- The Grisly Death of Determination Letters for Individually Designed Plans
- April 18, 2016 | Authors: Kevin L. Burch; David S. Rosner
- Law Firms: Ogletree, Deakins, Nash, Smoak & Stewart, P.C. - Indianapolis Office ; Ogletree, Deakins, Nash, Smoak & Stewart, P.C. - Washington Office
- The Internal Revenue Service (IRS) announced last year that it would end its staggered five-year remedial amendment cycle system for individually designed retirement plans under the determination letter program due to budgetary constraints and a lack of resources. The remedial amendment cycle system had allowed plan sponsors to have the IRS approve the plan document language of their individually designed plans at regularly scheduled intervals. The cancelled program provided plan sponsors with significant legal protections, encouraged compliance with required changes in the law, and gave sponsors a blueprint for following the terms of the plan in operation. Many problems—and no apparent solutions—have resulted from the loss of this valuable program.
The Current Law
Currently, other than for Cycle A filers, no new filings based on the five-year remedial amendment cycle system will be accepted; Cycle B, C, D, and E filers are no longer able to obtain a favorable determination letter every five years. If an employer’s employer identification number ends in a “1” or “6,” then it is a Cycle A filer. Certain controlled groups with multiple individually designed plans on different cycles could elect into Cycle A, but the IRS is now requiring that such an election have been made by January 31, 2012, to be considered a Cycle A filer. Cycle A filings are due January 31, 2017.
The IRS still permits individually designed plans to make determination letter filings whenever a plan is established or terminated. When a plan is established, a filing may be made at any time; when a plan is terminated, a filing must be made within 12 months of the termination. With respect to times occurring between these events, the IRS has requested comments on when it should permit determination letter filings for individually designed plans. In addition, the IRS issued guidance invalidating the expiration dates on favorable determination letters issued prior to January 4, 2016; moreover, the IRS will issue subsequent favorable determination letters without an expiration date.
Discontinuing the ability of plan sponsors to regularly file determination letter applications is a loss that cannot be understated. Both legal and practical problems arise when plan sponsors cannot regularly have their form of plan qualification reviewed and approved by IRS.
Legally, the IRS must rewrite and harmonize the law surrounding favorable determination letters. The IRS must address the interaction between determination letter filings and the Employee Plans Compliance Resolution System (EPCRS), remedial amendment period regulations, and Internal Revenue Code section 7805 relief.
EPCRS requires plan sponsors to have received a favorable determination letter in order to use self-correction for significant failures and, in limited circumstances, self-correction by retroactive amendment. In addition, making certain EPCRS corrections for missed amendments compel a plan sponsor to submit new a determination letter filing in the next “on-cycle” submission period. Yet this type of determination letter filing is no longer accepted.
Under the remedial amendment period regulations, a plan’s remedial amendment period is extended automatically until the 91st day following the issuance of a favorable determination letter. This extension, however, will no longer apply to individually designed plans except for determination letter filings related to initial plans or terminating plans.
Section 7805 relief historically provided reassurance to plan sponsors regarding plan language under a favorable determination letter. The plan sponsor could confidently administer its plan in accordance with the plan’s terms through reliance on a favorable determination letter. Section 7805 relief is effectively eliminated for individually designed plans.
In practice, plan sponsors, banks, and insurance companies rely on favorable determination letters for daily administration, corporate transactions, and exemption from certain securities registrations. Much of that reliance is premised on the issuance of current, regularly scheduled favorable determination letters.
Plan Sponsors. Plan sponsors rely heavily on favorable determination letters to administer and interpret plan terms. Until now, determination letters acted as a periodic governmental verification that, as drafted, a plan complied with the myriad of plan qualification requirements. Nowhere was this more important than with new legislation, regulation, guidance, and court decisions regarding retirement plans. Establishing retirement plan terms that will satisfy the ever-growing, interconnected complexity of plan qualification will be a seminal issue in years to come. One major congressional act on retirement plans could potentially relegate existing favorable determination letters to little more than pieces of paper.
Corporate Transactions. Corporate transactions involving one plan sponsor’s acquisition of, or merger with, another plan sponsor require a review of determination letters when conducting due diligence on the prospective retirement plans. Without the ability to obtain favorable determination letters for individually designed plans, plan sponsors may seek alternative means of limiting potential or unknown liabilities lurking in individually designed plans. Some plan sponsors may require stiffer contractual representations and warranties or covenants in acquisition agreements, termination and liquidation of a retirement plan rather than assumption or merger of such plan, a legal opinion as to the qualified status of an individually designed plan, or a combination of some or all of these.
Financial Institutions. Banks and insurance companies rely heavily upon exemptions from the registration requirements under the Securities Act of 1933 and the Investment Company Act of 1940 when offering collective trust funds and pooled separate accounts to qualified retirement plans. One condition that must be satisfied to obtain these exemptions is that the bank or insurance company only offer these investment funds to “qualified” retirement plans. Without the ability to seek favorable determination letters for individually designed plans, banks and insurance companies will have significantly increased compliance costs to maintain their offerings, which will likely be passed on to plan sponsors or participants.
The IRS has stated that determination letter filings for individually designed plans are still available upon the establishment and termination of a plan. However, it is uncertain whether the IRS will permit additional determination letter filings for individually designed plans during the lifespan of a qualified retirement plan, offer additional support or resources to ease the impact of the loss of regular favorable determination letters, or modify the rules and consequences surrounding the timing of plan amendments.
Allow Discrete Filings. The IRS should consider permitting discrete determination letter filings related to sections of an individually designed plan. Although significant new legislation or regulatory law should be the primary focus, allowing for new determination letter filings upon important changes to a plan, such as a plan merger, should be seriously considered. The IRS should also make a practice of consistently issuing form or model amendments in the wake of new law. These suggestions are reasonable and aimed to protect plan sponsors while achieving the IRS’s overall goal of workload reduction.
Simplify Administration. Also, the IRS should consider easing the rules and consequences surrounding plan amendments. Simplifying administration should be the focus. Currently, many plans must be timely amended for inapplicable law. If new law can change a plan’s administration, the amendment should be required; otherwise, it should not be. Further, the IRS should permit more plan document corrections to be made via EPCRS’s self-correction program (assuming the document failure did not produce an operational failure with the plan’s terms or applicable law).
Sponsors: Use Cookie-Cutter Plan Documents. Employers may wish to consider adopting preapproved plan documents (e.g., prototype or volume submitter). The IRS has no current intention to cease the preapproved plan document program, which continues to issue opinion or advisory letters (which are determination letter equivalents) on a regularly scheduled six-year cycle. For many employers, however, this may not be a viable solution. An individually designed plan is individually designed for a reason and, generally, that reason is that one or more of its features will not fit on a preapproved plan document.
A partial solution to limit liability may be for plan sponsors with complex provisions to seek advice as to the qualified status of their individually designed plans.
Regardless of how the IRS chooses to proceed, the cost and liability associated with maintaining individually designed plans will significantly increase. At this point, neither employee benefits practitioners nor the IRS knows the full impact of losing regular determination letter filings on individually designed plans. All we can hope is that the IRS understands the difficult burden now placed on plan sponsors and that it will endeavor to ease that burden as much as possible.