all plans maintained by the employer) does not exceed the lesser of (1) $100,000 reduced by the excess of the highest outstanding balance of loans from such plans during the one-year period ending on the day before the date the loan is made over the outstanding balance of loans from the plan on the date the loan is made or (2) the greater of $10,000 or the participant’s accrued benefit under the plan.

Under the provision, in the case of a qualified individual with an outstanding loan on or after August 25, 2005, from a qualified employer plan, if the due date for any repayment with respect to such loan occurs during the period beginning on August 25, 2005, and ending on December 31, 2006, such due date is delayed for one year. Any subsequent repayments with respect to such loan shall be appropriately adjusted to reflect the delay in the due date and any interest accruing during such delay. The period during which required repayment is delayed is disregarded in complying with the requirements that the loan be repaid within five years and that level amortization payments be made.

4. Provisions Relating to Plan Amendments in Connection with Hurricane Katrina (sec. 104 of the bill):

The provision permits certain plan amendments made pursuant to the changes made by the provisions of Title I of the bill, or regulations issued thereunder, to be retroactively effective. If the plan amendment meets the requirements of the provision, then the plan will be treated as being operated in accordance with its terms. In order for this treatment to apply, the plan amendment is required to be made on or before the last day of the first plan year beginning on or after January 1, 2007, or such later date as provided by the Secretary of the Treasury. Governmental plans are given an additional two years in which to make required plan amendments. If the amendment is required to be made to retain qualified status as a result of the changes made by Title I of the bill (or regulations), the amendment is required to be made retroactively effective as of the date on which the change became effective with respect to the plan, and the plan is required to be operated in compliance until the amendment is made. Amendments that are not required to retain qualified status but that are made pursuant to the changes made by Title I of the bill (or regulations) may be made retroactively effective as of the first day the plan is operated in accordance with the amendment. A plan amendment will not be considered to be pursuant to changes made by Title I of the bill (or regulations) if it has an effective date before the effective date of the provision under the bill (or regulations) to which it relates.

CCH has published a good summary of KETRA’s provisions as well as IRS Katrina relief provided here.

RIA is reporting:

Late on Tuesday, September 20, House and Senate negotiators reached agreement on H.R. 3768, the “Katrina Emergency Tax Relief Act of 2005” (KETRA). On Wednesday, September 21, the House approved the measure by a unanimous vote, and late in the evening of Wednesday, September 21, the Senate passed it by unanimous consent. The President is expected to sign the measure into law.

Summary of Employment and Benefits-Related Provisions Taken from the Committee on Ways and Means Summary of the House-Senate Agreement:

Waives 10-percent tax on early distributions from IRAs and pensions for individuals affected by the hurricane. In general, distributions from IRAs and pensions are subject to a 10-percent penalty if they are made before a certain age. The penalty is intended to discourage individuals from withdrawing funds that are needed for retirement. To ease the financial burden faced by many families in the disaster area, the proposal allows eligible individuals to withdraw a maximum of $100,000 from their IRAs and pensions without paying the 10-percent penalty. Individuals eligible for the waiver may pay income tax on the distribution over three years. Income tax is not due if the distribution is repaid to the account within three years. The proposal also increases the limit on loans from pension plans from $50,000 to $100,000.

Provides an Employee Retention Tax Credit. Small employers located in a disaster area that is eligible for individual and public assistance under the Stafford Act may claim a tax credit through the end of the 2005 calendar year if they retain an eligible employee on their payroll. The tax credit equals 40 percent of the first $6,000 of wages paid to the employee between August 28, 2005 and January 1, 2006. The credit is available to small employers (i.e., an average of 200 or fewer employees in the taxable year) whose business is inoperable as a result of damage sustained by Hurricane Katrina. The credit is not affected if the employee reports to work at another location while the business is inoperable.

Extends deadlines for paying excise and employment taxes. The IRS has taken administrative action to extend the deadlines for filing tax returns and making tax payments until January 3, 2006. These extensions apply to income, estate and gift taxes for those affected by Hurricane Katrina. The proposal extends the deadline until February 28, 2006. The proposal also applies this extension to excise taxes and employment taxes, in addition to income, estate and gift taxes.

Comment: The text of the legislation provides that Section 72(t) of the Code shall not apply to any “qualified Hurricane Katrina distribution” not exceeding $100,000. A ‘‘qualified Hurricane Katrina distribution’’ is defined as “any distribution from an eligible retirement plan made on or after August 25, 2005, and before January 1, 2007, to an individual whose principal place of abode on August 28, 2005, is located in the Hurricane Katrina disaster area and who has sustained an economic loss by reason of Hurricane Katrina.” “Eligible retirement plan” is defined in section 402(c)(8)(B) of the Code (which includes qualified plans, IRAs, 403(b)’s, and 457 plans).

You can access the text of the legislation here: Legislative Text of House-Senate Agreement on H.R. 3768 (September 21, 2005).

Treasury Secretary Snow’s Remarks From a Press Release issued this afternoon:

I commend Senate and House negotiators for reaching bipartisan agreement on the Hurricane Katrina emergency tax relief bill. I am pleased that the House acted to pass the bill this afternoon and look forward to quick Senate action. This aid comes at exactly the right time to help victims of Hurricane Katrina as they rebuild their lives. Hurricane Katrina was a devastating blow to our Gulf Coast and this aid package will be an important part of the recovery effort.

