[Federal Register Volume 69, Number 220 (Tuesday, November 16, 2004)]
[Proposed Rules]
[Pages 67075-67100]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 04-25237]
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DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Parts 1 and 31
[REG-155608-02]
RIN 1545-BB64
Revised Regulations Concerning Section 403(b) Tax-Sheltered
Annuity Contracts
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Notice of proposed rulemaking, notice of proposed rulemaking by
cross-reference to temporary regulations, and notice of public hearing.
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SUMMARY: This document contains proposed regulations under section
403(b) of the Internal Revenue Code and under related provisions of
sections 402(b), 402(g), 414(c), and 3121(a)(5)(D). The proposed
regulations would provide updated guidance on section 403(b) contracts
of public schools and tax-exempt organizations described in section
501(c)(3). These regulations would provide the public with guidance
necessary to comply with the law and will affect sponsors of section
403(b) contracts, administrators, participants and beneficiaries. In
the Rules and Regulations section of this issue of the Federal
Register, the Treasury Department and IRS are issuing temporary
regulations providing employment tax guidance to employers and
employees on salary reduction agreements. This document also provides
notice of a public hearing on these proposed regulations.
DATES: Written or electronic comments must be received by February 14,
2005. Outlines of topics to be discussed at the public hearing
scheduled for February 15, 2005, to be held in the IRS Auditorium (7th
Floor) must be received by January 25, 2005.
ADDRESSES: Send submissions to: CC:PA:LPD:PR (REG-155608-02), room
5203, Internal Revenue Service, POB 7604, Ben Franklin Station,
Washington, DC 20044. Submissions may be hand delivered Monday through
Friday between the hours of 8 a.m. and 4 p.m. to: CC:PA:LPD:PR (REG-
155608-02), Courier's Desk, Internal Revenue Service, 1111 Constitution
Avenue, NW., Washington, DC, or sent electronically via the IRS
Internet site at http://www.irs.gov/regs or via the Federal eRulemaking
Portal at http://www.regulations.gov (IRS-REG-155608-02). The public
hearing will be held in the IRS Auditorium (7th Floor), Internal
Revenue Building, 1111 Constitution Avenue, NW., Washington, DC.
FOR FURTHER INFORMATION CONTACT: Concerning the proposed regulations,
R. Lisa Mojiri-Azad or John Tolleris, (202) 622-6060; concerning the
proposed regulations as applied to church-related entities, Robert
Architect (202) 283-9634; concerning submission of comments, the
hearing, and/or to be placed on the building access list to attend the
hearing, Sonya Cruse, (202) 622-7180 (not toll-free numbers).
SUPPLEMENTARY INFORMATION:
Paperwork Reduction Act
The collection of information contained in this notice of
rulemaking has been previously reviewed and approved by the Office of
Management and Budget in accordance with the Paperwork Reduction Act
(44 U.S.C. 3507) under control number 1545-1341.
An agency may not conduct or sponsor, and a person is not required
to respond to, a collection of information unless it displays a valid
control number assigned by the Office of Management and Budget.
Books or records relating to a collection of information must be
retained as long as their contents may become material in the
administration of any internal revenue law. Generally, tax returns and
tax return information are confidential, as required by 26 U.S.C. 6103.
Background
Regulations (TD 6783) under section 403(b) of the Internal Revenue
Code (Code) were published in the Federal Register (29 FR 18356) on
December 24, 1964 (1965-1 C.B. 180). These regulations provided
guidance for complying with section 403(b) which had been enacted in
1958 in section 23(a) of the Technical Amendments Act of 1958, Public
Law 85-866 (1958), relating to tax-sheltered annuity arrangements
established for employees by public schools and tax-exempt
organizations described in section 501(c)(3). Since 1964, additional
regulations have been issued under section 403(b) to reflect rules
relating to eligible rollover distributions and minimum distributions
under section 401(a)(9).
These proposed regulations would amend the current regulations to
[[Page 67076]]
conform them to the numerous amendments made to section 403(b) by
subsequent legislation, including section 1022(e) of the Employee
Retirement Income Security Act of 1974 (ERISA) (88 Stat. 829), Public
Law 93-406; section 251 of the Tax Equity and Fiscal Responsibility Act
of 1982 (TEFRA) (96 Stat. 324,529), Public Law 97-248; section 1120 of
the Tax Reform Act of 1986 (TRA '86) (100 Stat. 2085, 2463), Public Law
99-514; section 1450(a) of the Small Business Job Protection Act of
1996 (SBJPA) (110 Stat. 1755, 1814), Public Law 104-188; and sections
632, 646, and 647 of the Economic Growth and Tax Relief Reconciliation
Act of 2001 (EGTRRA) (115 Stat. 38, 113, 126, 127), Public Law 107-16.
Explanation of Provisions
Overview
The purposes of these proposed regulations are to update the
current regulations under section 403(b) to delete provisions that no
longer have legal effect due to changes in law, to include in the
regulations a number of items of interpretive guidance that have been
issued under section 403(b) since the 1964 regulations,\1\ and
generally to reflect the numerous legal changes that have been made in
section 403(b). A major effect of the legal changes in section 403(b)
has been to diminish the extent to which the rules governing section
403(b) plans differ from the rules governing other arrangements that
include salary reduction contributions, i.e., section 401(k) plans and
section 457(b) plans for State and local governmental entities. Thus,
these regulations will reflect the increasing similarity among these
arrangements.
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\1\ Since 1964, the existing regulations have been revised for
certain specific changes in law, for example, regulations under
section 403(b) have been issued in question and answer form to
reflect changes relating to eligible rollover distributions (TD
8619, September 15, 1995) and minimum distributions under section
401(a)(9) (TD 8987, April 16, 2002).
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Since the existing regulations were issued in 1964, a number of
revenue rulings and other guidance under section 403(b) have become
outdated as a result of changes in law. In addition, as a result of the
inclusion in these proposed regulations of much of the guidance that
the IRS has issued regarding section 403(b), it is anticipated that
these regulations, when finalized, will supersede a number of revenue
rulings and notices that have been issued under section 403(b). Thus,
the IRS anticipates taking action to obsolete many revenue rulings,
notices, and other guidance under section 403(b) when these regulations
are issued in final form.\2\ However, the positions taken in certain
rulings and other outstanding guidance are expected to be retained. For
example, it is intended that a revenue ruling will be issued that
substantially replicates and consolidates the existing rules \3\ for
determining when employees are performing services for a public
school.\4\
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\2\ It is expected that the following guidance is outdated, or
will be superseded, when these regulations are issued in final form:
Rev. Rul. 64-333. 1964-2 C.B. 114; Rev. Rul. 65-200, 1965-2 C.B.
141; Rev. Rul. 66-254, 1966-2 C.B. 125; Rev. Rul. 66-312, 1966-2
C.B. 127; Rev. Rul. 67-78, 1967-1 C.B. 94; Rev. Rul. 67-69, 1967-1
C.B. 93; Rev. Rul. 67-361, 1967-2 C.B. 153; Rev. Rul. 67-387, 1967-2
C.B. 153; Rev. Rul. 67-388, 1967-2 C.B. 153; Rev. Rul. 68-179, 1968-
1 CB 179; Rev. Rul. 68-482, 1968-2 CB 186; Rev. Rul. 68-487, 1968-2
CB 187; Rev. Rul. 68-488, 1968-2 C.B. 188; Rev. Rul. 69-629, 1969-2
C.B. 101; Rev. Rul. 70-243, 1970-1 C.B. 107; Rev. Rul. 87-114, 1987-
2 C.B. 116; Notice 89-23, 1989-1 C.B. 654; Rev. Rul. 90-24, 1990-1
C.B. 97; Notice 90-73, 1990-2 C.B. 353; Notice 92-36, 1992-2 C.B.
