Teachers Sue over Illegal Post-Retirement 403(b) Contributions

The retired teachers say they were subject to taxes to which they would not have been if the school district had followed 403(b) regulations.

A Wisconsin appeals court has revived a case brought by retired teachers against their school district and plan vendors for damages incurred as a result of the school district violating 403(b) regulations with respect to post-retirement 403(b) contributions.

A Wisconsin circuit court dismissed the case on the sole ground that 26 U.S. Code Section 7422 requires the retirees to seek their recovery from the federal government. But, according to the appeals court opinion, Section 7422(a) prohibits civil actions “for the recovery of any internal revenue tax alleged to have been erroneously or illegally assessed or collected, or … of any sum alleged to have been excessive or in any manner wrongfully collected. The appeals court said the circuit court erred in applying Section 7422 in this case.

The appeals court noted that the retirees allege in their amended complaint that they relied on representations by the Neenah Joint School District and MidAmerica Administrative & Retirement Solutions that the stipends they received in retirement had certain tax advantages; that the district and MidAmerica administered and structured the retirement plan such that it did not meet those representations; and that as a result, the retirees faced immediate demands for payments of federal and state taxes and interest that they would not have faced if the district and MidAmerica had administered and structured the plan according to Internal Revenue Service (IRS) regulations. The retirees do not make any allegations that the IRS imposed any erroneous or illegal tax. The retirees did not bring suit for the recovery of any internal revenue tax.

According to the court opinion, the school district offered a retirement plan to its teachers and administrators, in part to accomplish the early retirement of long-term employees. As part of the inducement, the district represented that—if retirees accepted the offer—the retirees would receive ten years of cash stipends under the 403(b) plan administered by the district. The retirees relied on the district’s representations that these stipends qualified for tax advantages. 

The IRS conducted an audit of the retirement plan and concluded that the stipends did not qualify for 403(b) tax advantages as the payment term exceeded the maximum term allowed by 403(b) regulations. The IRS entered into a settlement agreement with the district under which the district agreed to pay $60,000 to the federal government and the IRS agreed to treat the first five and one-half years of the plan’s payments as compliant with 403(b).

Following the settlement, the federal and state government assessed income taxes and interest against the retirees for the four and one-half years’ worth of stipends that fell outside the 403(b)-approved terms. The district sought reimbursement from the retirees for amounts that it claimed it had paid to the IRS for the “employee share” of FICA taxes.  

The opinion in Cattau v. National Insurance Services of Wisconsin et. al. is here.

NEXT: A statement from MidAmerica Administrative & Retirement Solutions.

In a statement, MidAmerica Administrative & Retirement Solutions said:

“MidAmerica Administrative & Retirement Solutions, Inc. is aware that the Wisconsin Court of Appeals recently allowed a claim to move forward related to certain retirement benefits offered by one of their clients, which included a 403(b) plan for which MidAmerica provided recordkeeping services. At issue are payments that were made outside of the 403(b) plan.

“An IRS audit that preceded the litigation required no alterations to the 403(b) plan, did not require any corrective distributions, and ordered no changes to the tax treatment of the 403(b) plan contributions. Despite these facts, the former employees included MidAmerica in the suit.

“Accordingly, MidAmerica is working with their client to have the suit denied in its entirety. A petition has been filed with Wisconsin Supreme Court to seek review of the Court of Appeals’ erroneous decision to allow the case to proceed.”