Eligible 457 Plans: What’s New? (Posted on September 10, 2004 by )


  1. American Jobs Creation Act of 2004 (H.R.4520), passed by the House and Senate and in conference as of July 15, includes provisions regarding deferred compensation applicable to all employers. Section 671 of the Act provides as follows:
    1. Mini-457 for all plans, not just those of tax-exempts.
    2. Does not impose caps, but imposes tax upon vesting unless its standards are met.
    3. Distributions
      1. Limited in all instances to
        1. separation from service,
        2. the date the participant becomes disabled (total disability for not less than 12 months),
        3. death,
        4. a specified time (or pursuant to a fixed schedule) specified under the plan at the date of the deferral of such compensation,
        5. to the extent provided by the Secretary, a change in the ownership or effective control of the corporation, or in the ownership of a substantial portion of the assets of the corporation, or
        6. the occurrence of an unforeseeable emergency.
      2. Further limited in the case of “specified employees”

        1. No earlier than 6 months after the date of separation from service.
        2. For this purpose, a specified employee is a key employee (as defined in section 416(i)) of a corporation the stock in which is publicly traded on an established securities market or otherwise.

    4. Investment options. The plan must provide that the investment options a participant may elect under the plan-
      1. are comparable to the investment options which a participant may elect under the defined contribution plan of the employer which-
        1. meets the requirement of section 401(a) and includes a trust exempt from taxation under section 501(a), and
        2. has the fewest investment options, or
      2. if there is no such defined contribution plan, meet such requirements as the Secretary may prescribe (including requirements limiting such options to permissible investment options specified by the Secretary).
    5. Acceleration of benefits. The plan must not permit the acceleration of the time or schedule of any payment under the plan, except as provided by the Secretary in regulations.
    6. Elections
      1. Initial elections. The plan must provide that compensation for services performed during a taxable year may be deferred at the participant’s election only if the election to defer such compensation is made during the preceding taxable year or at such other time as provided in regulations. In the case of the first year in which a participant becomes eligible to participate in the plan, such election may be made with respect to services to be performed subsequent to the election within 30 days after the date the participant becomes eligible to participate in such plan.
      2. Changes in the time and form of distribution. In the case of a plan that permits under a subsequent election a delay in a payment or a change in the form of payment-
        1. the plan must require that such election not take effect until at least 12 months after the date on which the election is made,
        2. with certain exceptions, the plan must require that the first payment with respect to which such election is made be deferred for a period of not less than 5 years from the date such payment would otherwise have been made, and
        3. the plan requires that any election related to a payment described in paragraph (2)(A)(iv) may not be made less than 12 months prior to the date of the first scheduled payment under such paragraph.
      3. The plan must not permit more than one subsequent election to delay any payment.
    7. Funding
      1. Offshore property in a trust or similar arrangement.

        1. If offshore assets are held for purposes of paying deferred compensation under a nonqualified deferred compensation plan are treated for purposes of section 83 as property transferred in connection with the performance of services whether or not such assets are available to satisfy claims of general creditors:
          1. at the time set aside if such assets are located outside of the United States, or
          2. at the time transferred if such assets are subsequently transferred outside of the United States.
        2. This rule does not apply to assets located in a foreign jurisdiction if substantially all of the services to which the nonqualified deferred compensation relates are performed in that jurisdiction.

      2. Changes in the employer’s finances. In the case of a nonqualified deferred compensation plan, there is a transfer of property within the meaning of section 83 as of the earlier of-
        1. the date on which the plan first provides that assets will become restricted to the provision of benefits under the plan in connection with a change in the employer’s financial health, or
        2. the date on which assets are so restricted.
  2. Rev. Rul. 2004-12
    1. If an eligible retirement plan separately accounts for amounts attributable to rollover contributions to the plan, distributions of those amounts are not subject to the restrictions on permissible timing that apply, under the applicable requirements of the Internal Revenue Code, to distributions of other amounts from the plan.
    2. Applicable only to rollovers, not plan-to-plan transfers.
  3. Deemed IRAs
    1. A section 457 plan may include a deemed IRA.
    2. Although normally the custodian of an IRA must be a bank or other approved entity, Temp. Treas. Reg. § 1.408-2(e)(8)T provides that a governmental unit is an acceptable trustee of a deemed IRA.
    3. The IRS may exempt a governmental unit from certain other requirements upon a showing that the governmental unit is able to administer the deemed IRAs in the best interest of the participants. And IRS may apply the other requirements in a manner that is consistent with the applicant’s status as a governmental unit.
    4. Separate accounts must be maintained for IRA assets and other assets. Moreover, if either the IRA or the qualified plan fails to meet statutory requirements, both the qualified plan and the deemed IRA may lose their tax-favored status. By contrast, if the deemed IRA assets are held in trusts separate from those funding the qualified plan, a failure of the deemed IRA to meet statutory requirements will not jeopardize the tax-favored status of the qualified plan or vice versa. [Treas. Reg. § 1.408(q)-1. (July 22, 2004)] It may therefore be wise, where commingling of assets is desirable, for the plan and each deemed IRA to have a separate trust, and for all the trusts then to participate in a group trust described in Rev. Rul. 2004-67, 2004-28 I.R.B. 28, which is not subject to disqualification if one of the participating entities loses its tax-favored status.
  4. Union-managed plans
    1. Rev. Rul. 2004-57, 2004-24 I.R.B. 1048, set forth the conditions under which a plan offered and administered by a labor union would be treated as a an eligible governmental plan under Code section 457(b). It stated that a plan does not fail to be an eligible governmental plan under under Code section 457(b) solely because the plan is offered and administered by a union, provided that it covered only employees of the governmental employers that established and maintained the plan.
    2. Announcement 2004-52, 2004-24 I.R.B. 1071 provided relief to a 457(b) plan plan established before June 14, 2004 that did not meet the terms of Rev. Rul. 2004-57 as a result of being established and maintained by a labor organization instead of being established and maintained by an eligible governmental employer under the following conditions:
      1. contributions to the plan cease with respect to payroll periods that begin after December 31, 2004, and
      2. either of the following corrective actions is completed by December 31, 2005:
        1. The eligible employer as defined under § 457(e)(1)(A) adopts the plan, or
        2. The accounts of the employees under the plan are transferred (not rolled over) into an eligible governmental plan maintained by the eligible employer as defined under § 457(e)(1)(A) in accordance with the requirements of Treas. Reg. § 1.457-10(b)(4).
  5. Model Amendments for governmental 457 plans
    1. Amendments protect employer that adopts them, but are not required.
    2. Plans must be amended for EGTRRA requirements by Dec. 31, 2005
    3. Prompt contributions – Annual Deferrals shall be treated as contributed within a period that is not longer than is reasonable for the proper administration if the contribution is made to the Trust Fund within 15 business days following the end of the month in which the amount would otherwise have been paid to the Participant.
    4. A disabled participant may elect annual deferrals during any portion of the period of his or her disability to the extent that he or she has actual compensation (not imputed compensation and not disability benefits) from which to make contributions to the plan and has not had a severance from employment.