364; and Announcement 95-48, 1995-23 I.R.B. 13. It is expected that
the following guidance will not be superseded when these regulations
are issued in final form: Rev. Rul. 66-254, 1966-2 C.B. 125; Rev.
Rul. 68-33, 1968-1 C.B. 175; Rev. Rul 68-58, 1968-1 C.B. 176; Rev.
Rul. 68-116, 1968-1 C.B. 177; Rev. Rul. 68-648, 1968-2 C.B. 49; Rev.
Rul. 68-488, 1968-2 C.B. 188; and Rev. Rul. 69-146, 1969-1 C.B. 132.
Comments are requested on whether any guidance items under section
403(b) should be added to or deleted from either of the preceding
lists. See the request for comments below under the heading Comments
and Public Hearing.
\3\ Rev. Rul. 73-607, 1973-2 C.B. 145 and Rev. Rul. 80-139,
1980-1 C.B. 88.
\4\ As discussed below (under the heading Controlled Group Rules
For Tax-Exempt Entities), other guidance that may be reissued
includes the controlled group safe harbor rules in paragraph
(V)(B)(2)(b) of Notice 89-23.
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The existing regulations include special rules for determining the
amount of the contributions made for an employee under a defined
benefit plan, based on the employee's pension under the plan. These
rules are generally no longer applicable for section 403(b) because the
limitations on contributions to a section 403(b) contract are no longer
coordinated with accruals under a defined benefit plan. (See also the
discussion of defined benefit plans below under the heading
Miscellaneous Provisions.) However, the rules for determining the
amount of contributions made for an employee under a defined benefit
plan in the existing regulations under section 403(b) are also used for
purposes of section 402(b) (relating to nonqualified plans funded
through trusts) and, accordingly, these rules are proposed to be
deleted from the regulations under section 403(b). New proposed
regulations under section 402(b) would authorize the Commissioner to
issue guidance for determining the amount of the contributions made for
an employee under a defined benefit plan under section 402(b). See also
the request for comments on this guidance under the heading Comments
and Public Hearing.
The proposed regulations also include controlled group rules under
section 414(c) for entities that are tax-exempt under section 501(a).
Exclusion for Contributions to Section 403(b) Contracts
Section 403(b) provides an exclusion from gross income for certain
contributions made by certain types of employers for their employees to
specific types of funding arrangements. There are three categories of
funding arrangements to which section 403(b) applies: (1) Annuity
contracts (as defined in section 401(g)) issued by an insurance
company; (2) custodial accounts that are invested solely in mutual
funds; and (3) retirement income accounts which are only permitted for
church employees. The exclusion applies only if certain general
requirements are satisfied. For purposes of most of these requirements,
section 403(b)(5) provides that all section 403(b) contracts purchased
for an individual by an employer are treated as purchased under a
single contract. Other aggregation rules apply for certain specific
purposes, including the aggregation rules under section 402(g) for
purposes of satisfying the limitations on elective deferrals (which
apply both on an individual basis and to all contributions made by an
employer) and the controlled group rules of section 414(b) and (c) for
purposes of the general nondiscrimination rules and the contribution
limitations of section 415 (which generally apply on an employer-by-
employer basis).
Section 403(b) Requirements
Section 403(b)(1)(C) requires that the contract be nonforfeitable
except for the failure to pay future premiums. The proposed regulations
define nonforfeitability based on the regulations under section 411(a)
and clarify that if an annuity contract issued by an insurance company
is purchased that would satisfy section 403(b) except for the failure
to satisfy this nonforfeitability requirement, then the contract is
treated as a contract to which section 403(c) applies. Section 403(c)
provides that the value of a nonqualified contract is included in gross
income under the rules of section 83, which generally does not occur
before the employee's rights in the contract become substantially
vested. Under the proposed regulations, on the date on which the
employee's interest in that contract becomes nonforfeitable, the
[[Page 67077]]
contract may be treated as a section 403(b) contract if the contract
has at all prior times satisfied the requirements of section 403(b)
other than the nonforfeitability requirement. Solely for this purpose,
if a participant's interest in a contract is only partially
nonforfeitable in a year, then the portion that is nonforfeitable and
the portion that fails to be nonforfeitable are bifurcated.
Section 403(b)(12) requires a section 403(b) contract to make
elective deferrals available to all employees (the universal
availability rule) and requires other contributions to satisfy the
general nondiscrimination requirements applicable to qualified plans.
These rules are discussed further below under the heading Section
403(b) Nondiscrimination and Universal Availability Rules.
Section 403(b)(1)(E) requires a section 403(b) contract to satisfy
the requirements of section 401(a)(30) relating to limitations on
elective deferrals under section 402(g)(1). The proposed regulations
provide that a contract only satisfies this requirement if the contract
requires all elective deferrals for an employee to satisfy section
402(g)(1), including elective deferrals for the employee under the
contract and any other elective deferrals under the plan under which
the contract is purchased and under all other plans, contracts, or
arrangements of the employer that are subject to the limits of section
402(g). This rule is the same as the rule for section 401(k)
arrangements.
A section 403(b) contract is also required to provide that it will
satisfy the minimum required distribution requirements of section
401(a)(9), the incidental benefit requirements of section 401(a), and
the rollover distribution rules of section 402(c).
The proposed regulations address the requirement that annual
additions to the contract not exceed the applicable limitations of
section 415(c) (treating contributions as annual additions). In
accordance with the last sentence of section 415(a)(2), if an excess
annual addition is made to a contract that otherwise satisfies the
requirements of section 403(b), then the portion of the contract that
includes the excess will fail to be a section 403(b) contract (and
instead will be a contract to which section 403(c) applies) and the
remaining portion of the contract that includes the contribution that
is not in excess of the section 415 limitations is a section 403(b)
contract. This rule under which only the excess annual addition is
subject to section 403(c) does not apply unless, for the year of the
excess and each year thereafter, the issuer of the contract maintains
separate accounts for the portion that includes the excess and for the
section 403(b) portion, i.e., the portion that includes the amount not
in excess of the section 415 limitations.
The proposed regulations require that these conditions for the
exclusion be satisfied both in form and operation in the section 403(b)
contract. Because several of these requirements are based on plan
documents--in particular the requirements that elective deferrals
satisfy a universal availability rule and that other contributions
satisfy the nondiscrimination rules applicable to qualified plans--the
proposed regulations require that the contract be maintained pursuant
to a plan. For this purpose, it is intended that the plan would include
all of the material provisions regarding eligibility, benefits,
applicable limitations, the contracts available under the plan, and the
time and form under which benefit distributions would be made. This
rule does not require that there be a single plan document. For
example, this requirement would be satisfied by complying with the plan
document rules applicable to qualified plans.
Interaction Between Title I of ERISA and Section 403(b) of the Code
The Treasury Department and the IRS have consulted with the
Department of Labor concerning the interaction between Title I of the
Employee Retirement Income Security Act of 1974 (ERISA) and section
403(b) of the Code. The Department of Labor has advised the Treasury
Department and the IRS that Title I of ERISA generally applies to ``any
plan, fund, or program * * * established or maintained by an employer
or by an employee organization, or by both, to the extent that * * *
such plan, fund, or program * * * provides retirement income to
employees, or * * * results in a deferral of income by employees for
periods extending to the termination of covered employment or beyond.''
