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Be sure to ask this fiduciary question! |
We recently heard a story about a consumer
who was trying to remove an invalid charge from his
account through a call center who screamed into the
phone, “Are
you an idiot?” only to have the individual on the other end of the phone
announce, “I am not at liberty to discuss our location.”
Outsourcing—it is everywhere, even in the employee benefit area, and that
should concern employers and plan administrators.
That is, with some outsourcing services, employers may not know where they are
sending confidential health and financial information to be processed in the
administration of their plans. If processed in many locations outside of the
U.S., there may be little or no protection of that information. The United States,
Canada, and Japan do a pretty good job of protecting consumer data information
through their privacy laws. However, countries growing in outsourcing services,
such as Brazil, India, and China, have few, if any, privacy protections according
to a privacy report prepared by Atlantic Information Systems (AIS). The full
report is available from AISHealth.com.
Thus, employers need to understand who and where the retirement plan’s
financial, and in the case of welfare benefits, health information, will be sent
for benefit administration. Employers should also receive some independent confirmation
of the outsourcer’s policy regarding the protection of confidential information.
In addition, beware, according to AIS report, if your information is being processed
in Brazil, India or China, it is likely that that data is insecure and vulnerable
to theft, unauthorized access, and misuse.
There is probably only one way for the employer to attempt to determine whether
its data is transferred out of the U.S. You need to ask and get your answer in
writing. Also review the third-party administrator’s and recordkeeper’s
SAS 70 report that should identify the firms’ privacy policy. Privacy of
financial information is an involving area of the law, and members of Congress
have proposed legislation that would impose penalties and restrict the availability
of data to unsafe sources. It is sure to be a growing focus of the public’s
attention. We will keep our readers posted. |
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Military Employees return to new retirement plan rules |
On December 19, 2005, the Department
of Labor (DOL) issued final regulations to implement
the Uniformed Services Employment and Reemployment
Rights
Act of 1994 “USERRA.”
These regulations became effective January 18, 2006. In conjunction with
these regulations, the DOL also released an updated version of the employer
notice that must be posted to inform employees of their rights, benefits,
and obligations under USERRA. Basically, USERRA is the federal law that
allows individuals called up for military service to return to their jobs
at the same pay, benefits, and status following a return to work after
that military service. A copy of the new notice is available at www.dol.gov.
The new regulations have been written in a question and answer format.
They address an employer’s obligations and responsibilities regarding
the reemployment of employees returning to work after military service.
In this article, we will address the key provisions of the new regulations
that affect an employer’s qualified retirement plan.
Several questions highlight the employee’s activity before and after
the military service. For example, an employee need not begin his or her
military service immediately after leaving employment to be eligible for
USERRA reemployment rights. That is, the service member is allowed adequate
time to rest after a lost work day, take time off to arrange affairs, and
time to travel safely to where the military service begins.
Where the service member fails to report for or apply for reemployment
with the former employer promptly after a period of military service, entitlement
to USERRA’s reemployment rights are not automatically forfeited.
Instead, the employee becomes subject to the employer’s policies
and practices pertaining to an absence from schedule work.
Note also that if an employee was laid off, was on a layoff status or leave
of absence when the military service begins, the individual is an “employee” for
purposes of USERRA rights. This service member is entitled to reemployment
after the military service if the “laid-off” employee would
have returned to work had the military service not occurred.
Basically, a service member is entitled to reemployment in the job or position
that he or she would have attained with reasonable certainty but for the
period of military service. Depending on the length of the employee’s
military service, the service member may have up to 90 days after completing
the military service to seek reemployment with the pre-service employer.
The service member may accept employment with another employer during this
reemployment period without losing reemployment rights. Only employment
with another employer that would constitute grounds for termination under
the employer’s policies will invalidate this reemployment period
right; for example, employment with a direct competitor.
USERRA on returning veterans’ pension
plans
The final USERRA regulations include special requirements for “pension
benefit plans.” This term has a meaning that is similar to its application
under ERISA, i.e., it includes pension, profit sharing, ESOP, and other
qualified plans. For retirement plan purposes, once the employee is rehired
after returning from military leave, the service member is treated as not
having had a break in service, even though the service member was away
from work performing military service. Thus, for purposes of determining
eligibility, vesting, or determining the amount of contributions or employee
deferrals to the plan, the reemployed service member is treated as though
he or she had remained continuously employed.
