Demutualization Proceeds Not Considered Plan Assets for a Terminated Plan. In Department of Labor (DOL) Advisory Opinion 2003-05A, the Employee Benefits Security Administration determined there is no obligation under the Employee Retirement Income Security Act (ERISA) to treat demutualization proceeds as plan assets with respect to a terminated plan. A demutualization occurs when a mutual life insurance company converts to a stock life insurance company. Usually the equity value of the company is distributed to eligible policyholders in the form of cash or stock. The DOL determined the question of whether the employer or the beneficiaries of an annuity contract are the actual owners of the demutualization proceeds is governed by the terms of the contract and applicable state law, not ERISA. In this situation, the employer terminated its pension plan and purchased an annuity contract to satisfy the outstanding benefit obligations of the plan. The opinion noted when a pension plan purchases an annuity from an insurer as a distribution of benefits, the plan’s liability for the benefits is intended to be transferred to the annuity provider. As such, the demutualization proceeds did not have to be treated as plan assets. (DOL Op. Ltr. 2003-05A, 4/10/2003.)

Governmental/Tax Exempt Deferred Compensation Reporting and Withholding Rules. The Internal Revenue Service (IRS) published Notice 2003-20 to describe income tax withholding and reporting requirements for deferred compensation plans governed by Internal Revenue Code (IRC) § 457(b). These are plans maintained by government and tax exempt agencies, and some of the rules in this area were changed by the Economic Growth Tax Relief and Reconciliation Act of 2001 (EGTRRA). Deferrals of income under these plans are excluded from gross income until paid out of the plan, but annual deferrals are reported on Form W-2. The direct rollover rules and mandatory 20% withholding requirements, familiar to administrators of qualified plans, are extended to governmental § 457(b) plans. Periodic payments out of governmental plans not eligible for rollover are subject to elective withholding rules similar to the rules for qualified plans. Distributions from § 457(b) plans of tax exempt employers are treated as wages for income tax withholding purposes. Plan administrators are responsible for compliance with the withholding requirements and for reporting income taxes withheld from distributions on Forms 1099-R and 945 (for the governmental plans), and Forms W-2 and 941 (for tax exempts).

Payroll taxes under the Federal Insurance Contributions Act (FICA) and the Federal Unemployment Tax Act (FUTA) apply at the time of deferral under § 457, unless the amounts are subject to a substantial risk of forfeiture. Amounts subject to such a risk are exposed to payroll taxes when the risk of forfeiture lapses.

The notice is effective beginning in 2002, but the new rules will not be enforced prior to 2004 if the plan properly follows prior requirements published in 2000. (IRS Notice 2003-20, May 1, 2003.)

Length of Service Awards for Volunteer Firefighters. A plan providing deferred income based on length of service to otherwise uncompensated volunteer firefighters is ruled by the IRS to qualify as a “length of service” award plan under IRC § 457(e)(11). The special statutory rule allows a county fire department (or any other government or non-profit agency subject to Code § 457) to provide deferrals of up to $3,000 per year of service as awards for unpaid volunteers. The amounts can be deferred for income tax purposes until paid or made available to the recipient. This type of program is not subject to payroll taxes (FICA or FUTA). (Revenue Ruling 2003-47.)

CASES
Supreme Court to Hear Reverse Discrimination ADEA Case. The U. S. Supreme Court has agreed to consider whether an employer violated the Age Discrimination in Employment Act (ADEA) when it entered into a collective bargaining agreement that provides retiree health benefits only to workers who are at least 50 years old by a certain date. The U.S. District Court for the Northern District of Ohio dismissed the case, holding the ADEA does not allow claims for reverse discrimination against younger workers. In July 2002, the U.S. Court of Appeals for the Sixth Circuit reversed the lower court’s decision, ruling the ADEA prohibits employers from discriminating against any employee age 40 or older based on the person’s age. General Dynamics Land Sys., Inc. v. Cline, U.S. No. 02-1080, cert. granted 4/21/03.

Supreme Court Declines Review on Severance Plan. The Supreme Court declined to review a decision from the U.S. Court of Appeals for the Seventh Circuit that held an employer did not create an ERISA severance plan when it announced it would “develop and implement” a severance program in the event of a reduction in force. The application of ERISA to severance plans remains less than clear. XTRA Corp. told employees of its intentions several years before this lawsuit, but a severance plan was never written, announced, or otherwise established. In this case, the U.S. Supreme Court let stand the lower court decision denying relief to the plaintiffs, observing, “Vagueness alone would make it impossible for a court to provide any relief.” While making an unfulfilled statement to develop and implement a separation program may not be a good business practice, such a statement does not constitute a plan under ERISA, at least in the Seventh Circuit (Illinois, Indiana, and Wisconsin). Brines v. XTRA Corp., U.S. No. 02-1198, cert. denied 4/21/03.

Indemnification of Legal Expenses Incurred By Fiduciary Denied. The Second Circuit held the general partner and ERISA fiduciary of an investment fund limited partnership in which benefit plans invested was not entitled to indemnification for legal expenses incurred in pursuing several lawsuits relating to the fund. The partnership agreement for the fund contained a clause broadly indemnifying the general partner and any agent of the general partner for “any and all” expenses arising from the operation of the fund, including legal expenses. The agreement provided any indemnification would be paid from the assets of the fund. The two directors of the general partner of the fund had a falling out, and the fund investors voted to liquidate the fund. These events precipitated the filing of six lawsuits by one of the directors of the general partner. This director then attempted to seek reimbursement from the fund for legal costs he incurred. Although the lawsuits arguably related to the operation of the fund, the court held enforcing the fund’s indemnification clause would violate ERISA’s exclusive benefit rule. This rule requires plan fiduciaries to act in the exclusive interests of the plan participants and beneficiaries. The court determined the six lawsuits brought by the director sought relief, such as management fees, primarily for the director’s personal benefit rather than for the benefit of the fund. State Street Bank and Trust Co. v. Salovaara, 2d Cir., No. 02-7683 (4/15/03).

QDRO Can Be Entered After Participant’s Death. The U.S. Court of Appeals for the Tenth Circuit held a state court may enter a qualified domestic relations order (QDRO) granting a participant’s former wife survivor benefits after the participant’s death. The decedent, William Phipers, an employee of the Denver Post, was divorced from his wife in 1988. In the separation agreement, Phipers listed as an asset his interest in a union pension plan; he failed to list his interest in another pension plan sponsored by the Denver Post. At that time, a QDRO was entered, giving Phipers’ former wife a one-half interest in the plan listed in the separation agreement. After Phipers’ death in 1999, his former spouse discovered the second plan and filed a motion for the entry of a second order to include the omitted pension plan. Because the order was retroactively made effective as of the date of the original order, the court held it did not provide the ex-spouse with increased benefits beyond the scope of the original QDRO. Thus, it did not violate ERISA. Patton v. Denver Post Corp., 10th Cir. No. 02-1040 (4/23/03).

New York’s Pension Exclusion Applies to Partnership Pension. The New York Division of Tax Appeals ruled a retired partner of an accounting firm properly applied New York’s pension exclusion against his partnership pension income received from a nonqualified plan because he had an employer-employee relationship with the accounting firm. New York tax law allows a subtraction of up to $20,000 annually from federal adjusted gross income for pension amounts if they are from a qualified plan or arise from an employer-employee relationship. The administrative law judge determined an employment relationship exists if the employer exercises control over the results produced by the individual or the means used to achieve the result. In this case, the judge concluded the partnership agreement evidenced this type of control, including control over its partners. In re Schein, NY Div. of Tax Appeals, No. 818771 (3/27/02).