ERISA, section 3(2)(A). However, governmental plans and church plans
are generally excluded from coverage under Title I of ERISA. See ERISA,
section 4(b)(1) and (2). Therefore, section 403(b) contracts purchased
or provided under a program that is either a ``governmental plan''
under section 3(32) of ERISA or a ``church plan'' under section 3(33)
of ERISA are not generally covered under Title I. However, section
403(b) of the Code is also available with respect to contracts
purchased or provided by employers for employees of a section 501(c)(3)
organization, and many programs for the purchase of section 403(b)
contracts offered by such employers are covered under Title I of ERISA
as part of an ``employee pension benefit plan'' within the meaning of
section 3(2)(A) of ERISA. The Department of Labor has promulgated a
regulation, 29 CFR 2510.3-2(f), describing circumstances under which an
employer's program for the purchase of section 403(b) contracts for its
employees, which is not otherwise excluded from coverage under Title I,
will not be considered to constitute the establishment or maintenance
of an ``employee pension benefit plan'' under Title I of ERISA.
These proposed regulations are generally limited to the
requirements imposed under section 403(b). In this regard, the proposed
regulations require that a section 403(b) program be maintained
pursuant to a plan, which for this purpose is defined as a written
defined contribution plan which, in both form and operation, satisfies
the regulatory requirements of section 403(b) and contains all the
material terms and conditions for benefits under the plan. The
Department of Labor has advised the Treasury Department and the IRS
that, although it does not appear that the proposed regulations would
mandate the establishment or maintenance of an employee pension benefit
plan in order to satisfy its requirements, it leaves open the
possibility that an employer may undertake responsibilities that would
constitute establishing and maintaining an ERISA-covered plan. The
Department of Labor has further advised the Treasury Department and the
IRS that whether the manner in which any particular employer decides to
satisfy particular responsibilities under these proposed regulations
will cause the employer to be considered to have established or to
maintain a plan that is covered under Title I of ERISA must be analyzed
on a case-by-case basis, applying the criteria set forth in 29 CFR
2510.3-2(f), including the employer's involvement as contemplated by
the plan documents and in operation.
To the extent that these proposed regulations may raise questions
for employers concerning the scope and application of the regulation at
29 CFR 2510.3-2(f), the Treasury Department and the IRS are requesting
comments. See below under the heading Comments and Public Hearing.
All employee pension benefit plans covered under Title I of ERISA,
including plans that involve the purchase of section 403(b) contracts,
must satisfy a number of requirements, including requirements relating
to
[[Page 67078]]
reporting and disclosure, eligibility, vesting, benefit accrual,
advance notice of contribution reductions, qualified joint and survivor
annuities, minimum funding, fiduciary standards, fidelity bonds, and
claims procedures. Authority to interpret many of the requirements in
parts 2 and 3 of Title I of ERISA (specifically those relating to
eligibility, vesting, benefit accrual, minimum funding, and qualified
joint and survivor annuities) has been transferred to the Treasury
Department and the IRS. See Reorganization Plan No. 4 of 1978, 43 FR
47713, October 17, 1978. As a result, those section 403(b) contracts of
a section 501(c)(3) organization that are part of an employee pension
benefit plan are subject to requirements parallel to those imposed
under sections 401(a)(11) through 401(a)(15), 410, 411, 412, and 417 of
the Internal Revenue Code and the regulations promulgated thereunder,
since regulations and other guidance issued under those Code sections
are applicable for purposes of the parallel requirements in ERISA.
Further, although specific references are made to Title I in these
proposed regulations, this does not imply that other Title I issues are
not applicable.
Comparison With Section 401(k) Elective Deferrals
Section 1450(a) of SBJPA provides that the rules applicable to cash
or deferred elections under section 401(k) are to apply under section
403(b) for purposes of determining the frequency with which an employee
may enter into a salary reduction agreement, the salary to which such
an agreement may apply, and the ability to revoke such an agreement.
Based in part on this provision, and taking into account the guidance
that has been issued since SBJPA,\5\ the proposed regulations would
clarify the extent to which section 403(b) elective deferrals are like
elective deferrals under proposed and final rules under section 401(k).
Specifically, the rules are fundamentally similar with respect to the
frequency with which a deferral election can be made, changed, or
revoked, including automatic enrollment (plan provisions under which
elective deferrals are automatically made for employees unless they
elect otherwise), the ability for a deferral election that has been
made in one year to be carried forward to subsequent periods until
modified, the rule under which irrevocable elections are not treated as
elective deferrals, and the requirement that employees have an annual
effective opportunity to make, revoke, or modify a deferral election.
The rules are also fundamentally similar with respect to the
compensation with respect to which the election can be made, e.g.,
allowing a deferral election to be made for compensation up to the day
before the compensation is currently available. Likewise, the proposed
regulations explicitly provide that, for purposes of sections 402(g)
and 403(b), an elective deferral with respect to a section 403(b)
contract is limited to contributions made pursuant to a cash or
deferred election, as defined in regulations under section 401(k).
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\5\ See, for example, Rev. Rul. 2000-35, 2000-2 C.B. 138,
relating to automatic enrollment in section 403(b) plans.
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These proposed regulations also include a rule comparable to the
anti-conditioning rule at section 401(k)(4). Finally, the proposed
regulations include rules similar to those for section 401(k) plans
regarding plan limitations to comply with section 401(a)(30) and to pay
out section 403(b) elective deferrals in excess of the related section
402(g) limitation.
As a result, under the proposed regulations, the three major
differences between the rules applicable to section 403(b) elective
deferrals and the rules applicable to elective deferrals under section
401(k) are:
Section 403(b) is limited to certain specific employers
and employees (i.e., employees of a State public school, employees of a
section 501(c)(3) organization, and certain ministers), whereas section
401(k) is available to all employers, except a State or local
government or any political subdivision, agency, or instrumentality
thereof.
Unlike section 401(k), contributions under section 403(b)
can only be made to certain funding arrangements, i.e., an insurance
annuity contract, custodial account that is limited to mutual fund
shares, or church retirement income account, and not to a trust or
custodial account that fails to satisfy the custodial account rules at
section 403(b)(7) or the retirement income account rules at section
403(b)(9) for churches.
A universal availability rule applies to section 403(b)
elective deferrals, whereas an average deferral percentage rule (the
ADP test) and a minimum coverage rule (section 410(b)) apply with
respect to elective deferrals under section 401(k).\6\
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\6\ Other differences between the rules applicable to elective
deferrals under section 403(b) and elective deferrals under section
401(k) include the following: the consequences of failing to satisfy
the rules of section 403(b) (described below under the heading
Failure to satisfy section 403(b)); the definition of compensation
(including the five-year rule) at section 403(b)(3); the special
section 403(b) catch-up elective deferral at section 402(g)(7); the
section 415 aggregation rules; and the general inapplicability of
stock ownership for State entities (and some nonprofit entities),
including the related inapplicability of employee stock ownership
plans and the use of stock ownership to determine common control. An
additional difference is discussed below, under the heading
Severance From Employment.
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Failure To Satisfy Section 403(b)
The regulations clarify that if the requirements of section 403(b)
fail to be satisfied with respect to an employer contribution, then the
contribution is subject either to the rules under section 403(c)
(relating to nonqualified annuities) if the contribution is for an
annuity contract issued by an insurance company, or is subject to the
rules under section 61, 83, or 402(b) if the contribution is to a
custodial account or retirement income account that fails to satisfy
the requirements of section 403(b).
