(b)lines Ask the Expert – Terminating the Old and Starting Anew

March 3, 2009 (PLANSPONSOR (b)lines) - A plan adviser asks: "If a plan sponsor wants to terminate its existing 403(b) plan and start a new one, does it have to wait a year before starting the new one?"

They may have to.  In order for a section 403(b) plan to be considered terminated, all accumulated benefits under the plan must be distributed to all participants and beneficiaries “as soon as administratively practicable” after termination of the plan.  But under the regulations, the employer that sponsored that terminated plan is required to not make contributions to any section 403(b) contract (known as a “successor 403(b) plan”) during the period beginning on the date of plan termination and ending 12 months after distribution of all assets from the terminated plan. 

However, if at all times during the period beginning 12 months before the termination and ending 12 months after distribution of all assets from the terminated plan fewer than 2% of the employees who were eligible under the terminated 403(b) plan as of the date of plan termination are eligible under an alternative section 403(b) plan, that alternative 403(b) plan can be disregarded for purposes of that prohibition.

The consequence of violating this rule would be impermissible plan distributions, which would cause all affected contracts to fail to satisfy section 403(b). 

So the practical answer is that if the employer intends to create a successor 403(b) plan within 12 months after the final distribution from a terminated 403(b) plan, it should instead freeze and continue to maintain the old 403(b) plan rather than terminate it.  Of course, that would require the kind of continued administration that the employer was probably trying to avoid.

-David Powell, Groom Law Group, Chartered

NOTE: This feature is to provide general information only, does not constitute legal advice as part of an attorney-client relationship, and cannot be used or substituted for legal or tax advice.

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