Employer contributions to a retirement plan that are not dependent on an
employee’s contributions (profit sharing allocations or pension accruals)
must be made by the later of: 90 days following reemployment of the service
member or when contributions are normally made for the year in which the
military service was performed.
Salary deferrals to a 401(k) plan for the period of military leave can
be made on a retroactive basis extending over a period of time. These employee
contributions can be made starting with the service member’s reemployment
and continuing for up to three times the length of the service member’s
most recent military service, but not exceeding five years.
Employers’ extended definition
If you are wondering who has the responsibility for following the USERRA
requirements, it is the “employer.” However, “employer” under
the final regulations has a broad definition. Here, individual supervisors
and managers who have control over employment opportunities, and individuals
to whom the employer has delegated the performance of such responsibilities
can be held personally liable as an “employer” under the Act.
Note that National Guard Service under the authority of state laws does
not qualify for USERRA rights. Federal National Guard service does qualify.
Finally, while some terminology found in USERRA is taken directly from
ERISA (e.g., pension plan), USERRA reemployment rights are not limited
to ERISA plans. Thus, benefits under a nonqualified top hat or excess benefit
plan are also subject to these reemployment rights. |
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Roths’ status not finalized by Congress. |
Apparently, there is still an open issue
relating to qualifying for tax-free distributions
from a Roth 401(k). The issue arises if EGTRRA,
the 2001
pension reform legislation that, among other things, created Roth 401(k)
accounts, is not extended and relates to the question of whether a distribution
from a Roth 401(k) meets the five-year requirement for a tax-free withdrawal.
IRS speakers at the ABA Tax section meeting in San Diego earlier this year
commented that it may be necessary to roll a Roth 401(k) distribution to
a Roth IRA before the amounts distributed qualify for tax-free withdrawal.
It seems the IRS believes that you cannot count the calendar years after
2009—the date that EGTRRA sunsets—as part of this five-year
holding Roth period. For most highly paid taxpayers, this would mean leaving
the rollover in the Roth IRA for an additional five years to obtain the
full tax benefits of a Roth.
This result is suggested in the preamble to the proposed regulations released
in January 2006 on the taxation of Roth 401(k) distributions. A distribution
from a Roth 401(k) account does not qualify as a tax-free distribution
unless it satisfies both a “qualified purpose” and the five
year participation threshold. The preamble to the proposed distribution
regulations addresses this issue under the heading “Determination
of 5-Taxable-Year Period After a Rollover to a Roth IRA.”
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The preamble states: |
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“Section 402A (dealing with the Roth 401(k)) and Section
408A (dealing with the Roth IRA) each provide for a 5-taxable-year
period that must be completed in order for a distribution from
a designated Roth account or a Roth IRA to be a qualified distribution.” However,
each of these sections contains different rules for determining
when the five-taxable-year requirement is satisfied. Generally,
under Section 402A, satisfaction of the five-taxable-year requirement
with respect to a designated Roth account under a plan is based
on the years since a designated Roth contribution was first made
by the employee under that plan. In contrast, the five-year period
under IRC § 408A begins with the first taxable year for
which a contribution is made to any Roth IRA.
“
The IRS commentators suggested that, if a distribution from a
designated Roth account to an individual is rolled into a Roth
IRA, the individual will receive credit under the five-year rule
in IRC § 408A for the years since the individual first made
a contribution to a designated Roth account. The IRS and Treasury
Department do not believe that the Code permits this interaction
between the two five-year rules. Instead, these proposed regulations
would provide that the five-taxable-year period described in
Section 402A and the five-taxable-year period described in Section
408A(d)(2)(B) are determined independently. Thus, in the case
of a rollover of a distribution from a designated Roth account
maintained under a Section 401(k) or 403(b) plan to a Roth IRA,
the period that the rolled over funds were in the designated
Roth account does not count towards the five-taxable-year period
for determining qualified distributions from the Roth IRA. However,
if an individual had established a Roth IRA in a prior year,
the five-year period for determining qualified distributions
from a Roth IRA that began as a result of that earlier Roth IRA
contribution applies to any distributions from the Roth IRA (including
a distribution of an amount attributable to a rollover contribution
from a designated Roth account).” |
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The proposed regulations reflect a requirement in IRC § 402A that
the five-taxable-year period begins on the first day of the taxable year
in which the employee first contributes to the plan (the start year of
the “five-year clock”) and ends after the passage of five consecutive
taxable years in which the plan is a Roth 401(k). Apparently, the year
2010, the year after the sunset of EGTRRA, is not such a year.