Issues have been raised about the application of section 403(b) to
tax-exempt entities that have State or local government features. These
proposed regulations do not attempt to address when an entity is a
State (treating a local government or other subdivision as a State) and
when it is a section 501(c)(3) organization that is not a State.\7\
Thus, for example, these regulations do not provide guidance on the
conditions under which a tax-exempt charter school is, or is not, a
State entity.
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\7\ Similarly, the proposed regulations do not address the
conditions under which a plan is a governmental plan under section
414(d).
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Based on the wording of section 401(k)(4)(B)(i) and (ii), an entity
that is both a section 501(c)(3) organization and an instrumentality of
a State cannot have a section 401(k) plan. Under sections 457(b)(6) and
457(g), an entity that is both an instrumentality of a State and a
section 501(c)(3) organization can have an eligible plan under section
457(b) only if it is funded. However, under section 403(b)(1)(A)(i) and
(ii), an entity that is both an instrumentality of a State and a
section 501(c)(3) organization could cover any of its employees,
regardless of whether they are performing services for a public school.
Maximum Contribution Limitations
The exclusion provided under section 403(b) applies only to the
extent that all amounts contributed by the employer for the purchase of
an annuity contract for the participant do not exceed the applicable
limit under section 415 and, with respect to section 403(b) elective
deferrals, only if the contract is purchased under a plan that includes
the limits under section 402(g), including aggregation under all plans
of
[[Page 67079]]
the employer. The proposed regulations require a section 403(b)
contract to include this limit on section 403(b) elective deferrals, as
imposed by section 402(g).
Catch-Up Contributions
A section 403(b) contract may provide for additional catch-up
contributions for a participant who is age 50 by the end of the year,
provided that those age 50 catch-up contributions do not exceed the
catch-up limit under section 414(v) for the taxable year (which is
$3,000 for 2004). In addition, an employee of a qualified organization
who has at least 15 years of service (disregarding any period during
which an individual is not an employee of the eligible employer) is
entitled to a special section 403(b) catch-up limit. Under the special
section 403(b) catch-up limit, the section 402(g) limit is increased by
the lowest of the following three amounts: (i) $3,000; (ii) the excess
of $15,000 over the total special section 403(b) catch-up elective
deferrals made for the qualified employee by the qualified organization
for prior taxable years; or (iii) the excess of (A) $5,000 multiplied
by the number of years of service of the employee with the qualified
organization, over (B) the total elective deferrals made for the
qualified employee by the qualified organization for prior taxable
years. For this purpose, a qualified organization is an eligible
employer that is a school, hospital, health and welfare service agency
(including a home health service agency), or a church-related
organization. In the case of a church-related organization, all
entities that are in such a church-related organization are treated as
a single qualified organization, so that years of service and any
section 403(b) catch-up elective deferrals previously made for a
qualified employee for any such church are taken into account for
purposes of determining the amount of section 403(b) catch-up elective
deferrals to which an employee is entitled under any section 403(b)
plan maintained by another entity in the same church-related
organization. A health and welfare service agency is defined as either
an organization whose primary activity is to provide medical care as
defined in section 213(d)(1) (such as a hospice), or a section
501(c)(3) organization whose primary activity is the prevention of
cruelty to individuals or animals, or which provides substantial
personal services to the needy as part of its primary activity (such as
a section 501(c)(3) organization that provides meals to needy
individuals).
The proposed regulations provide that any catch-up contribution for
an employee who is eligible for both an age 50 catch-up and the special
section 403(b) catch-up is treated first as a special section 403(b)
catch-up to the extent a special section 403(b) catch-up is permitted,
and then as an amount contributed as an age 50 catch-up (to the extent
the age 50 catch-up amount exceeds the maximum special section 403(b)
catch-up).
Any contribution made for a participant to a section 403(b)
contract for a taxable year that exceeds either the section 415 maximum
annual contribution limit or the section 402(g) elective deferral limit
constitutes an excess contribution that is included in gross income for
that taxable year (or, if later, the taxable year in which the contract
becomes nonforfeitable). The proposed regulations provide that a
section 403(b) contract or the section 403(b) plan may provide that any
excess deferral as a result of a failure to comply with the section
402(g) elective deferral limit for the taxable year with respect to any
section 403(b) elective deferral made for a participant by the employer
will be distributed to the participant, with allocable net income, no
later than April 15 or otherwise in accordance with section 402(g).
Determination of Years of Service Under Section 403(b)
For purposes of determining a participant's includible compensation
and years of service--used both for the special section 403(b) catch-up
contributions and for employer contributions for former employees--an
employee's number of years of service include each full year during
which the individual is a full-time employee of the eligible employer
plus a fraction of a year for each part of a year during which the
individual is a full-time or part-time employee of the eligible
employer. A year of service is based on the employer's annual work
period, not the employee's taxable year. Thus, in determining whether a
university professor is employed full-time, the annual work period is
the school's academic year. In determining whether an individual is
employed full-time, the amount of work actually performed is compared
with the amount of work that is normally required of individuals
performing similar services from which substantially all of their
annual compensation is derived. An individual is treated as performing
a fraction of a year of service for each annual work period during
which he or she is a full-time employee for part of the annual work
period or for each annual work period during which he or she is a part-
time employee either for the entire annual work period or for a part of
the annual work period.
In measuring the amount of work of an individual performing
particular services, the work performed is determined based on the
individual's hours of service (as defined under section 410(a)(3)(C)),
except that a plan may use a different measure of work if appropriate
under the facts and circumstances. For example, a plan may provide for
a university professor's work to be measured by the number of courses
taught during an annual work period if that individual's work
assignment is generally based on a specified number of courses to be
taught.
In determining years of service, any period during which an
individual is not an employee of the eligible employer is disregarded,
except that, for a section 403(b) contract of an eligible employer that
is a church-related organization, any period during which an individual
is an employee of that eligible employer and any other eligible
employer that is within the same church-related organization with that
eligible employer is taken into account on an aggregated basis. In the
case of a part-time employee or a full-time employee who is employed
for only part of the year, the employee's most recent periods of
service are aggregated to determine his or her most recent one-year
period of service, as follows: the employee's service during the annual
work period for which the last year of service's includible
compensation is being determined is taken into account first; then the
employee's service during the next preceding annual work period based
on whole months is taken into account; and so forth, until the
employee's service equals, in the aggregate, one year of service.
Special Rule for Former Employees
Under section 403(b)(3), a former employee is deemed to have
monthly includible compensation for the period through the end of the
taxable year of the employee in which he or she ceases to be an
employee and through the end of each of the next five taxable years of
the employee. The amount of the monthly includible compensation is
equal to \1/12\ of the former employee's includible compensation during
the former employee's most recent year of service. Accordingly, a plan
may provide that nonelective employer contributions are continued for
up to five years for a former employee, up to the lesser of the dollar
amount in section 415(c)(1)(A) or the former
[[Page 67080]]
employee's annual includible compensation based on the former
employee's compensation during his or her most recent year of service.
Other Contributions for Former Employees
The proposed regulations do not address the extent, if any, to
which the exclusion from gross income provided by section 403(b)
applies to contributions made for former employees (e.g., whether a
contribution may be made for a former employee if the contribution is
with respect to compensation that would otherwise be paid for a payroll
period that begins after severance from employment) other than as
provided under the five-year rule at section 403(b)(3), described above
under the heading Special Rule for Former Employees. The Treasury
Department and the IRS expect to issue separate guidance on this issue,
potentially addressing this question with respect to not only section
403(b), but also sections 401(k), 457(b) (for eligible governmental
plans), and 415(c).
