“Is the guidance that the Internal Revenue Service (IRS) issued practical with respect to distribution of annuity contracts? And what about custodial accounts?”
Michael A. Webb, vice president, Retirement Practice, Cammack LaRhette Consulting, answers:
Excellent question! Sometimes, even the Experts cannot provide definitive answers to reader questions, since the definitive answer still does not exist from a regulatory standpoint. And that is indeed the case with regard to plan terminations, which remain a complicated issue.
Back in 2011, we addressed the unresolved issues regarding 403(b) plan termination issue in an Ask the Experts Q&A (see “(b)lines Ask the Experts – Plan Termination Unknowns”) and, unfortunately, little has changed in the intervening three years. The IRS guidance issued at that time regarding termination allowed for relatively simple termination distributions with respect to group annuity contracts, since delivery of a full-paid individual annuity contract is considered to be a full distribution for plan termination purposes, eliminating the requirement for such contracts to be distributed in cash.
However, issues regarding contracts already received by a participant, such as individual annuity contracts or certificates in a group annuity contact, a common occurrence in 403(b) plans, were unresolved. In addition, custodial accounts must be distributed in cash upon termination, which may be an issue (for example, if the custodial agreement does not otherwise permit a distribution upon plan termination). In addition, as pointed out in the 2011 Q&A, there may be issues with the Department of Labor for Employee Retirement Income Security Act (ERISA) plans as well, if all plan assets were not distributed in cash (as is the case with the delivery of fully-paid individual annuity contract, above).
Thus, the only plan termination type that the Experts know is acceptable from a plan termination perspective is one where every penny of plan assets is paid to participants in cash. However, in 403(b) plans, cash distribution of all assets is often impossible or impractical, especially where legacy contracts are involved.
Thus, if you are contemplating a termination of a 403(b) plan, be certain to work with counsel who is well versed in such issues.
NOTE: This feature is to provide general information only, does not constitute legal advice, and cannot be used or substituted for legal or tax advice.