We spend a lot of our time focusing on ERISA’s “Prohibited Transaction” rules, which extensively cover the manner in which compensation is paid under retirement plans, and how it is disclosed. Lurking darkly in the background behind all of our  discussions of fee disclosure and how the prohibited transaction rules apply under 408(b)(2), however, is something most of us in the benefits world typically pay little attention to: the U.S. Criminal Code.

We all have a general knowledge that kickbacks and racketeering schemes of any sort are illegal.  But many do not realize that there is a specific “anti-kickback” rule applying to ERISA plans that is NOT found in ERISA, but instead under criminal law.  I invite you to read the following-  and perhaps **gasp** at its breadth. I try to avoid citing the entire section of any statute, but the language of this one is so striking (and so unfamiliar to most of us, and not referenced in most benefits books), I thought it would provide useful reading. This section, by the way, only applies to ERISA plans:

18 USC §1954. Offer, acceptance, or solicitation to influence operations of employee benefit plan

Whoever being—

(1) an administrator, officer, trustee, custodian, counsel, agent, or employee of any employee welfare benefit plan or employee pension benefit plan; or

(2) an officer, counsel, agent, or employee of an employer or an employer any of whose employees are covered by such plan; or

(3) an officer, counsel, agent, or employee of an employee organization any of whose members are covered by such plan; or

(4) a person who, or an officer, counsel, agent, or employee of an organization which provides benefit plan services to such plan

receives or agrees to receive or solicits any fee, kickback, commission, gift, loan, money, or thing of value because of or with intent to be influenced with respect to, any of the actions, decisions, or other duties relating to any question or matter concerning such plan or any person who directly or indirectly gives or offers, or promises to give or offer, any fee, kickback, commission, gift, loan, money, or thing of value prohibited by this section, shall be fined under this title or imprisoned not more than three years, or both:

Provided, That this section shall not prohibit the payment to or acceptance by any person of bona fide salary, compensation, or other payments made for goods or facilities actually furnished or for services actually performed in the regular course of his duties as such person, administrator, officer, trustee, custodian, counsel, agent, or employee of such plan, employer, employee organization, or organization providing benefit plan services to such plan. 

The language of the statute is broad, and looks at first glance to be able to cover a number of poorly designed compensation schemes or service arrangements. We all know that doing something as foolish as buying a plan sponsor a car in order to keep its 401(k) business would clearly step over the line. But there are some other, maybe more familiar, arrangements which could raise some issues.

Take, for example, a sales rep which has no service agreement with a plan and who is compensated solely by commissions as permitted under PTE 84-24, and the rep otherwise has no service agreement with the plan sponsor. Let us say this rep gets word that a 401(k) client is considering moving its business to a different vendor (and a different sales rep). The rep approaches the clients and offers to pick the TPA fees of the plan if the plan continues to purchase the investment products through him.  It is clear that this kind of arrangement won’t be  problem when it is made properly part of a negotiated service agreement.   But in this example, with a sales rep without a 408(b)(2) service agreement – a problem?

Another example could be “tying” arrangements, where (for example) a bank has a client’s 401(k) plan as well as holding a corporate loan with the plan sponsor.  The plan sponsor notifies the bank that it is moving its 401(k) to another institution. The bank responds by threatening to call the loan, or not to extend any future credit if the 401(k) plan is moved- a problem?

This is a criminal statute. Unlike the “civil law” ERISA prohibited transaction rules where “intent” doesn’t matter,  “scienter” (that is, intent) is still a critical element, so that helps limit the broad language of the statute.  But still the word is caution.  Compliant compensation schemes are difficult enough to design, given the prohibited transaction rules and the 408(b)(2) regs. But don’t forget about the non-ERISA criminal rules when addressing these issues.

If, by the way, you find yourself in these sorts of circumstances, it would be helpful to go talk to your lawyer.



Gary Lesser, co-editor of the Aspen Publisher’s 457(b) Answer Book, gave us a heads up about the IRS’s new resource page for sponsors (and IRS tips for auditors) on the impact of 457(b) failures, published September 25. Benefitslink  (this links to its excellent news archives) also reported, along with that,  the IRS’s 457(b) guidance on correcting elective deferrals. 

The resource guide and correction of excesses  guidance look to be  very useful tools. They not only link to the statute and each of the regs, they also link to the IRS Manual sections on 457(b) plans. They do have their limitations (such as providing no guidance on how one corrects failures in tax-exempt’s 457(b)plan), but it should be a permanent part of the practitioner’s research tool list.