As noted above, in some cases a nine-year requirement may apply. If the
Roth provisions of EGTRRA are not extended for at least a year, then you
may need to transfer a 401(k) distribution consisting of a Roth account
to a Roth IRA in order to satisfy the five-year requirement. The proposed
regulations set a separate five-year requirement for Roth IRAs and Roth
401(k)s. That is, you cannot tack on one year in the Roth IRA to the four
years of a Roth 401(k) (2006 to 2009) to satisfy the five-year rule. The
rollover would have to be held in a Roth IRA that itself meets the five-year
requirement.
Additionally, a salary deferral or Roth account cannot be distributed from
a 401(k) plan unless the participant satisfies one of the plan’s
eligible distribution events (e.g., 59 1/2, termination of employment).
Thus, a highly compensated individual who is not eligible to make a Roth
IRA contribution would not be able to begin the holding period in his or
her Roth IRA until the calendar year of the Roth rollover. That could delay
receiving a tax-free withdrawal from a Roth IRA until five years after
retirement.
In addition, here is one final twist: even if EGTRRA is extended and a
Roth 401(k) distribution fully satisfies the five-year participation requirement,
a separate five-year requirement must be met before the earnings of the
rollover can be withdrawn tax-free. That is, the investment earnings on
a Roth 401(k) that is rolled to a Roth IRA cannot be withdrawn tax-free
until the Roth IRA satisfies a separate five-year requirement. This may
not be a significant problem for most individuals because of the “ordering
rule” that applies to the taxation of withdrawals from Roth IRAs
under IRC § 408A(d).
The taxation of a distribution from a Roth IRA is calculated on a “first-in,
first-out” basis. Therefore, if the Roth 401(k) distribution met
the five-year requirement, then the full amount of the rollover may be
withdrawn tax-free before any of the distribution is attributed to the
earnings on the rollover. |
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The ABCs of understanding a plan’s SAS 70 report |
The public outcry following the publication
of the details of recent corporate scandals has resulted
in a new law that has changed the way CPAs audit
large employers and their qualified plans. These changes came about through
legislature and professional efforts designed to protect the interests
of investors, including participants in a 401(k) plan. One significant
change affecting the accounting profession can be seen in changes relating
to the examination of a company’s internal controls. There are now
new rules that apply to the company’s and the plan’s internal
controls and the internal controls of certain service providers.
In order to help our readers understand the accountant’s role in
reporting on internal controls, this article will address a type of internal
control examination frequently associated with 401(k) plans: A SAS 70 report
(SAS is short for Statement on Auditing Standards). We will explain when
a SAS 70 engagement is appropriate, what is included and how it is beneficial.
History
In April 1992, the American Institute of CPAs created Statement for Auditing
Standard #70 (SAS 70), which was designed to establish professional standards
for auditing service providers, such as third-party administrators (TPAs).
Initially, SAS 70 engagements were performed primarily on large service
providers. Then, in mid-2004, when the Public Company Accounting Oversight
Board (PCAOB) released Auditing Standard #2 as a part of the Sarbanes Oxley
(SOX legislation), the use of SAS 70 reports grew in importance.
Basically, PCAOB #2 established new standards requiring external auditors
to perform an audit of a company’s internal controls, including those
services that are outsourced. This standard also allows the external auditor
to rely upon a SAS 70 report prepared by a service provider’s own
auditor in meeting this requirement. Needless to say, PCAOB #2 resulted
in an expanded application of SAS 70 engagements.
Do I need a SAS 70?
From the plan standpoint, most small 401(k) plans are exempt from engaging
a CPA to prepare an audit report with the Form 5500. For plans not exempt
from this audit requirement, the Form 5500 must include a CPA’s audit
report. That audit report will need to address the internal controls of
any third party that provides recordkeeping and benefit administration
to the plan. The plan’s auditor can either review the controls related
to those processes or rely upon SAS 70 for the service provider. It is
generally less expensive to do the latter.
The reader should note that a SAS 70 report of the recordkeeper differs
from the audit of a 401(k) plan’s financial statements. Financial
statement audits are for a particular plan, whereas a SAS 70 report covers
the services provided by a third party administrator for many plans and
that can be relied upon by all the plans that use that TPA.
Regardless of the audit requirement for the plan that is part of the Form
5500, the auditor for the corporation must now review the internal controls
of any firms that provide outsourced services that affect the employer’s
financial statements (e.g., the plan’s TPA). Here again, the company’s
auditor will need to review the SAS 70 for the plan’s recordkeeper.
