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Employee Benefits Developments December 2005

RULINGS, OPINIONS, ETC.

Automatic Rollover Relief. At the end of 2005 there was some anxiety over getting plan amendments completed and arrangements in place with financial institutions to accommodate the new “automatic rollover” rules that were effective for mandatory or involuntary cash-outs processed by qualified plans on and after March 28, 2005. For any mandatory cash-out of an account that exceeds $1,000 but not $5,000, the new rules require that a qualified plan pay the amount directly into an individual retirement account (IRA) for the benefit of the participant. Rules have been established for the terms of the IRAs that must be used for this purpose, and the plan must enter into an agreement with the IRA provider to handle these cash-outs.

The automatic rollover rules do not apply to any participant distribution where the participant has completed a plan distribution form and made an election on the form of payment, nor do the rules apply to a plan that has lowered its involuntary cash-out limit to $1,000 or that does not have any involuntary cash-outs. For plans that must take action to meet the new rules, a little extra time has been granted. The deadline for compliance has been extended to the later of: (1) the due date, including extensions, for filing the tax return for the employer’s tax year that includes March 28,2005, or (2) the last day of the plan year that includes March 28, 2005. IRS Notice 2005-95.

IRS Provides KETRA Guidance. Internal Revenue Service (IRS) Notice 2005-92 provides guidance on the plan distribution and loan provisions of the Katrina Emergency Tax Relief Act of 2005 (KETRA) for employers and individuals affected by Hurricane Katrina.

The notice explains that, although a qualified individual taking a distribution under KETRA must suffer an economic loss, the KETRA distribution is permitted without regard to the qualified individual’s need. Also, the amount of the distribution is not required to correspond to the amount of the economic loss suffered by the qualified individual.

In addition, the notice explains that a qualified individual is permitted to designate many types of qualified distributions received from an eligible retirement plan on or after August 25, 2005, and before January 1, 2007, as KETRA distributions. For example, periodic payments and required minimum distributions received during this period are permitted to be treated as KETRA distributions. Also, a reduction or offset of an individual’s account balance in order to repay a loan is permitted to be treated as a KETRA distribution.

However, the following distributions are not permitted to be characterized as KETRA distributions: corrective distributions of excess contributions under Internal Revenue Code (IRC) § 415; excess elective deferrals under IRC § 402(g); excess contributions under § 401(k); excess aggregate contributions under § 401(m); loans that are treated as deemed distributions pursuant to § 72(p); dividends paid on applicable employer securities under § 404(k); and the cost of current life insurance protection.

Employers are permitted to choose whether to treat a distribution as a KETRA distribution. If a distribution is treated as a KETRA distribution, the plan is not required to offer the qualified individual a direct rollover with respect to the distribution. In addition, the plan administrator does not have to provide a § 402(f) notice.

An eligible retirement plan must report to the IRS the payment of a KETRA distribution to a qualified individual. This reporting is required even if the qualified individual recontributes the KETRA distribution to the same eligible retirement plan in the same year. IRS Notice 2005-92. On December 21, the Gulf Opportunity Zone Act of 2005 (GO Zone) was signed into law, expanding and codifying certain KETRA relief provisions to include qualified victims of Hurricanes Rita and Wilma. The impact, if any, of GO Zone on IRS guidance for KETRA will be the subject of a future newsletter article.