It does remind us all that the failure of a 457(b) for a tax-exempt plan makes that plan subject to 457(f). What it also does not say is that the 457(f) program is subject to 409A, and that most 457(b) plans will generally NOT comply with the 457(f)/409A requirements, which then, in turn triggers that 409A penalty regime.

Here’s a copy of the IRS webpage on the impact on non-compliance:

457(b) Plan of Tax Exempt Entity – Tax Consequences of Noncompliance

IRC Section 457 provides rules for nonqualified deferred compensation plans established by eligible employers.  State and local governments and tax exempt organizations are eligible to maintain a 457 plan.  There are two types of 457 plans, eligible plans that satisfy IRC Section 457(b) requirements, and ineligible plans that are subject to IRC Section 457(f).

An eligible 457(b) deferred compensation plan sponsored by a non-governmental tax-exempt entity (“457(b) tax exempt plan”) that fails one or more of the requirements of IRC Section 457(b) becomes an ineligible plan subject to IRC Section 457(f).  This Issue Snapshot explores the tax consequences to the participants and employer when a 457(b) tax exempt plan becomes an ineligible plan governed by IRC Section 457(f).

IRC Sections and Treas. Regulations

Resources (Court Cases, Chief Counsel Advice, Revenue Rulings, Internal Resources)



Reg. Section 1.457-2(b)(1) defines the term “annual deferrals” as the amount of compensation deferred under an eligible plan, whether by salary reduction or by nonelective employer contributions, made during the taxable year.  In an eligible 457(b) plan, contributions are counted as “annual deferrals” in the taxable year of the deferral or, if later, the year in which the amount contributed is no longer subject to a substantial risk of forfeiture.

Reg.  Section 1.457-3 provides that an eligible plan is a written plan established and maintained by an eligible employer that is maintained, in both form and operation, in accordance with the requirements of Reg. Sections 1.457-4 through 1.457-10.

Reg.  Section 1.457-4(a) provides that, in the case of an eligible plan maintained by a tax exempt entity, annual deferrals that satisfy the requirements of paragraph (b) (relating to the deferral agreement) and paragraph (c) (relating to the maximum deferral limitations) are excluded from the gross income of a participant in the year deferred and are not includible in gross income until paid or made available to the participant.

Reg.  Section 1.457-9(b) provides that a plan of a tax exempt entity ceases to be an eligible plan on the first day that the plan fails to satisfy one or more of the requirements of Reg. Sections 1.457-3 through 1.457-8 and 1.457-10.  These requirements relate to form, annual deferral limitations, the timing and taxability of distributions, and funding.

IRC Section 457(f) and Reg. Section 1.457-11 provide the tax treatment of participants if the plan is not an eligible plan.  Specifically, IRC Section 457(f)(1) provides that:

In the case of a plan of an eligible employer providing for a deferral of compensation, if such a plan is not an eligible deferred compensation plan, then—

(A) the compensation shall be included in the gross income of the participant or beneficiary for the 1st taxable year in which there is no substantial risk of forfeiture of the rights to such compensation, and
(B) the tax treatment of any amount made available under the plan to a participant or beneficiary shall be determined under section 72 (relating to annuities, etc.).

Tax Consequences to the Employee

As indicated above, when an eligible 457(b) plan of a tax exempt organization fails to meet the requirements of IRC Section 457(b), amounts deferred under the plan become subject to IRC Section 457(f) and Reg. Section 1.457-11 beginning on the first day of the failure.  Such amounts are includible in the participant’s or beneficiary’s gross income in the first taxable year in which there is no substantial risk of forfeiture.  Earnings on the deferred amounts are includible in gross income in the first taxable year in which there is no substantial risk of forfeiture and determined as of that date.  See Reg. Section 1.457-11(a)(2).  All other amounts are includible in gross income when paid or made available to the participant under IRC Section 72 relating to annuities.  See Reg. Section 1.457-11(a)(3) and (a)(4).

The following example illustrates the taxability of nonvested, nonelective contributions made to an ineligible plan under IRC Section 457(f).

Example (1):  A tax exempt organization maintains a 457(b) plan.  In 2014, the plan fails to comply with the requirements of IRC Section 457(b) and becomes a 457(f) plan.  In 2015, a $3,000 nonelective contribution is made on behalf of a participant.  The $3,000 contribution is not vested.  In 2018, the $3,000 and $200 in earnings thereon become vested.  The $3,000 contribution and $200 in earnings are taxable to the participant in 2018.  Subsequent earnings on these amounts are includible in gross income when paid or made available (provided that the participant’s or beneficiary’s interest in the assets is not senior to that of the employer’s general creditors).

