As part of the Economic Growth and Tax Relief Reconciliation Act of 2001 ("EGTRRA"), Congress enacted a provision requiring a plan to roll over the accounts of participants that exceed $1,000 (but do not exceed $5,000) and are distributable, if the participant does not elect to roll over the account directly or to receive the distribution. This EGTRRA provision, however, was not effective until the DOL issued guidance, and EGTRRA required the DOL to issue this guidance by June 7, 2004, which it did in the form of proposed regulations discussed here. The DOL has announced that it has finalized those regulations (access them here) providing guidance and establishing a safe harbor pursuant to which a fiduciary of a pension plan subject to Title I of ERISA will be deemed to have satisfied his or her fiduciary responsibilities in connection with the provisions. Also, the DOL has issued a final class exemption permitting a fiduciary of a plan, who is also the employer maintaining the plan, to establish, on behalf of its separated employees, an individual retirement plan at a financial institution which is the employer or an affiliate. The effective date of the final regulations is March 28, 2005.
There are a number of interesting differences between the proposed and the final regulations, the most notable of which is the fact that the DOL has extended the safe harbor to rollovers of mandatory distributions of $1,000 or less. The DOL states in the final regulations that it "believes that the availability of the safe harbor for such distributions may increase the likelihood that such amounts will be rolled over to individual retirement plans and thereby may promote the preservation of retirement assets, without compromising the interests of the participants on whose behalf such rollovers are made."
Another major change to these final regulations has to do with the fees and expenses that can be assessed against an individual retirement plan. The DOL explains that "[m]ost commenters objected to the provision limiting fees and expenses to income earned by the individual retirement plan" and argued "that the income to be generated by the investments permitted by the safe harbor against which expenses may be assessed would be very limited, while the costs attendant to maintaining such individual retirement plans would tend to be higher than individual retirement plans with respect to which the account holder contributes and maintains contact with the institution." Commenters argued that this problem would limit the number of individual retirement plan providers that would be willing to accept rollover distributions in accordance with the safe harbor regulation.
Accordingly, the DOL has provided in the final regulations that "[a]ll fees and expenses attendant to an individual retirement plan, including investments of such plan, (e.g., establishment charges, maintenance fees, investment expenses, termination costs and surrender charges) shall not exceed the fees and expenses charged by the individual retirement plan provider for comparable individual retirement plans established for reasons other than the receipt of a rollover distribution subject to the provisions of section 401(a)(31)(B) of the Code." The DOL states that the "comparability standard" is sufficient to protect individual retirement plans from being assessed unreasonable fees. (Interesting assumption here in light of recent controversies over unreasonable 401(k) fees and expenses. )
Regarding the effective date provisions, the DOL provides that:
(1) The final regulation shall apply to the rollover of mandatory distributions made on or after March 28, 2005.
(2) The EGTRRA automatic rollover provisions will be effective March 28, 2005. The DOL states: "Section 657(c)(2)(A) of EGTRRA provides that the requirements of section 401(a)(31)(B) of the Code requiring automatic rollovers of mandatory distributions to individual retirement plans do not become effective until the Department prescribes a final regulation. Inasmuch as it appears clear that Congress did not intend fiduciaries to be subject to the automatic rollover requirements under the Code in the absence of a safe harbor, the Department as well as Treasury and IRS believe that the effective date of the Code's rollover requirement must be determined by reference to the effective date of this regulation, which is the point in time when plan fiduciaries may first avail themselves of the relief provided by the safe harbor."
(3) Prior to the March 28, 2005 effective date, fiduciaries may rely in good faith on the regulation for purposes of satisfying their fiduciary responsibilities under section 404(a) of ERISA with regard to the selection of an institution to receive a rollover of a mandatory distribution and the initial investment choice for the rolled-over funds made before the effective date of this regulation. However, the class exemption is not available prior to the effective date for purposes of the prohibited transactionr relief afforded by the exemption.
As part of the Economic Growth and Tax Relief Reconciliation Act of 2001 ("EGTRRA"), Congress enacted a provision requiring a plan to roll over the accounts of participants that exceed $1,000 (but do not exceed $5,000) and are distributable, if the participant does not elect to roll over the account directly or to receive the distribution. This EGTRRA provision, however, was not effective until the DOL issued guidance, and EGTRRA required the DOL to issue this guidance by June 7, 2004. In accordance with its directive, the DOL has issued proposed regulations providing this guidance and establishing a safe harbor pursuant to which a fiduciary of a pension plan subject to Title I of ERISA will be deemed to have satisfied his or her fiduciary responsibilities in connection with the provisions. Also, the DOL has issued a notice of proposed class exemption permitting a fiduciary of a plan, who is also the employer maintaining the plan, to establish, on behalf of its separated employees, an individual retirement plan at a financial institution which is the employer or an affiliate.
While there will be more on this later, a few observations are as follows:
(1) On January 7, 2003, the DOL published a notice requesting information on a variety of issues relating to the development of this safe harbor. In response, the DOL received 17 comment letters which you can access here.