Section 403(b) Nondiscrimination and Universal Availability Rules
Nondiscrimination
Section 403(b)(12)(A)(i) requires that employer contributions and
employee after-tax contributions made under a section 403(b) contract
satisfy a specified series of requirements (the nondiscrimination
requirements) in the same manner as a qualified plan under section
401(a). These proposed regulations do not adopt the good faith
reasonable standard of Notice 89-23 for purposes of satisfying the
nondiscrimination requirements of section 403(b)(12)(A)(i). These
nondiscrimination requirements include rules relating to
nondiscrimination in contributions, benefits, and coverage (sections
401(a)(4) and 410(b)), a limitation on the amount of compensation that
can be taken into account (section 401(a)(17)), and the average
contribution percentage rules of section 401(m) (relating to matching
and after-tax contributions). The nondiscrimination requirements are
generally tested using compensation as defined in section 414(s) and
are applied on an aggregated basis taking into account all plans of the
employer. See the discussion below under the heading Controlled Group
Rules For Tax-Exempt Entities.
The nondiscrimination requirements do not apply to section 403(b)
elective deferrals. In addition, the only nondiscrimination requirement
that applies to a governmental plan, within the meaning of section
414(d), is the limitation on compensation (section 401(a)(17)).
Universal Availability
Under section 403(b)(12)(A)(ii), a universal availability
requirement applies under which all employees of the eligible employer
must be permitted to elect to have section 403(b) elective deferrals
contributed on their behalf if any employee of the eligible employer
may elect to have the organization make section 403(b) elective
deferrals. Under the proposed regulations, the universal availability
requirement is not satisfied unless the contributions are made pursuant
to a plan and the plan permits elective deferrals that satisfy the
universal availability requirement. The proposed regulations generally
provide that the universal availability requirement applies separately
to each common law entity, i.e., to each section 501(c)(3)
organization, or, in the case of a section 403(b) plan that covers the
employees of more than one State entity, to each entity that is not
part of a common payroll. The proposed regulations allow an employer
that historically has treated one or more of its various geographically
distinct units as separate for employee benefit purposes to treat each
unit as a separate organization if the unit is operated independently
on a day-to-day basis.
The proposed regulations include the statutory categories that are
exceptions to the universal availability rule, and provide that, if any
employee listed in any excludable category has the right to have
section 403(b) elective deferrals made on his or her behalf, then no
employees in that category may be excluded. The categories generally
are: employees who are eligible to participate in an eligible
governmental plan under section 457(b) which permits contributions or
deferrals at the election of the employee or a plan of the employer
offering a qualified cash or deferred election under section 401(k);
employees who are non-resident aliens; employees who are students
performing services described in section 3121(b)(10); and employees who
normally work fewer than 20 hours per week. Additionally, Notice 89-23
included transition rules for certain other exclusions that are not in
the statute: employees who make a one-time election to participate in a
governmental plan instead of a section 403(b) plan; employees covered
by a collective bargaining agreement; visiting professors for up to one
year under certain circumstances; and employees affiliated with a
religious order who have taken a vow of poverty. The proposed
regulations do not adopt these transition rules. See the reference to
these exclusions below under the heading
Comments and Public Hearing
The nondiscrimination and the universal availability requirements
do not apply to a section 403(b) contract purchased by a church, which
is specially defined for this purpose, and generally does not include a
university, hospital, or nursing home.
The nondiscrimination and universal availability requirements are
in addition to other applicable legal requirements. Specifically, these
requirements do not reflect the requirements of Title I of ERISA that
may apply with respect to a section 403(b) plan, such as the ERISA
vesting requirements. Another example is that, while employees who
normally work fewer than 20 hours per week may be excluded under the
universal availability rule, employers who maintain plans that are
subject to Title I of ERISA should be aware that Title I of ERISA
includes limitations on the conditions under which employees can be
excluded from a plan on account of not working full time and that these
limitations would generally not permit an exclusion for employees who
normally work fewer than 20 hours per week. See section 202(a)(1) of
ERISA and regulations under section 410(a) of the Code (which interpret
section 202 of ERISA).
Timing of Distributions and Benefits
The proposed regulations reflect the statutory rules regarding when
distributions can be made from a section 403(b) contract. Thus, amounts
held in a custodial contract attributable to employer contributions
(that are not section 403(b) elective deferrals) may not be paid to a
participant before the participant has a severance from employment,
becomes disabled (within the meaning of section 72(m)(7)), or attains
age 59\1/2\. This rule also applies to amounts transferred out of a
custodial account (i.e., to an annuity contract or retirement income
account), including earnings thereon. In addition, distributions of
amounts attributable to section 403(b) elective deferrals may not be
paid to a participant earlier than when the participant has a severance
from employment, has a hardship, becomes disabled (within the meaning
of section 72(m)(7)), or attains age 59\1/2\. Hardship is generally
defined under regulations issued under section 401(k).
The proposed regulations would reflect the requirements of section
402(f) relating to the written explanation
[[Page 67081]]
requirements for distributions that qualify as eligible rollover
distributions, including conforming the timing rule to the rule for
qualified plans.
Where the distribution restrictions do not apply, a section 403(b)
contract is permitted to distribute retirement benefits to the
participant after severance from employment or upon the prior
occurrence of an event, such as after a fixed number of years, the
attainment of a stated age, or disability. The proposed regulations
include a number of exceptions to the timing restrictions, e.g., the
rule for elective deferrals does not apply to distributions of section
403(b) elective deferrals (not including earnings thereon) that were
contributed before January 1, 1989.
Severance From Employment
The proposed regulations define severance from employment in a
manner that is generally the same as the proposed regulations under
section 401(k),\8\ but provide that a severance from employment occurs
on any date on which the employee ceases to be employed by an eligible
employer that maintains the section 403(b) plan. Thus, a severance from
employment would occur when an employee ceases to be employed by an
eligible employer even though the employee may continue to be employed
by an entity that is part of the same controlled group but that is not
an eligible employer, or on any date on which the employee works in a
capacity that is not employment with an eligible employer. Examples of
the situations that constitute a severance from employment include: an
employee transferring from a section 501(c)(3) organization to a for-
profit subsidiary of the section 501(c)(3) organization; an employee
ceasing to work for a public school, but continuing to be employed by
the same State; and an individual employed as a minister for an entity
that is neither a State nor a section 501(c)(3) organization ceasing to
perform services as a minister, but continuing to be employed by the
same entity.
---------------------------------------------------------------------------
\8\ See proposed Sec. 1.401(k)-1(d)(2), REG-108639-99, 68 FR
42476 (July 17, 2003).
---------------------------------------------------------------------------
Section 401(a)(9)
The proposed regulations include rules similar to those in the
existing regulations relating to the minimum distribution requirements
of section 401(a)(9), but with some minor changes (for example,
omitting the special rules for 5-percent owners). Thus, section 403(b)
contracts must satisfy the incidental benefit rules. Existing revenue
rulings provide guidance with respect to the application of the
incidental benefit requirements to permissible nonretirement benefits
such as life, accident, or health benefits.\9\
---------------------------------------------------------------------------
\9\ See, for example, Rev. Rul. 61-121, 1961-2 C.B. 65; Rev.
Rul. 68-304, 1968-1 C.B. 179; Rev. Rul. 72-240, 1972-1 C.B. 108;
Rev. Rul. 72-241, 1972-1 C.B. Rev. Rul. 73-239, 1973-1 C.B. 201; and
Rev. Rul. 74- 115, 1974-1 C.B. 100. (see Sec. 601(d)(2)(ii)(b) of
this chapter).