Example (1) shows that amounts deferred are taxable under the tax exempt 457(f) plan when they become vested and include earnings calculated through to the date of vesting.  Subsequent earnings are taxable when paid or made available.  This means that the earnings may be taxable before they are actually distributed.

If the plan in Example (1) had remained an eligible tax exempt 457 plan, the $3,200 would be considered an annual deferral in 2018 due to the vesting schedule.  The deferral and earnings would not be includible in gross income until paid or made available to the participant.

Annual deferrals made through salary reduction are vested when made; therefore, by definition there is no substantial risk of forfeiture at the time they are contributed.  Thus, if the deferrals in Example (1) were made by salary reduction to a plan that was determined to be a tax exempt 457(f) plan, these amounts would be taxable in the year deferred.  Subsequent earnings on the deferrals would be taxable when paid or made available if the participant’s interest is not senior to the interests of the employer’s general creditors.  Under IRC Section 72, the distributions from the 457(f) plan are treated as having “basis” only to the extent the deferred compensation has been included in gross income of the participant.  See Reg. Section 1.457-11(c).

When an agent discovers a failure causing an eligible tax exempt plan to become an ineligible tax exempt plan under IRC Section 457(f), the participants’ Form 1040 returns that are not closed by the statute of limitations should be adjusted.  The statute of limitations on assessments relating to a participant’s Form 1040 is generally three years from the later of the due date of the return (including extensions) or the date the return is filed.  Generally, the relevant year for determining the statute is the later of the date of the deferral or the date the amount is no longer subject to a substantial risk of forfeiture.  A participant’s Form 1040 for open years should be adjusted by all amounts deferred under the plan, plus any earnings through to the date the substantial risk of forfeiture lapses.  If the statute of limitations has expired, no tax adjustment can be made and no basis would be earned.  Any remaining amounts would be taxable when made available or distributed.  Distributions from ineligible plans (and eligible plans) maintained by a tax exempt entity cannot be rolled over.  See Reg. Sections 1.457-7(b) and 1.457-11.  Any attempted rollovers from such a plan to an eligible retirement plan are considered excess contributions and are subject to the excise tax under IRC Section 4973.

Tax Consequences to the Employer

Annual deferrals (elective and non-elective) made to a 457(b) tax exempt plan are taxed as of the later of when the services are performed or when there is no substantial risk of forfeiture of the rights to such amounts.  See IRC Section 3121(v)(2).  Salary deferrals that are immediately vested are subject to FICA when the services are performed.  Annual deferrals under a 457(b) plan are not subject to income tax withholding at the time of the deferral.  Rather, the employer is responsible for income tax withholding when amounts are paid or made available.

Similar to a tax exempt 457(b) plan, FICA taxes apply to deferrals made to a tax exempt 457(f) plan as of the later of when the services are performed or when the amount is no longer subject to a substantial risk of forfeiture.  See IRC Section 3121(v)(2).  Thus, if the deferrals became vested when the plan was eligible, they should already have been taxed under FICA.  If FICA was paid at the time of deferral, there are no tax consequences to the employer and the Form 941 need not be adjusted.  Deferrals under a 457(f) plan must be reported as income taxable wages in the first year in which there is no substantial risk of forfeiture.

Summary of Tax Consequences

Any vested deferrals made in years the plan is a 457(f) plan that have an open statute are taxable to the participant which may require a discrepancy adjustment to the Form 1040.  The individual will have a tax basis in the taxed amount.

If deferrals become vested in a year in which the plan is a 457(f) plan, earnings on the deferrals should be calculated through to the date of vesting to determine the amount includible in gross income for the year.

Other amounts, such as earnings subsequently earned, are includible in gross income when paid or made available.

Any attempted rollovers to an IRA of amounts distributed from a 457(f) plan (or a tax exempt 457(b) plan) are excess contributions that are subject to IRC Section 4973 excise taxes.

Under a 457(f) tax exempt plan, amounts are subject to federal income tax withholding when they are no longer subject to a substantial risk of forfeiture.