CASES

Failure to Provide Timely Information Leads to Liability. The case of Osborn v. Knights of Columbus serves as a good reminder that participant requests for plan information under the Employee Retirement Income Security Act (ERISA) should be taken seriously and dealt with promptly. Timothy Osborn was an employee of the Knights of Columbus (the KofC), and the KofC told Mr. Osborn that he would be terminated if he did not resign before August 31, 2003. On August 2, 2003, Mr. Osborn sent a letter to the KofC seeking information related to his retirement benefits and asking for “a copy of any plan description, statement of accrued benefits, summary plan description or other documents describing the benefits available” to him. Mr. Osborn requested these documents at least four more times from the KofC. Despite his repeated requests, Mr. Osborn did not receive a copy of the summary plan description until February 12, 2004, and was not provided a copy of the plan documents. ERISA requires that a plan administrator “upon written request of any participant or beneficiary [to] furnish a copy of the latest updated summary plan description” and any other documents or “instruments under which the plan is established or operated.” Under ERISA, an administrator who “fails or refuses to comply with the request for information” within 30 days of a request may be “personally liable to such participant or beneficiary in the amount of up to $100.00 per day from the date of such failure or refusal.” Although the KofC argued Mr. Osborn did not contact the plan administrator, the judge in this case concluded that Mr. Osborn, by sending his requests to the KofC headquarters, which the KofC had specified as the plan administrator, properly contacted the plan administrator for the documents to which ERISA entitled him. Accordingly, Mr. Osborn’s motion for summary judgment on his claim that the KofC failed to provide requested plan information was granted. (Osborn v. Knights of Columbus, N.D. Ohio 2005).

Investment Guidelines Can Be Formal Plan Documents Subject to Disclosure to Participants. Pension plan committees responsible for overseeing plan investments frequently maintain a set of guidelines for monitoring those investments. A recent case in Colorado reminds us that investment guidelines can be formal plan documents to which a plan participant is entitled on request under ERISA. Nelson Phelps filed a lawsuit seeking penalties under ERISA for the alleged failure of the Qwest Employees Benefit Committee (the committee) to satisfy Mr. Phelps’s request to receive, among other things, copies of investment guidelines used by the committee to manage a pension fund of which Mr. Phelps is a beneficiary. In response, the committee filed a motion for summary judgment, contending that the portfolio-specific guidelines requested by Mr. Phelps do not govern the plan. The committee argued that each set of guidelines binds only one portfolio manager, and that no single set of the requested guidelines can be said to govern the entire plan. The court found the committee’s argument unpersuasive and denied the committee’s summary judgment motion. (Phelps v. Qwest Employees Benefit Committee, D. Colo. 2005).

ERISA Plans May Recoup Overpayments if Plan Documents Authorize Recoupment. Lewis Smith was an employee of General Motors (GM) and a participant in GM’s short-term and long-term disability plans. In April 1990, he ceased active employment as a result of a disability. Smith received short-term disability benefits until April 1991, when he began receiving long-term disability benefits. In June 1996, he retired under the disability provisions of GM’s pension plan. Shortly thereafter, the Social Security Administration determined Smith was totally and permanently disabled and had been since August 1989 and awarded him federal social security disability benefits on a retroactive basis. Under the terms of GM’s disability plan at that time, the disability benefit to which a participant was otherwise entitled was reduced by the amount of Social Security benefits he or she received. Retroactive lump sum payments were deemed to be received by a participant during the period for which the award was made. Because Smith had been receiving full disability benefits since 1990 plus “deemed” social security benefits since 1990, he had been overpaid under the terms of the plan. Accordingly, GM asked Smith to repay the excess portion of the disability benefits he had received. Smith refused.

James Northcutt was a former employee of GM who retired effective January 1, 1997. In addition to receiving a basic monthly pension, Northcutt received an early retirement supplement. Northcutt was determined to be disabled as of November 1, 2000, and was awarded federal social security disability benefits on a retroactive basis. Under the terms of GM’s pension plan at that time, a participant’s early retirement supplement was reduced by the amount of the participant’s social security benefits. Because Northcutt received full supplemental pension benefits for the same period for which he was awarded social security disability benefits, GM asked him to reimburse the pension the amount of the overpayment. When he refused GM reduced his future pension benefits.

Northcutt and Smith brought a lawsuit challenging the recoupment provisions on the grounds, in part, that the U.S. Supreme Court’s decision in Great-West Life & Annuity Insurance Co. v. Knudson, 534 U.S. 204 (2002) bars recoupment of plan overpayments on the grounds that the recovery of excess payments is not “equitable” relief. The federal district court rejected this argument, holding that Great-West does not serve as a bar to recoupment of overpayments where the terms of the plan allow for recoupment. (Northcutt v. General Motors Hourly-Rate Employee Pension Plan, S.D. Ind. 2005).