---------------------------------------------------------------------------
Loans
The proposed regulations include rules reflecting that loans can be
made to participants from a section 403(b) contract.
QDROs
The proposed regulations include limited rules relating to
qualified domestic relations orders (QDROs) under section 414(p).
Section 414(p)(9) provides that the QDRO rules only apply to plans that
are subject to the anti-alienation provisions of section 401(a)(13),
except that section 414(p)(9) also provides that, except to the extent
set forth in regulations--there are currently no regulations under
section 414(p)--the section 414(p) QDRO rules apply to a section 403(b)
contract. These proposed section 403(b) regulations clarify that the
section 414(p) QDRO rules apply to section 403(b) contracts for
purposes of applying section 403(b).
Taxation of Distributions and Benefits From a Section 403(b) Contract
The proposed regulations include a number of rules regarding the
taxation of distributions and benefits from section 403(b) contracts,
including the statutory provision that only amounts actually
distributed from a section 403(b) contract are generally includible in
the gross income of the recipient for the year in which distributed
under section 72, relating to annuities. The regulations also reflect
the rule that any payment that constitutes an eligible rollover
distribution is not taxed in the year distributed to the extent the
payment is directly rolled over or transferred to an eligible
retirement plan. The payor must withhold 20 percent Federal income tax,
however, if an eligible rollover distribution is not rolled over in a
direct rollover. Another provision requires the payor to give proper
written notice to the section 403(b) participant or beneficiary
concerning the eligible rollover distribution provision. Notice 2002-3
(2002-2 I.R.B. 289), provides a sample of the safe-harbor notice that
the payor may furnish to satisfy this requirement.
Funding of Section 403(b) Arrangements
Annuity Contracts
As described above, section 403(b) only applies to contributions
made to certain funding arrangements, namely: amounts held in an
annuity contract, in a custodial account that is treated as an annuity
contract under section 403(b)(7), or in a church retirement income
account that is treated as an annuity contract under section 403(b)(9).
The proposed regulations require that contributions to a section 403(b)
plan be transferred to the insurance company issuing the annuity
contract (or the entity holding assets of any custodial or retirement
income account that is treated as an annuity contract) within a period
that is not longer than is reasonable for the proper administration of
the plan, such as transferring elective deferrals within 15 business
days following the month in which these amounts would otherwise have
been paid to the participant.
The proposed regulations provide that, except where a custodial or
retirement income account is treated as an annuity contract, an annuity
contract means a contract that is issued by an insurance company
qualified to issue annuities in a State and that includes payment in
the form of an annuity, but does not include a contract that is a life
insurance contract, as defined in section 7702, an endowment contract,
a health or accident insurance contract, or a property, casualty, or
liability insurance contract. The regulations include a special
transition rule relating to life insurance contracts issued before the
effective date.
Rev. Rul. 67-361 (1967-2 C.B. 153), and Rev. Rul. 67-387 (1967-2
C.B. 153), provided for certain State plans to be treated as qualifying
as annuities under section 403(b). Rev. Rul. 82-102 (1982-1 C.B. 62),
revoked this interpretation (in connection with the 1974 enactment of
section 403(b)(7) which allowed custodial accounts), but provides
section 7805(b) relief for arrangements established in reliance on
these rulings, i.e., for arrangements established on or before May 17,
1982. The proposed regulations contemplate that the section 7805(b)
relief provided by these rulings would be continued. This relief would
be limited to State section 403(b) plans established on or before May
17, 1982 satisfying either of the following requirements: (i) benefits
under the contract are provided from a separately funded retirement
reserve that is subject to supervision of the State insurance
department or (ii) benefits under the contract are provided from a fund
that is separate from the fund used to
[[Page 67082]]
provide statutory benefits payable under a State retirement system and
that is part of a State teachers retirement system to purchase benefits
that are unrelated to the basic benefits provided under the retirement
system, and the death benefit provided under the contract cannot at any
time exceed the larger of the reserve or the contribution made for the
employee.
Custodial Accounts
The proposed regulations define a custodial account as a plan, or a
separate account under a plan, in which an amount attributable to
section 403(b) contributions (or amounts rolled over to a section
403(b) contract) is held by a bank or a person who satisfies the
conditions in section 401(f)(2), if amounts held in the account are
invested in stock of a regulated investment company (as defined in
section 851(a) relating to mutual funds), the special restrictions on
distributions with respect to a custodial account are satisfied, the
assets held in the account cannot be used for, or diverted to, purposes
other than for the exclusive benefit of plan participants or their
beneficiaries, and the account is not part of a retirement income
account, as described below. This requirement limiting investments to
mutual funds is not satisfied if the account includes any assets other
than stock of a regulated investment company.
Special Rules for Church Plans
Retirement Income Accounts
The proposed regulations include a number of special rules for
church plans. Under section 403(b)(9), a retirement income account for
employees of a church-related organization is treated as an annuity
contract for purposes of section 403(b) and these regulations. Under
the proposed regulations, the rules for a retirement income account are
based largely on the legislative history to TEFRA. The proposed
regulations define a retirement income account as a defined
contribution program established or maintained by a church-related
organization under which (i) there is separate accounting for the
retirement income account's interest in the underlying assets (i.e., it
must be possible at all times to determine the retirement income
account's interest in the underlying assets and distinguish that
interest from any interest that is not part of the retirement income
account), (ii) investment performance is based on gains and losses on
those assets, and (iii) the assets held in the account cannot be used
for, or diverted to, purposes other than for the exclusive benefit of
plan participants or their beneficiaries. For this purpose, assets are
treated as diverted to the employer if the employer borrows assets from
the account. A retirement income account must be maintained pursuant to
a program which is a plan and the plan document must state (or
otherwise evidence in a similarly clear manner) the intent to
constitute a retirement income account.
If any asset of a retirement income account is owned or used by a
participant or beneficiary, then that ownership or use is treated as a
distribution to that participant or beneficiary. The proposed
regulations provide that a retirement income account that is treated as
an annuity contract is not a custodial account (even if it is invested
in stock of a regulated investment company).
A life annuity can generally only be provided from an individual
account by the purchase of an insurance annuity contract. However, in
light of the special rules applicable to church retirement income
accounts, the proposed regulations permit a life annuity to be paid
from such an account if certain conditions are satisfied. The
conditions are that the amount of the distribution form have an
actuarial present value, at the annuity starting date, that is equal to
the participant's or beneficiary's accumulated benefit, based on
reasonable actuarial assumptions, including assumptions regarding
interest and mortality, and that the plan sponsor guarantee benefits in
the event that a payment is due that exceeds the participant's or
beneficiary's accumulated benefit.
Commingling Assets
Under these proposed regulations, both custodial accounts and
retirement income accounts would be subject to an exclusive benefit
requirement similar to the exclusive benefit requirement applicable to
qualified plans. Section 403(b)(7)(B) provides for a custodial account
to be treated as a tax exempt.
When these regulations are issued as final regulations, to the
extent permitted by the Commissioner in future guidance, assets held
under a custodial account or a retirement income account may be pooled
with trust assets held under qualified plans.
Controlled Group Rules for Tax-Exempt Entities
The proposed regulations include controlled group rules under
section 414(c) for entities that are tax-exempt under section 501(a).
Under these rules, the employer for a plan maintained by a section
501(c)(3) organization (or any other tax-exempt organization under
section 501(a)) includes not only the organization whose employees
participate in the plan, but also any other exempt organization that is
under common control with such organization, based on 80 percent of the
directors or trustees being either representatives of or directly or
indirectly controlled by an exempt organization. The proposed
regulations include an anti-abuse rule and would also allow tax exempt
organizations to choose to be aggregated if they maintain a single plan
covering one or more employees from each organization and the
organizations regularly coordinate their day to day exempt activities.