Issue Indicators or Audit Tips

  • Under the most recent Revenue Procedure 2019-19 update to the Employee Plans Compliance Resolution System (“EPCRS”), the Service generally will accept on a provisional basis – generally for plans that are sponsored by governmental entities described in IRC Section 457(e)(1)(A) – submissions relating to 457(b) plans outside of EPCRS but using standards that are similar to those that apply with respect to Voluntary Correction Program filings under sections 10 and 11 of the revenue procedure.  By contrast, 457(b) plans that are sponsored by a tax exempt entity described in IRC Section 457(e)(1)(B) and that provide an unfunded deferred compensation plan established for the benefit of top hat employees of the tax exempt entity generally are not subject to correction under EPCRS unless, for example, the plan was erroneously established to benefit the entity’s nonhighly compensated employees and the plan has been operated in a manner that is similar to a qualified retirement plan.
  • The plan document may state when amounts deferred become vested.  Many 457(b) plans are silent on vesting because deferrals are fully vested when made.
  • A tax exempt employer that maintains a 457 plan files a W-2 rather than a Form 1099-R.


Page Last Reviewed or Updated: 25-Sep-2020


ERISA’s Prohibited Transaction rules really are not well understood by much of the retirement plan market, yet they have a broad insidious affect anyone who is in the business. Simply put, no one can get paid from a plan’s assets, and no one’s compensation can be connected in any way to a plan’s assets, unless there is a specific prohibited transaction exemption which permits it.

There are thousands of exemptions, if you count the “individually” granted exemptions which the DOL is empowered to issue. The ones which have the most significant impact are the class exemptions, of which there really are two types: those issued by the DOL, and those provided by the statute. Of these, the most pervasive is probably the “408(b)(2)” service provider exemption, and even that is often misunderstood. Under that rule, no service provider can receive compensation in connection with services provided to a plan unless that compensation is “reasonable” as defined by the regulation issued under 408(b)(2).

Those 408(b)(2) regulations are, to my mind, among the most effective regs ever published by the DOL. They are relatively short, precisely written, yet written in such a way to cover that wide range of products and services which are available to plans.

408(b)(2), however, is often confused with its regulatory sibling, 404(a)-5,** which is not a prohibited transaction rule: 404(a)-5 is merely a rule which requires that participants regularly receive certain investment disclosures. Though failure to provide those disclosures are a fiduciary breach, there are no specific statutory penalties for failing to meet the 404(a)(5) rules. Failing 408(b)(2), on the other hand, results in a prohibited transaction which may require the return of compensation received and the assessment of a tax (or the potential of a penalty, for 403(b) plans….).

A common misunderstanding between 408(b)(2) and 404(a)(5) is the nature of the requirements: 408(b)(2) requires the service provider’s contract with the plan’s fiduciary contain certain, specific terms. It does NOT require that those fees be disclosed to participants, nor does it require annual disclosure. It is simply a business matter between the fiduciary and the service provider. The only time a follow-up “disclosure” is ever required is if there is a material change in the contract’s terms (including the service fee), and then that disclosure is only required to be made to the plan fiduciary (though there are certain parts of 408(b)(2) which  rely upon parts of 404(a)(5)). Back in 2012 when the rule was first put into place, we all had to make a “transition” 408(b)(2) disclosure to all fiduciaries, but that was merely a one-time requirement. Unfortunately, the jargon related to that transition rule still hangs around. 408(b)(2) is, at its heart, a rule which requires specific, enduring contract terms. It is not a disclosure rule.

Where it really gets confusing is that if that service provider’s fee is charged against a participant’s account, that charge is then required to be disclosed to plan participants. But this requirement comes from 404(a)-5, not 408(b)(2), which is a very meaningful distinction: failure to disclose a fee charged against a participant’s account under 404(a)-5 may be a fiduciary breach, but it does not otherwise cause a potentially expensive failure in the prohibited transaction exemption under 408(b)(2).

The prohibited transaction rules really act as a governor on how plans operate, but they are almost hidden, in many ways, because most of the rules are not found in the plan document rules themselves. They do, however, have a deep impact on how things are run.

**Note:For brevity purposes, my reference to “404(a)-5” is really a reference to DOL Reg 2550.404(a)-5, and not to a section of ERISA itself. My reference to 408(b)(2), on the other hand, is a reference to ERISA Section 408(b)(2).

With few notable exceptions, the statutory and regulatory references we need in the administration of plans are at our fingertips from a number of easily accessible internet resources, a great deal of them actually available for free. Sometimes I do wonder how we were ever able to practice back in the 80’s and 90’s without these resources -which we do really now take for granted.

One of the most annoying of those “notable exceptions” is found under Code Section 411(e) of the Code, the vesting standards which apply to governmental and church 401(a) plans. Section 411(e)(2) states, in pertinent part, that these plans “shall be treated as meeting the requirements of this section, for purposes of section 401(a), if such plan meets the vesting requirements resulting from the application of sections 401(a)(4) and 401(a)(7) as in effect on September 1, 1974.”

