The regulations as outlined by the Groom Law Group follow.
What is an Elective Deferral?
The final regulations clarify that, for purposes of applying the limit on elective deferrals (Code sec. 402(g)), an elective deferral does not include a contribution pursuant to a one-time irrevocable election made on or before an employee’s first becoming eligible to participate, or a contribution made as a condition of employment. According to a temporary regulation under Code section 3121(a)(5)(D) that reflects the Service’s longstanding position, FICA taxes, however, apply to all salary reduction contributions, whether elective or nonelective. This temporary regulation, which was published on the same day as the proposed regulations, is set to expire on November 16, 2007. However, the preamble to the final regulations specifically cites to this temporary regulation, confirming its applicability. (It is not clear why that temporary regulation was not finalized with these final regulations.)
The final regulations clarify that an elective deferral can be either a pre-tax elective deferral or a Roth contribution. This is a helpful recognition that Roth 403(b) contributions are allowed.
Excess Contributions and Deferrals
Excess elective deferrals (deferrals that exceed the limits described in Code sections 402(g) or 415(c), disregarding catch-up contributions under Code section 414(v) and the special 403(b) catch-up contributions described in the regulations) will not result in a 403(b) failure if distributed, with allocable net income, by April 15 of the following year, or another correction method available under the same rules as apply to 401(k) excess deferrals. If excess deferrals are not distributed, but instead are retained in the contract, then the portion of the contract that includes the excess amounts must be treated as a separate account that is a nonqualified annuity contract under Code section 403(c).
Interaction of Age 50 Catch-Up Contributions and Special 15-Year Catch-Up/Expansion of Applicability of the Special Catch-Up
The final regulations adopt the unpopular position that, if an employee is eligible for both the age 50 catch-up and the special 403(b) catch-up for certain employees with 15 years of service, any catch-up contribution is first applied as the special 15-year 403(b) catch-up, and to the extent that is exceeded, is treated as age 50 catch-up. This can result in inadvertent under-utilization of the special catch-ups. The special 403(b) 15-year catch-up rules apply only to certain employees who work for “qualified organizations.” The final regulations expand the list of qualified organizations listed in the proposed regulations to also include a tax-exempt organization controlled by a church related organization, an adoption agency, and a home health service agency that provides help to the disabled or to persons with substance abuse problems.
Years of Service for “Includible Compensation” and 15-Year Catch-Up Rules
The final regulations continue the prior guidance (and the proposed regulations) on determining “includible compensation” for the 415 limit of 100% of includible compensation, and for determining if an employee has 15 years of service with a qualifying employer for the special 403(b) catch-up rule. This guidance includes aggregating part-time and seasonal service into full years, using the employer’s annual work period (e.g., an academic year) and not necessarily the calendar year, and determining a year of service based on common-law employment, not on a controlled group basis (except in the case of church plans, which have a special aggregation rule).
Definition of “Includible Compensation”
The final regulations also follow prior rules on defining includible compensation. Generally, includible compensation includes an employee’s compensation that is includible in his gross income, including amounts deferred under a cafeteria plan, a qualified transportation fringe, or a 401(k), 403(b) or 457(b) plan. It does not include any compensation an employee received while his employer was not an eligible employer.
Post-Employment Contributions
The final regulations incorporate the special, favorable rule added by EGTRRA that deems a former employee to have includible compensation for the period through the end of the taxable year of the employee in which he or she ceases to be an employee and for the next five taxable years. The regulation applies this rule to Code section 415 as well, but only permits nonelective employer contributions. In addition, the final rules contain an example indicating that post-employment compensation is cut off after a former employee dies. It is unclear what happens to the amounts that would have been contributed after death (e.g., may they be paid to the beneficiary as a death benefit?).
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.