The IRS also issued this News Release: IRS Updates Hurricane Katrina Tax Relief Guidelines for Taxpayers in Four States, Relief Workers and Others Impacted. Excerpt:

With recovery efforts well underway from Hurricane Katrina, the Internal Revenue Service announced today additional details to help ensure that those impacted by the storm get the tax relief to which they are entitled. Notice 2005-73, also released today, has full details regarding the relief.

Taxpayers affected by the hurricane may be eligible for tax relief, regardless of where they live. Deadlines for affected taxpayers to file any returns, pay any taxes and perform other time-sensitive acts have been postponed to Jan. 3, 2006.

In the hardest-hit areas — those designated by FEMA as “individual assistance areas” — the tax relief will be automatic, and taxpayers won’t need to do anything to get the extensions and other relief available. In areas where FEMA has determined damage is more isolated — designated as “public assistance areas” — or for other taxpayers outside the impacted area, people will need to identify themselves as hurricane victims when filing with the IRS.

In conjunction with the News Release, the IRS issued Notice 2005-73 which summarizes and clarifies the relief previously granted by the Internal Revenue Service under sections 6081, 6161, 6656, and 7508A of the Code with respect to taxpayers affected by Hurricane Katrina. The Release also mentions Rev. Proc. 2005-27 which contains a list of 32 employee benefit issues (pg. 1058 of the Bulletin) that are automatically impacted whenever there is a Presidentially declared disaster. (Important to know if Hurricane Rita continues along the path that has been predicted.)

Statement of Assistant Secretary Ann L. Combs:

The Department, in conjunction with IRS Announcement 2005-70, provided guidance to facilitate hardship and loan distributions to participants and beneficiaries affected by Hurricane Katrina. In addition to the distribution issues addressed in the IRS Announcement, the Employee Benefits Security Administration has received inquiries concerning the application of rules governing participant contributions and loan repayments and the furnishing of blackout notices to employers and plans in areas affected by the Hurricane.

EBSA realizes that, due to this natural disaster, there may be instances when full compliance may not be possible. The guiding principle must be to ensure that appropriate efforts are made to act reasonably, prudently and in the interest of the workers and their families, who rely on their health, pension and other benefits for their physical and economic well-being.

The guidance provided in this statement applies to employers, plan sponsors, as well as service providers to such employers, and plans located in counties and parishes in Louisiana, Mississippi, or Alabama that have been or are later designated as disaster areas eligible for Individual Assistance by the Federal Emergency Management Agency because of the devastation caused by Hurricane Katrina.

EBSA 9/20 News Release, U.S. Labor Department Extends Time and Areas Covered by Reporting Relief for Areas Hit by Hurricane Katrina:

The U.S. Department of Labor’s Employee Benefits Security Administration (EBSA) today announced additional time has been granted to Jan. 3, 2006, for filing deadline of Form 5500 and Form 5500 EZ annual report/returns for employee benefit plans affected by Hurricane Katrina.

EBSA 9/19 News Release, U. S. Labor Department Helps Hurricane Katrina Victims Preserve Health Benefits with Fact Sheet:

The U.S. Department of Labor’s Employee Benefits Security Administration (EBSA), in conjunction with the Internal Revenue Service, announced an extension of a number of deadlines related to health plan coverage, giving workers and employers affected by Hurricane Katrina additional time to make critical decisions regarding health coverage.

“We want to make sure that hurricane survivors don’t lose health coverage or other important benefits because they were unable to meet the normal deadlines,” said Secretary of Labor Elaine L. Chao. “This is part of the President’s promise to cut through red tape to help Hurricane Katrina survivors and their families resume their lives.”

The relief provides additional time to comply with certain deadlines contained in the Consolidated Omnibus Budget Reconciliation Act (COBRA), the Health Insurance Portability and Accountability Act (HIPAA) and the rules for processing of health claims.

From the Tax Prof Blog here: 1040-LOST: 30,000 Tax Payments Floating in Pacific Ocean. Professor Maule offers information here on what to do if you are located in one of the states from which the payments came, i.e. Alaska, California, Hawaii, Idaho, Montana, Nevada, Oregon, Utah, Virginia, Washington, and Wyoming.

More from the Tax Guru here.

The Tax Prof Blog has compiled a very useful list of links here relating to recent Katrina Tax Relief legislation, which includes the following:

• Senate Passes S.1696, Hurricane Katrina Tax Relief Act of 2005 (9/15)
• House Passes H.R. 3786, Hurricane Katrina Emergency Tax Relief Act of 2005 (9/15)
• Summary of H.R. 3786, Hurricane Katrina Emergency Tax Relief Act of 2005 (9/15)
• Joint Committee on Taxation, Technical Explanation of H.R. 3786, The "Katrina Emergency Tax Relief Act Of 2005" (JCX-64-05) (9/15)
• Joint Committee on Taxation, Estimated Revenue Effects of H.R. 3786, The "Katrina Emergency Tax Relief Act Of 2005" (JCX-65-05) (9/15)
• Remarks of Senator Chuck Grassley of Iowa Chairman of the Committee on Finance News Conference regarding Emergency Tax Relief for Hurricane Katrina Victims (9/12)
• Statement of U.S. Senator Max Baucus on Hurricane Katrina Relief Package (9/12)
• Summary of Grassley-Baucus Tax Relief Package for Individuals Affected by Hurricane Katrina (9/12)
• Baucus Outlines Hurricane Katrina Relief Package (9/7)