Really? Have you ever tried to find “401(a)(4) and 401(a)(7) as in effect on September 1, 1974.”?

Well, if you have need of it, Section 401(a)(4) in effect on that date read as follows:

“either benefits or contributions must not discriminate in favor of employees who are officers, shareholders, persons whose principal duties consist in supervising the work of other employees, or highly compensated employees.”

Section 401(a)(7) in effect on that date reads as follows:

“A trust shall not constitute a qualified trust under this section unless the plan of which such trust is a part provides that, upon its termination or upon complete discontinuance of contributions, under the plan, the rights of all employees to benefits accrued to the date of such termination or discontinuance, to the extent then funded, or the amounts credited to the employees’ accounts are nonforfeitable. This paragraph shall not apply to benefits or contributions which, under provisions of the plan adopted pursuant to regulations prescribed by the Secretary or his delegate to preclude the discrimination prohibited by paragraph (4), may not be used for designated employees in the event of early termination of the plan.”

The IRS   added a further twist, however.  In its 1972 version of Publication 778, as referenced in its  Memorandum To Managers of April 30,2012, the IRS took the position that the pre-1974 rules also require that all participants be fully vested as of the plan’s normal retirement age.

You can find much of this at this IRS link

This is an odd sort of application of the vesting rules, which require use of general nondiscriminations standards as a sort of threshold to being able to vest or non-vest benefits.

It is these quirky sort of rules which make this profession so fascinating…..


Of all the difficulties that employers face when they struggle with their decisions on managing employees during these disruptive times, it would seem that among the least of their immediate worries is whether or not-and to what extent-the variety of different steps they take to control costs causes a “partial termination” of their 401(k) plan. Whether or not, and what sort of, any reduction in force and for what period of time, will trigger the count toward the 20% employee reduction threshold for vesting is not front and center in their business survival plans.

It will be, however, chief among the debris that will need to be cleaned up as we work our way through this economic disaster, especially as rent becomes due and partially vested former employees need to take withdrawals from their plans.

Tax exempt organizations are among those organizations which are particularly hardest hit right now, either being educational organizations faced with terrible choices, or being an org with increased demands for their services with a concurrent reduction in their funding.

At least the “partial termination” rules are pretty straightforward, and TPAs and recordkeepers all know where to draw the line and provide guidance to their clients.

Or so you would think. But the 403(b) termination vesting rules are vastly different than those for 401(k) plans. In fact, you’ll find that there just aren’t any in the Tax Code, ERISA or Tax regulations.

Consider the following:

  • The Tax Code’s vesting rules do not apply to 403(b) plans, at all.
  • Technically, neither the Tax Code or the 403(b) tax regulations require that non-vested employer contributions be vested on plan termination.
  • ERISA’s vesting rules-which apply only to ERISA 403(b) plans, not non-ERISA plans- and its regulations do not require any plan, whether it be 403(b) or 401(k), to vest non-vested employer contributions on plan termination.
  • However, both the IRS and the DOL rules do require that an employer follow the terms of the plan document, and the IRS List of Required Modifications  (the “LRM’s) for pre-approved 403(b) plans do require that non vested employer contributions be fully vested upon plan termination as a matter of the plan’s terms.

So, though we have no statutory or regulatory requirement that vesting be required on a 403(b) plan termination, the IRS requires and imposes it as a sort of matter of practice.

What then about the 401(a) partial vesting rules, which requires full vesting for those who have left employment at a time of a plan “partial termination?” Well, also consider that:

  • this is a rule found in Code Section 411(d)(3);
  • 411(d)(3) does not apply to 403(b) plans;
  • ERISA doesn’t require vesting on partial termination; and
  • the IRS 403(b) LRMs do not require vesting on partial termination.

Therefore, there is no “vesting on partial termination” for 403(b) plans, and no need to track the “20%” (or so) rule for vesting on partial terminations for a 403(b) plan. That rule simply does not apply. This is true for both ERISA and non-ERISA 403(b) plans.

So, as a practice note, if you have mistakenly applied that “partial termination” vesting rule to a 403(b) plan you may have an operational error. Check your plan document, it may have a partial termination rule. If it does not, consider whether it is an error which can be corrected by retroactive plan amendment. Nothing prevents a plan sponsor, by its terms, to adopt this rule. But it is only matter of plan design, not because of any Code or ERISA imposed rule.

