Just when I thought I was going to get a chance to talk a bit about annuities again, the IRS drops a bomb: it has proposed the design of its long awaited 403(b) prototype program and List of Required Modifications.  Announcement 2009-34 is the description of the prototype program; and the LRMs can be linked here

Combined, it is 92 pages of pretty serious reading. Pay close attention to the detail as you read it, as some very small statements seem to reflect some pretty large decisions.

There is a lot in that announcement and the LRM, and you’ll find us blogging on a number of issues we have already noticed. First, however, let’s tip our hats to the IRS. The documents are clearly written and well considered. There a number of things to take issue with, but this is  a vast improvement over the ambiguities introduced by the difficult language under Rev. Proc 2007-71. I have read a large number of documents in the past year, and this is really among the best written I have seen. The Announcement itself also shows that the IRS has been listening to (though not necessarily agreeing with) the comments of the 403(b) community.  Angelique Carrington and James Flannery should be complimented on their efforts, as well as the drafters of the LRMs.

So, now that I’m done gushing about the IRS staff, lets take a quick look at a few key points about the structure:

  • Comments are due by June 1. The IRS also wants to hear from potential volume submitters and prototype sponsors. They want to know who will be sponsoring these plans, and how many plans do they intend to sponsor.
  • There will be a Standardized and Non-Standardized program, both based upon using a basic document.
  • There will be an individual determination letter program, but it is still in the making.
  • In a thoughtful move, there will be the ability to retroactively correct defects in currently drafted plans, by a date to be determined-but it will be no earlier than March 15, 2010.
  • There is not yet any auto-enrollment language, that is still being written.
  • No changes will be required for any school district which has adopted the sample language in Rev. Proc. 2007-71. There will still be reliance to the extent the 2007-71 language is used, but sponsors will not have the benefits of a prototype program.  
  • It limits Notice 2007-3 to 2009 only; that Notice will not be extended.

Some initial thoughts on a few substantive points:

  • The IRS wants to cover what they consider to be "most eligible employers," a decision which seems to have driven most of their substantive choices. Several of its choices, however, severely limit the use of the prototype:
    • Users of the prototype can only have one beneficiary per contract. Virtually all annuity contracts support multiple beneficiaries.
    • The prototype MUST have language under which the specific plan language will override any inconsistent provision in any annuity contract or custodial account. This will force employers to take a serious look at each of their contracts (assuming they can figure out which contracts are part of the plan) before they can adopt a prototype. On the positive side, does this imply that a Plan Administrator for an individually designed plan has the authority to determine if the contract language or the plan language applies?
    • The prototype language requires that the participant can change investments at will. This is a particular problem for a lot of annuity contracts, many of which have transfer restrictions on their "guaranteed" funds. 
    • All employer contributions must be fully vested-even under the Non-Standardized contracts. This means that most plans with employer contributions will not qualify for the prototype program.
  • The IRS recognizes that many plans will not be able to be covered by the prototype program. I suspect there will be a lot more not eligible than they think.
  • The administrative duties language in the LRM is smartly written: it obligates the sponsor to monitor and make sure things are being done, instead of commanding them to do specific acts for which they may not have the authority. Well done. 
  • The LRM and the proposed Rev. Proc. have taken a huge step in identifying the 415 limit as an Employer based limit, not an individual limit. IRS staff in the past had suggested publicly that the 415 limit was to be applied against all 403(b) contributions from unrelated employers.

There is much more to come.