For a section 501(c)(3) organization that makes contributions to a
section 403(b) contract, these rules would be generally relevant for
purposes of the nondiscrimination requirements, as well as the section
415 contribution limitations, the special section 403(b) catch-up
contributions, and the section 401(a)(9) minimum distribution rules.
These controlled group rules for tax-exempt entities generally do
not apply to certain church entities. Comments are requested below
under the heading Comment and Public Hearing on whether these rules
should be extended to such church entities.
The proposed regulations do not include controlled group rules for
public schools. As noted above (under the heading Overview), it is
anticipated that, when these regulations are issued as final
regulations, guidance may be issued providing controlled group safe
harbors for public schools taking into account the existing safe
harbors in Notice 89-23.
Miscellaneous Provisions
The proposed regulations include a number of rules that address the
circumstances under which a section 403(b) plan may be terminated or
assets may be exchanged or transferred.
Plan Termination
The proposed regulations, if adopted as final regulations, would
not only permit an employer to amend its section 403(b) plan to
eliminate future contributions for existing participants, but would
allow plan provisions that permit plan termination with a resulting
distribution of accumulated benefits. In general, the distribution of
accumulated benefits would be permitted only if the employer (taking
into account all entities that are treated as the employer under
section 414 on the date of the termination) does not make contributions
to another section 403(b)
[[Page 67083]]
contract that is not part of the plan (based generally on contributions
made to a section 403(b) contract during the 12 months before and after
the date of plan termination). In order for a section 403(b) plan to be
considered terminated, all accumulated benefits under the plan must be
distributed to all participants and beneficiaries as soon as
administratively practicable after termination of the plan. A
distribution includes delivery of a fully paid individual insurance
annuity contract. Eligible rollover distributions would not be subject
to current income inclusion if rolled over to an eligible retirement
plan.
The proposed regulations prohibit an employer that ceases to be an
eligible employer from making any further contributions to the section
403(b) contract for subsequent periods. In this event, the contract can
be held under a frozen plan or the plan could be terminated in
accordance with the rules regarding plan termination.
Exchanges and Transfers
Under certain conditions, the proposed regulations permit the
following exchanges or transfers:
A section 403(b) contract is permitted to be exchanged for
another section 403(b) contract held under the same section 403(b) plan
if the following conditions are satisfied: (1) The plan provides for
the exchange, (2) the participant or beneficiary has an accumulated
benefit immediately after the exchange at least equal to the
accumulated benefit of that participant or beneficiary immediately
before the exchange (taking into account the accumulated benefit of
that participant or beneficiary under both section 403(b) contracts
immediately before the exchange), and (3) the contract received in the
exchange provides that, to the extent a contract that is exchanged is
subject to any section 403(b) distribution restrictions, the contract
received in the exchange imposes restrictions on distributions to the
participant or beneficiary that are not less stringent than those
imposed on the contract being exchanged.
A section 403(b) contract is permitted to be transferred
to another section 403(b) plan (i.e., the section 403(b) contracts held
thereunder, including any assets held in a custodial account or
retirement income account that are treated as section 403(b) contracts)
if the following conditions are satisfied: (1) The participant or
beneficiary whose assets are being transferred is an employee of the
employer providing the receiving plan, (2) the transferor plan provides
for transfers, (3) the receiving plan provides for the receipt of
transfers, (4) the participant or beneficiary whose assets are being
transferred has an accumulated benefit immediately after the transfer
at least equal to the accumulated benefit with respect to that
participant or beneficiary immediately before the transfer, and (5) the
receiving plan provides that, to the extent any amount transferred is
subject to any section 403(b) distribution restrictions, the receiving
plan imposes restrictions on distributions to the participant or
beneficiary whose assets are being transferred that are not less
stringent than those imposed on the transferor plan. In addition, if a
plan-to-plan transfer does not constitute a complete transfer of the
participant's or beneficiary's interest in the section 403(b) plan,
then the transferee plan must treat the amount transferred as a
continuation of a pro rata portion of the participant's or
beneficiary's interest in the transferor section 403(b) plan (e.g., a
pro rata portion of the participant's or beneficiary's interest in any
after-tax employee contributions).
A section 403(b) plan may provide for the transfer of its
assets to a qualified plan under section 401(a) to purchase permissive
service credit under a defined benefit governmental plan or to make a
repayment to a defined benefit governmental plan.
However, neither a qualified plan nor an eligible plan under section
457 may transfer assets to a section 403(b) plan, and a section 403(b)
plan may not accept such a transfer. In addition, a section 403(b)
contract may not be exchanged for an annuity contract that is not a
section 403(b) contract. Neither a plan-to-plan transfer nor a contract
exchange permitted under the proposed regulations is treated as a
distribution for purposes of the section 403(b) distribution
restrictions (so that such a transfer or exchange may be made before
severance from employment or another distribution event).
Additional plan-to-plan transfer rules may apply in the event that
a plan-to-plan transfer is made to or from a section 403(b) arrangement
that is subject to Title I of ERISA. See section 208 of ERISA and
regulations under section 414(l) of the Internal Revenue Code (which
are the regulations interpreting section 208 of ERISA).
Defined Benefit Plans
These proposed regulations generally require a section 403(b) plan
to be a defined contribution plan. This requirement would not apply to
certain church plans. Specifically, section 251(e)(5) of TEFRA permits
a church arrangement in effect on September 3, 1982 (the date TEFRA was
enacted) to not be treated as failing to satisfy the exclusion
allowance limitations of section 403(b)(2) merely because it is a
defined benefit plan and these regulations would allow such a plan to
be continued. Any other defined benefit plan in existence on the
effective date of these regulations that has taken the position, based
on a reasonable interpretation of the statute, that it satisfies
section 403(b) would not be subject to the requirement in these
regulations that the plan be a defined contribution plan for pre-
effective date accruals, and such a plan might seek to take the
position that it satisfies the section 401 qualified plan rules for
subsequent accruals (assuming it satisfies those rules with respect to
those accruals).
Section 3121(a)(5)(D)
These proposed regulations also include proposed amendments to
regulations under section 3121(a)(5)(D), defining salary reduction
agreement for purposes of the Federal Insurance Contributions Act
(FICA). The text of the proposed amendments is the same as that of
temporary regulations being issued under section 3121(a)(5)(D) in this
same issue of the Federal Register. The proposed regulations under
section 3121(a)(5)(D) would be applicable on November 16, 2004.
Proposed Effective Date
These regulations (other than the proposed amendments to
regulations under section 3121(a)(5)(D)) are proposed to be generally
applicable for taxable years beginning after December 31, 2005.
However, there are certain transition rules. Under one transition rule,
for a section 403(b) contract maintained pursuant to a collective
bargaining agreement that is ratified and in effect when the final
regulations are issued, the regulations would not apply until the
collective bargaining agreement terminates (determined without regard
to any extension thereof after the date of publication of final
regulations). Under another transition rule, for a section 403(b)
contract maintained by a church-related organization for which the
authority to amend the contract is held by a church convention (within
the meaning of section 414(e)), the regulations would not apply before
the earlier of (i) January 1, 2007 or (ii) 60 days following the
earliest church convention that occurs after the date of publication of
final regulations. These proposed regulations cannot be relied upon
until adopted in final form.