We have submitted our comment to the DOL in response to its RFI on PEPs, including its inquiry as to whether a prohibited transaction exemption will be necessary to the operation of PEPs.

We noted that it is our view that the new PEP rules do not add any new services to the marketplace. Rather, PEPs merely reorganize existing services to be provided in a different format, with the one exception is that it now permits unrelated employers to be able to file a consolidated Form 5500. Further, we believe the Department’s issuance of guidance as to the allocation of these different authorities (consistent with in ERISA Section 3(44)(C) which requires the Department to ‘‘(i) to identify the administrative duties and other actions required to be performed by a pooled plan provider…”) is a required condition precedent to the determination of whether any prohibited transaction exemptive relief is necessary in the operation of a PEP. We encouraged the DOL to amend the 408(b)2 regs and the regs on the allocation of fiduciary authority to specifically apply the in the special circumstances arising under a PEP.

Read our comment letter here


Attempting to assess the impact of DOL’s newly proposed fiduciary “prohibited transaction exemption” (let’s call it the “Fiduciary PT”) is almost like trying to figure out a Rubik Cube, given all of the moving pieces. But ultimately there may not be many parties who actually will need it. Consider the following when trying to figure how this new rule affects things:

  • Broker/dealers and registered reps who are not dually registered as Investment Advisers. The new Fiduciary PT may not be needed at all by this class of “adviser.”
    • This new Fiduciary PT permits investment fiduciaries to receive variable compensation.
    • However, the SEC’s “solely incidental” rules only permits the “non-IA” registered rep to give investment “recommendations” to a fiduciary which are “solely incidental” to the actual investment transaction.
    • To be an ERISA fiduciary, the recommendations must be made on a regular basis pursuant to a mutual understanding that the advice will serve as a primary basis for the investment decisions with respect to plan assets.
    • It would seem that providing on advice on a “regular basis” may well violate the SEC’s “solely incidental” exemption under the Investment Advisers Act of 1940, and may cause that registered rep to be required to register as an Investment Adviser. So, the rep, legally, may not even be able to act as an ERISA fiduciary to a plan if it never becomes dually registered.
    • Note how this compares to the vacated fiduciary rule (let’s call it the “Borzi Rule”). Under the Borzi Rule, a rep giving “solely incidental” recommendations would be considered a fiduciary, even though they would not have to register as an Investment Adviser under the SEC rules.
    • Though registered reps will not need to comply with the Impartial Conduct Standards (ICS) under the Fiduciary PT, they will, however, still be required to comply with the SEC’s Best Interest Standards which apply to the rest of their non-plan business.
    • Therefore, I think this may mean that no registered rep who is not dually registered (or at least one who complies with the SEC rules) can ever really be an ERISA fiduciary, which means they will never need this new Fiduciary PT in order to receive comp which varies based on their “recommendations.” So, at least in the retirement plan market, is there even going to be much of an effect?
  • Investment Advisers. Again, there may not be much of an impact.
    • Under the Pre-Borzi Rules, the prohibited transaction rules forced IAs to adopt compensation practices which did not include variable comp. This mostly impacted those who were paid through revenue sharing: their comp was at a set level, and their agreements with the plan called for the plan (or the employer) to make up the difference if there was a shortfall in the revenue sharing, or to cap their pay if there was excess revenue sharing.
    • I was always amazed at the pushback in the retirement plan world to the Borzi rule, because it actually (unlike registered reps) helped IAs: that rule permitted IAs to receive variable comp as long as they met the Impartial Conduct Standards and complied with all of those implementation rules.
    • However, my experience was that IAs did not generally change their comp practices to permit variable comp. It will be interesting to see if variable comp is reintroduced into the IA market.
    • The unique nature of a prohibited transaction exemption is that it only permits the transaction, as long as everything else is kosher.  The IA will still have to meet ERISA’s prudence and exclusive benefit standards, and be able to prove that the advice was prudent, and that they did not take into account their own pecuniary interests in providing the advice-which, I guess, is the purpose of the Impartial Conduct standards in the Fiduciary PT (or at least it helps).
  • Existing Prohibited Transaction Class Exemptions 75-1, 77-4, 80-83, 83-1, 84-24, and 86-128. It is the lack of the rule that will have an impact, but not the new Fiduciary PT itself.
    • There is a whole host of prohibited transaction class exemptions (listed above) under which the Borzi Rule imposed an Impartial Conduct Standard as a condition of those exemptions (these include, for example, authorizing the payment of insurance company commissions).
    • When the Borzi Rule was vacated, it also meant that the ICS  requirement was removed as a condition from those PTEs.
    • The new Fiduciary PT did not re-impose that ICS as a condition of the exemptions.
    • There is a downside to the ICS not applying to those old PTEs. The ICS did have the effect of documenting that compliance with ERISA’s prudence and exclusive benefit rules, which is still required under some of these exemptions.  Those parties involved in those arrangements will now be compelled to establish standards which may look something like the ICS in order to demonstrate ERISA compliance.

