Retirement Benefits Tax Guide, 2006 Edition

IRS Releases Proposed Distribution Regs For 401(K) Roth Accounts

• Proposed regulations spelling out the rules for making distributions for new Roth 401(k) and Roth tax-sheltered annuity accounts (TSAs) have been issued by the IRS. Beginning in 2006 employers sponsoring 401(k) plans or TSAs may establish Roth accounts for employees as part of their plans. The Roth accounts consist of employees’ after-tax contributions and must be segregated from other 401(k) or TSA assets. Distributions from these accounts are tax-free to employees as long as certain restrictions have been observed. The new regulations explain the “five-year rule,” taxation of distributions, rollovers, and recordkeeping requirements for plan administrators.

Proposed 409A Rules for Nonqualified Plans Issued by IRS

• The IRS has issued proposed regulations implementing the requirements of new Code Sec. 409A for nonqualified plans. The proposed rules reemphasize that compensation is considered to be deferred so long as the service provider has a right to compensation but that compensation has not been actually or constructively received. The proposed regulations define “substantial risk of forfeiture,” provide that plans must be in writing, explain how deferral elections are made, clarify rules on valuation of nonqualified deferred compensation, and discuss nonqualified plans linked to qualified plans. Most importantly, the regulations extend full compliance with the reporting requirements of Sec. 409A until the end of 2006; the regulations may be relied upon until final regulations are issued. The IRS has also issued additional interim guidance regarding the application of Code Sec. 409A to outstanding stock rights.

Safe Harbor for Valuation of Annuity Converted to Roth IRA Provided

• The IRS has provided a safe harbor method for determining the fair market value of IRA annuity contracts that are being converted to Roth IRAs. For purposes of determining the amount includible in gross income as a result of this conversion, the value may be determined using the methods provided in IRS final regulations (Reg. §1.401(a)(9)-6, Q & A-12) with certain noted exceptions.

Sick Pay in Statutes Similar to Worker’s Comp Exempt from FICA

• Final regulations have been issued by the IRS providing that payments made on account of sickness or disability under a statute that is in the nature of a worker’s compensation law will be treated as if they were made under such a law and excluded from wages for FICA purposes.

Early Distribution Tax Applies Even if IRA Prepares Tax Return

• The 10% penalty tax imposed on distributions made from IRAs and other qualified plans before the plan participant reaches age 59½ applied to three distributions from 401(k) accounts made to a participant even though the IRS prepared the tax return that involved all three distributions. The U.S. Tax Court held that equitable estoppel did not bar the IRS from correcting a mistake of law.

IRS Denies Waiver Of 60-Day IRA Rollover Period in New Rulings

• The IRS has continued to make it clear when it will refuse to grant waivers of the 60-day rollover requirement for eligible rollover distributions from plans and IRAs. New cases involve rollovers involving a taxpayer’s own post-tax funds, IRAs mistakenly rolled over to a trust, rollovers placed in taxpayer’s personal savings accounts, and rollovers mistakenly made to purchase homes and other real estate.

New Table of Benefit and Contribution Colas Updated in this Report

• The new Table of Benefit and Contribution COLAs has been updated in this issue of the Guide.
sa