This is because a plan’s TPA is considered an extension of the Plan
Sponsor’s management for the purpose of a financial statement audit.
Thus, the user organization’s external auditors are responsible for
reporting on the adequacy of the service organization’s internal
controls. The purpose of this review is to determine whether the controls
over the outsourced services cycle are adequate. In summary, almost all
TPAs will need a SAS 70 report, which would then be used by a plan’s
sponsor.
What does a SAS 70 include?
There are two types of SAS 70 reports: Type I and Type II. The primary
difference between the two reports is the level of assurance provided.
Type I engagements only report on controls that are placed in operation,
but does not test their operating effectiveness. Type II engagements, on
the other hand, not only report on the controls placed in operation, but
also require testing of the operating effectiveness of the internal controls.
The substantive testing required in a Type II engagement makes it the preferred
reporting strategy.
Unlike financial audits, the TPA has the freedom, in its SAS 70 engagement,
to tailor the engagement to focus on the controls most pertinent to the
needs of its clients. The auditors typically assist with the documentation
of the controls; however, it is important to remember that the TPA has
the sole responsibility of documenting the controls.
What are the benefits of a SAS 70 engagement?
The primary advantage of a SAS 70 engagement is a reduction in the scope
of audit engagement of a plan sponsor or the plan. A TPA that chooses not
to have a SAS 70 engagement potentially subjects itself to audit procedures
from each of its clients that require financial audits. For a Plan Sponsor
to be in compliance with Generally Accepted Auditing Standards (GAAS),
audit procedures are required of the outsourced operations. An unqualified
service auditor’s opinion provides reasonable assurance to the user
auditors that the service organization’s internal controls are adequate,
without the need for additional audit procedures. |
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Who is the plan administrator? By Eric Brust, EA |
This case serves as another reminder
that participant requests for plan information should
be taken
seriously and dealt with in a timely manner.
It also demonstrates that requests for plan information may become part
of a terminated employee’s harassment of a former employer. This
participant’s lawsuit is a multi-count lawsuit involving claims of
defamation, breach of contract, and ERISA and COBRA violations. We will
address the ERISA claim.
Timothy Osborn, an employee of the Knights of Columbus (KC), sent a letter
to the KC seeking information related to his retirement benefits after
he was told he would be terminated if he did not resign before August 31,
2003.
His ERISA claim is based on KC’s failure to prove “a copy of
any plan description, statement of accrued benefits, Summary Plan Description,
or other documents describing the benefits available,” which he requested
at least five times. Mr. Osborn’s initial request was on August 31,
2003. He did not receive a copy of the Summary Plan Description until February
12, 2004, and he was never provided a copy of the other plan documents.
KC argued that he failed to contact the plan administrator when he requested
this information. The plan identified the employer as the plan administrator,
and correspondence from KC indicated that the plan administrator could
be reached at “its headquarters in Connecticut.”
Osborn sent his requests to the KC headquarters. The court determined that
he properly contacted the plan administrator for the documents to which
ERISA entitled him. Accordingly, Mr. Osborn’s motion for summary
judgment on his claim that the KC failed to provide requested plan information
was granted. Osborn v. Knights of Columbus, 2005 U.S. Dist. LEXIS 29069
(N.D. Ohio 2005).
Many plans identify the company as the Plan Administrator without identifying
a contact person. In this case, it appears that Osborn’s letter reached
the correct party, but whoever opened it did not understand its significance.
Adding a contact to the company name when it is the “plan administrator” can
avoid that problem.
Eric Brust is an enrolled actuary at Matthews Benefit Group, Inc., St.
Petersburg, FL. |
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Note: Occasionally, articles we feel
would be of interest to our E-newsletter readers will
be presented that previously appeared in other compilations
of writings by Greg Matthews who is the Editor for 401(k) Advisor from Aspen Law & Business. |
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IRS CIRCULAR 230 DISCLOSURE: To ensure
compliance with the requirements imposed on us by IRS
Circular 230 (31 C.F.R. 10.33 - 10.37, et. seq.), we
inform you that to the extent this communication, including
attachments, mentions any federal tax matter it is not
intended or written and cannot be used, for the purpose
of avoiding Federal Tax penalties. In addition, this
communication may not be used by anyone in promoting,
marketing or recommending the transaction or matter
addressed herein. Anyone other than the recipient who
reads this communication should seek the advice based
on their particular circumstances from an independent
tax advisor. |
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