The ERISA marketplace is complex, with a plethora of different sorts of arrangements which will be affected in a variety of different ways by this Fiduciary PT. In general, however, I would be little surprised if it ends up being that not many parties will have the need to take advantage of this new exemption.

Pooled Employer Plans (PEPs) are soon coming to a theater near you. A PEP is a new kind of MEP brought to you by the SECURE Act, which will permit unrelated employers to participate in the same plan. These new types of plans will become available January 1, 2021, but a lot of work needs to be done between now and then in order to make the PEP a reality. The DOL especially has a heavy lift here, as there is a multitude of questions which need to be answered for these things to actually work.

Key among all of the unanswered questions is how all of the players in a PEP are going to be able to get paid. There’s the Pooled Plan Provider, the investment manager, the investment platform, the plan administrator (if it’s not the PEP), and, of course, distribution. A PEP will not work unless there is comp.

Compensation related to ERISA plans is governed by what I call the “squat rule”-as in you can’t get paid “diddly-squat” under ERISA unless it is permitted by a prohibited transaction exemption (a “PTE”). PTEs are either found in ERISA itself; issued under published regulations by the DOL; or granted by administrative fiat by the DOL (there are either individual or “class” exemptions). As you can imagine, there is a substantial body of prohibited transactions which has grown over the years to accommodate all sorts of ERISA plan relationships.

Normally, all of the players in any ERISA plan’s life cycle operates under any number of these well-established PTEs. However, in that the PEP is a new sort of arrangement, it is not entirely clear that these existing PTEs will be sufficient to pay all of the PEP players. To address this crucial issue, the DOL has issued a Request for Information on June 18 to gather information on what further, if any, PTE relief will be needed to make the PEP work. There is a 30-day response window, which makes all the sense in the world given that time is getting short before the January 1 PEP effective date.

There are two noteworthy developments related to these efforts. The first is the ARA/ASPPA letter to EBSA requesting PTE relief for PEP operatives. The second, and perhaps more striking development, is the letter Congressman Neal wrote to the EBSA opposing the loosening of the prohibited transaction rules for PEPs. I invite you to read these two opposing views, as how this is resolved will ultimately determine who can offer a PEP and who cannot.

I will be submitting my own comment to the DOL in response to the RFI as well. My initial view, however, is that while exploring whether further PTEs are needed is an important step in the regulatory process, this effort may be premature-or even unnecessary. Whether or not a PTE is needed will largely hinge on other clarification from the DOL on the nature of the roles of the Pooled Plan Provider, the participating employers, and the named fiduciaries to who authority under a PEP will be delegated. How these are answered may well address the concerns raised by both Rep. Neal and the ARA.

It is nice to be able to come back up for air and take the time to write again. Conni and I are both fine, by the way. The only COVID hardship we seem to be personally dealing with now, fortunately, is lack of sleep…..Oh, and yes, for those inclined, you will be able to listen to this post as a podcast by going to the sidebar-which, by the way, also discuss my 18 year old sourdough starter….

IRS’s Notice 2020-50 is actually a nice piece of work by IRS and Treasury, as the CARES Act terms really had to be unpacked piece by piece. The drafters had to resolve a number of issues, and they did so in helpful detail.

There is so much detail in there, you probably could write a a chapter on the actual implementation of all of those elements addressed. What I thought may be useful to discuss is what happens when an employer chooses NOT to offer the CRD relief under the CARES Act. A surprising number of employers have taken this approach. But the employer’s decision is not the final word on this matter, because the statute grants participants specific tax benefits regardless of the sponsor’s choice. So what does this actually mean for participants?

  • Employer chooses not to permit CRD distributions at all.

Consistent with its past position on disaster related distributions, IRS and Treasury have taken the position that an employer can choose to whether or not offer CRD distributions from the plan. Though I believe they could have legitimately taken the other position (that is, the employer had no choice), this is clearly the more conservative approach. Wisely, however, IRS has also said, that the employer must  uniformly deny (or offer) CRD treatment under the plan.