(2) With respect to requirements of the USA Patriot Act ("Act"), commenters had pointed out that the customer identification and verification provisions ("CIP") of the Act might preclude banks and other financial institutions from establishing individual retirement plans without the participation of the participant or beneficiary on whose behalf the fiduciary is required to make an automatic rollover. This is because in most of the situations where a fiduciary is required to make an automatic rollover to an individual retirement plan, the participant or beneficiary is unable to be located or is otherwise not communicating with the plan concerning the distribution of plan benefits.
However, the proposed regulation notes that, in response to these issues, Treasury staff, along with staff of the other Federal functional regulators, have advised the DOL that they interpret the CIP requirements of section 326 of the Act and implementing regulations to require that banks and other financial institutions implement their CIP compliance program with respect to an account, including an individual retirement plan, established by an employee benefit plan in the name of a former participant (or beneficiary) of such plan, only at the time the former participant or beneficiary first contacts such institution to assert ownership or exercise control over the account. The proposed regulation states that "CIP compliance will not be required at the time an employee benefit plan establishes an account and transfers the funds to a bank or other financial institution for purposes of a distribution of benefits from the plan to a separated employee."
In January of this year, Treasury staff, along with staff of the other Federal functional regulators, issued guidance on this matter in the form of a question and answer, published in a set of "FAQs: Final CIP Rule,'' which you can access here and here. The FAQs provide:
. . .[I]n light of the requirements imposed on the plan administrator under EGTRRA, as well as the requirements in connection with plan terminations, the former employee will not be deemed to have "opened a new account" for purposes of the CIP rule until he or she contacts the bank to assert an ownership interest over the funds, at which time a bank will be required to implement its CIP with respect to the former employee.This interpretation applies only to (1) transfers of funds as required under section 547(c) of EGTRRA, and (2) transfers to banks by administrators of terminated plans in the name of participants that they have been unable to locate, or who have been notified of termination but have not responded, and should not be construed to apply to any other transfer of funds that may constitute opening an account.
(3) Commenters had raised issues concerning state escheat laws which would apply since ERISA does not govern IRA's and thus would not preempt state escheat laws which could apply. The proposed regulation states that "[i]ssues raised by commenters concerning the possible application of state laws are beyond the scope of this regulation."
(4) Many had hoped that the safe harbor would also apply to rollovers of amounts less than or equal to $1,000. (EGTRRA limited the automatic rollover provision to amounts in excess of $1,000 but less than $5,000.) The DOL declined to extend the safe harbor to distributions less than or equal to $1,000, stating that "[w]hile the Department agrees with the commenter that similar considerations may be relevant to such rollovers, the Department did not adopt this suggestion in light of Congress' direction to provide a safe harbor for automatic rollovers of mandatory distributions described in section 401(a)(31)(B) of the Code."
(5) The proposed regulations dictate that the mandatory distribution be invested in an "investment product designed to preserve principal and provide a reasonable rate of return, whether or not such return is guaranteed, consistent with liquidity" and that the investment product's fees meet certain requirements. The DOL in its preamble notes that such safe harbor investment products would typically include money market funds, interest-bearing savings accounts, certificates of deposits, and "stable value products." The DOL rejected suggestions made by commenters that the participant's investment in the plan should be "mapped."
(5) Please note that one of the conditions required to be satisfied in order to meet the safe harbor proposed in the regulations is that participants have to have been furnished with a summary plan description or summary of material modification that describes the plan's automatic rollover provisions, including an explanation that (1) the mandatory distribution will be invested in an investment product designed to preserve principal and provide a reasonable rate of return and liquidity, as well as (2) a statement indicating how fees and expenses attendant to the individual retirement plan will be allocated, and (3) the name, address and phone number of a plan contact (to the extent not otherwise provided in the summary plan description or summary) for further information concerning the plan's automatic rollover provisions, the individual retirement plan provider and the fees and expenses attended to the individual retirement plan. In other words, if the Summary Plan Description has not been updated or an SMM issued containing this information, the safe harbor requirements would not be met.
(Some background regarding the EGTRRA provision: EGTRRA amended section 401(a)(31) of the Code to require that, absent an affirmative election by the participant, certain mandatory distributions from a tax-qualified retirement plan be directly transferred to an individual retirement plan of a designated trustee or issuer. Specifically, section 657(a) of EGTRRA added a new section 401(a)(31)(B)(i) to the Code to provide that, in the case of a trust that is part of an eligible plan, the trust will not constitute a qualified trust unless the plan of which the trust is a part provides that if a mandatory distribution of more than $1,000 is to be made and the participant does not elect to have such distribution paid directly to an eligible retirement plan or to receive the distribution directly, the plan administrator must transfer such distribution to an individual retirement plan. Section 657(a) of EGTRRA also added a notice requirement in section 401(a)(31)(B)(i) of the Code requiring the plan administrator to notify the participant in writing, either separately or as part of the notice required under section 402(f) of the Code, that the participant may transfer the distribution to another individual retirement plan.)