IRS Pulls a 180° On Lump-Sum Windows for DB Plan Retirees Already Receiving Benefits
Chris Allesee
Only a year ago, the IRS issued a series of private letter rulings approving the use of a plan amendment in a defined benefit plan that established a temporary window for participants that were already receiving an annuity to take a lump-sum election instead. The election windows seemed to be a win-win proposition – plans de-risk by cashing out long-term benefit liabilities, and participants that originally elected to receive an annuity could reassess their retirement situation, and cash out if it was the more appealing option the second time around.
However, to offer the windows, defined benefit plans had to get around some pesky 2004 IRS regulations that prohibited increases in benefits after a participant began to receive them (see A-14(a)). The regulations contained several exceptions, and the IRS took the position in last year’s private letter rulings that a lump sum window amendment did not violate the prohibition against increasing benefits because it fell under an exception that allowed an amendment to a plan to increase benefits (A-14(a)(4)). Thus, simply amend your plan, abide by the other limitations imposed by the rulings (spousal consent, disclosures, minimum present value benefit, etc.), and a lump-sum window was a viable de-risking option for participants already in pay status. Sure, the rulings technically applied only to the sponsors that requested the rulings, but the IRS’s position was graciously accepted by the defined benefit plan community and appeared patently consistent with the regulations.
Just yesterday, the IRS made a rather abrupt about-face in Notice 2015-49, and decided that defined benefit plans could NOT accelerate benefits already being paid through the use of a lump-sum window amendment, effective immediately. While implicitly noting that the A-14(a)(4) amendment exception likely covered these window amendments, the IRS now believes it is too broad, and will amend the regulations to specifically exclude lump-sum window amendments from the exception.
Some plans that have taken steps to implement a lump-sum window may be allowed to proceed under this new guidance, so if you have already started down this road, you may be ok. Also, the guidance only addresses retirees, so a lump-sum window for participants who are not yet in pay status is still allowed. However, if you are considering de-risking your defined benefit plan, a lump-sum window for retirees is one option you can cross off your list.
Only a year ago, the IRS issued a series of private letter rulings approving the use of a plan amendment in a defined benefit plan that established a temporary window for participants that were already receiving an annuity to take a lump-sum election instead. The election windows seemed to be a win-win proposition – plans de-risk by cashing out long-term benefit liabilities, and participants that originally elected to receive an annuity could reassess their retirement situation, and cash out if it was the more appealing option the second time around.
However, to offer the windows, defined benefit plans had to get around some pesky 2004 IRS regulations that prohibited increases in benefits after a participant began to receive them (see A-14(a)). The regulations contained several exceptions, and the IRS took the position in last year’s private letter rulings that a lump sum window amendment did not violate the prohibition against increasing benefits because it fell under an exception that allowed an amendment to a plan to increase benefits (A-14(a)(4)). Thus, simply amend your plan, abide by the other limitations imposed by the rulings (spousal consent, disclosures, minimum present value benefit, etc.), and a lump-sum window was a viable de-risking option for participants already in pay status. Sure, the rulings technically applied only to the sponsors that requested the rulings, but the IRS’s position was graciously accepted by the defined benefit plan community and appeared patently consistent with the regulations.
Just yesterday, the IRS made a rather abrupt about-face in Notice 2015-49, and decided that defined benefit plans could NOT accelerate benefits already being paid through the use of a lump-sum window amendment, effective immediately. While implicitly noting that the A-14(a)(4) amendment exception likely covered these window amendments, the IRS now believes it is too broad, and will amend the regulations to specifically exclude lump-sum window amendments from the exception.
Some plans that have taken steps to implement a lump-sum window may be allowed to proceed under this new guidance, so if you have already started down this road, you may be ok. Also, the guidance only addresses retirees, so a lump-sum window for participants who are not yet in pay status is still allowed. However, if you are considering de-risking your defined benefit plan, a lump-sum window for retirees is one option you can cross off your list.