Notice 2020-50 also made it clear that the employer cannot prevent the participant from claiming CRD tax treatment on (most) distributions the participant otherwise does take during the relief period, even where the employer has chosen not to “opt” for CRD relief. Thus, most participant distributions (except for things like corrective distributions) will be exempt from the 10% penalty tax, will be eligible to be taxed ratably over 3 years, and be able to rollover that amount. Even hardship distributions or RMDs, which typically cannot be rolled over, will still be eligible for rollovers- even taxation from defaulted loan offsets will be afforded this treatment (but not deemed distributions from defaulted loans which have not been offset).

It does not appear that the participant has to file a CRD certification with the plan administrator to get this favorable tax treatment, they just have to be able to prove they meet the (newly expanded, thank you!) CRD standards.

Obnoxiously, the employer can still file a 1099-R with the notation saying that this is an early distribution with no exception-and the 20% will be withheld-but the participant can offset this by filing the 8915-E.

  • CRD Rollovers

Even if the employer does not extend CRD coverage under the plan, if the plan accepts rollovers, it will still have to accept the rollovers back into the plan of distributions the participant has treated as CRD. All the recalcitrant employer can do to stop these rollovers is to cease all rollovers

  • Employer doesn’t expand CRD to $100,000.

Even if the sponsor doesn’t offer CRDs, or limits them below $100,000, the participant still has an individual limit of treating distributions from all other plans as CRDs. So, for example, where the employee maintains an 401(k) account with a former employer (or, as is often the case in the 403(b) market, maintains contracts from all sorts of former employers) they can still take distributions from those accounts and claim CRD treatment on the first $100,000 from those account-even without employer approval of CRD treatment.

  • Employer does not institute loan payment suspension

I had blogged on this point of loan suspensions earlier this year.This one is interesting, and I invite you to take a close look: The employer does not have to extend the loan limits under the CRD rules, and the IRS has taken the position that the employer does not have to suspend the requirements that loan payments still be made even though both the statute and Notice 2020-50 state that the due date for loans payments through December 31, 2020 “shall” be delayed for one year. But the  Notice does not specifically address this issue of what happens when an employer fails to suspend, given the mandatory nature of the law.

What we are left with, I think, is something like this: assume that the participant fails to make a payroll-based loan repayment because they have short paychecks with insufficient funds to repay the required loan amount, yet the employer chose not to suspend the loan repayment rules. It would seem that, for tax purposes, there will not be a taxable deemed distribution, because CAREs extended that due date. However, if the plan, by its terms, forced a default because of this shortfall in payment- and then forced an offset of the participants account-it then becomes a taxable event. This loan offset then, it would seem, be treated as a CRD distribution which has the waiver of the 10% penalty, a 3year ratable taxation and the right to rollover the amount back into the plan.

Got it?

With this blog, we take the next step into the Podcast world, where we describe  the CARES impact Length of Service Awards programs (called “LOSAPs) under 457(e)(11). The Podcast is more extensive than the written word below, and I recommend you give it a try. I also rant a bit on it about  current state of confusion in the implementation of the CRD rules.  Listen to the Podcast here. It’s only about 7 1/2 minutes long.

First, what is a LOSAP? It a retirement type of arrangement under 457(e)(11). They act as a sort of gratuitous payment arrangement which local fire districts adopt under either state or local laws the deferral of a payment of up to $6,000 per year for volunteers providing fire fighting and prevention services, emergency medical services, and ambulance services. They really are odd programs, a sort of amalgamation of a number of different rules. Cheryl Press authored a very useful PLR on these programs, which I invite you to review. I’m also providing a link to one of the leading LOSAP programs which is available nationally, at LOSAP.com

So now, as COVID-19 inexorably moves out of the large cities to smaller and rural communities, it is these volunteers who will be faced with the extraordinary tasks arising from handling people affected by the virus. These volunteer departments have minuscule budgets, and are unlikely to have the resources to get all of the equipment they will need to handle COVID.

It follows that these volunteers will be impacted, some seriously so.

The typical LOSAP will permit a withdrawal for “unforeseen emergencies.” Yet the new CARES Act distribution rules provides no relief for these distributions. The CARES Act does not allow the tax on LOSAP distributions to be spread over three years, like it does for the tax on distributions from other kinds of retirement plans. There is also no ability for the firefighter to repay the amount of those distributions back to the plan, as the CARES Act allows to be done for other types of retirement plans.

LOSAPs have existed under the radar for years. But these volunteers are about to be in the forefront now, and so will their LOSAP programs.

Listen to the LOSAP Podcast here.