[[Page 67084]]
Special Analyses
It has been determined that this notice of proposed rulemaking is
not a significant regulatory action as defined in Executive Order
12866. Therefore, a regulatory assessment is not required. It also has
been determined that section 553(b) of the Administrative Procedure Act
(5 U.S.C. chapter 5) does not apply to these regulations.
It is hereby certified that the collection of information in these
regulations will not have a significant economic impact on a
substantial number of small entities. This certification is based upon
the determination that respondents will need to spend minimal time (an
average of \1/2\ hour per year) giving the statutorily required notice
to departing employees. Therefore, a Regulatory Flexibility Analysis is
not required under the Regulatory Flexibility Act (5 U.S.C. chapter 6).
Pursuant to section 7805(f) of the Internal Revenue Code, this
notice of proposed rulemaking will be submitted to the Chief Counsel
for Advocacy of the Small Business Administration for comment on their
impact on small business.
Comments and Public Hearing
Before these proposed regulations are adopted as final regulations,
consideration will be given to any written comments (a signed original
and eight (8) copies) or electronic comments that are submitted timely
to the IRS. Comments are requested on all aspects of the proposed
regulations. In addition, comments are specifically requested on the
clarity of the proposed regulations and how they can be revised to be
more easily understood. All comments will be available for public
inspection and copying.
Comments are also requested on the following:
As indicated above, the IRS expects to obsolete a number
of revenue rulings, notices, and other guidance when these regulations
are issued in final form, including guidance that is now outdated as a
result of changes in the law, and guidance that will become outdated by
final regulations. Other previously issued guidance is expected to
continue in effect. Comments are requested as to whether any previously
issued guidance should be added or deleted from either list, with
respect to the scope of this obsolescence, and also with respect to
whether there are any aspects that should to be preserved in the
guidance that is expected to be obsolete.
The Treasury Department and the IRS are requesting
comments describing the issues and suggesting methods of clarifying the
interaction between the employer activities required under these
proposed regulations for an arrangement to satisfy section 403(b) and
the employer conduct that will give rise to the establishment and
maintenance of an employee pension benefit plan covered under Title I
of ERISA. The Treasury Department and the IRS will forward a copy of
the comments on this issue to the Department of Labor.
These proposed regulations authorize the Commissioner to
issue rules to determine the amount of contributions for a participant
in a defined benefit plan under section 402(b) (relating to the tax
treatment of contributions to nonqualified plans). Comments are
requested on the methodology and assumptions that should be used for
this purpose, including specifically whether the methodology and
assumptions should be the same as those currently in the regulations
under section 403(b), whether revisions should be made to reflect the
possibility that a nonqualified plan might include an early retirement
subsidy, and whether the assumptions currently applicable under the
section 403(b) regulations should be updated (for example, to match the
assumptions in Rev. Proc. 2004-37 (2004-2 I.R.B. 26), relating to
determining the extent to which certain pension payments made to a
nonresident alien are not U.S. source income).
With respect to includible compensation, comments are
requested on whether the Treasury Department and IRS have the authority
to permit 403(b) plans to use compensation, as defined in section
415(c)(3) without regard to section 415(c)(3)(E), in lieu of the
definition of includible compensation under section 403(b)(3) and, if
so, whether this should be done.
With respect to the universal availability rule, comments
are requested on whether the requirement should apply separately to
employees covered by a collective bargaining unit. Comments are also
requested on whether plans that exclude any of the following additional
types of employees (as has been permitted under Notice 89-23) should be
permitted to continue to exclude these types of employees for at least
some period of time: employees who make a one-time election to
participate in a governmental plan described in section 414(d) instead
of a section 403(b) plan; professors who are providing services on a
temporary basis to another public school for up to one year and for
whom section 403(b) contributions are being made at a rate no greater
than the rate each such professor would receive under the section
403(b) plan of the original public school; employees who are affiliated
with a religious order and who have taken a vow of poverty where the
religious order provides for the support of such employees in their
retirement; and employees who are covered by a collective bargaining
agreement.
The controlled group rules in these proposed regulations
for tax-exempt entities generally do not apply to certain church
entities. Comments are requested on whether these rules should be
extended to such church entities.
A public hearing has been scheduled for February 15, 2005, at 10
a.m. in the IRS Auditorium (7th Floor), Internal Revenue Building, 1111
Constitution Avenue, NW., Washington DC. All visitors must present
photo identification to enter the building. Because of access
restrictions, visitors will not be admitted beyond the immediate
entrance area at the Constitution Avenue entrance more than 30 minutes
before the hearing starts. For information about having your name
placed on the building access list to attend the hearing, see the FOR
FURTHER INFORMATION CONTACT section of this preamble.
The rules of 26 CFR 601.601(a)(3) apply to the hearing.
Persons who wish to present oral comments at the hearing must
submit electronic or written comments and an outline of the topics to
be discussed and the time to be devoted to each topic (a signed
original and eight (8) copies) by January 25, 2005. A period of 10
minutes will be allotted to each person for making comments. An agenda
showing the scheduling of the speakers will be prepared after the
deadline for receiving outlines has passed. Copies of the agenda will
be available free of charge at the hearing.
Drafting Information
The principal authors of these regulations are R. Lisa Mojiri-Azad
and John Tolleris, Office of the Division Counsel/Associate Chief
Counsel (Tax Exempt and Government Entities), IRS. However, other
personnel from the IRS and the Treasury Department participated in
their development.
List of Subjects
26 CFR Part 1
Income taxes, Reporting and recordkeeping requirements.
26 CFR Part 31
Employment taxes, Income taxes, Penalties, Pensions, Railroad
retirement,
[[Page 67085]]
Reporting and recordkeeping requirements, Social security, Unemployment
compensation.
Proposed Amendments to the Regulations
Accordingly, 26 CFR parts 1 and 31 are proposed to be amended as
follows:
PART 1--INCOME TAXES
Paragraph 1. The authority citation for part 1 is amended by
removing the entry for Sec. 1.403(b)-3 and adding entries in numerical
order to read, in part, as follows:
Authority: 26 U.S.C. 7805 * * *
Sec. 1.403(b)-6 Also issued under 26 U.S.C. 403(b)(10). * * *
Sec. 1.414(c)-5 Also issued under 26 U.S.C. 414(b), (c), and (o). * *
*
Par. 2. Section 1.402(b)-1 is amended by revising paragraphs (a)(2)
and (b)(2)(ii) to read as follows:
Sec. 1.402(b)-1 Treatment of beneficiary of a trust not exempt under
section 501(a).
(a) * * *
(2) Determination of amount of employer contributions. If, for an
employee, the actual amount of employer contributions referred to in
paragraph (a)(1) of this section for any taxable year of the employee
is not determinable or for any other reason is not known, such amount
shall be the amount applicable under rules prescribed by the
Commissioner in revenue rulings, notices, or other guidance published
in the Internal Revenue Bulletin (see Sec. 601.601(d)(2)(ii)(b) of
this chapter).
(b) * * *
(2) * * *
(ii) If a separate account in a trust for the benefit of two or
more employees is not maintained for each employee, the value of the
employee's interest in such trust is determined in accordance with
rules prescribed by the Commissioner under the authority in paragraph
(a)(2) of this section.
* * * * *
Par. 3. Section 1.402(g)(3)-1 is added to read as follows:
Sec. 1.402(g)(3)-1 Employer contributions to purchase a section
403(b) contract under a salary reduction agreement.
(a) General rule. With respect to an annuity contract under section
403(b), except as provided in paragraph (b) of this section, an
elective deferral means an employer contribution to purchase an annuity
contract under section 403(b) under a salary reduction agreement within
the meaning of Sec. 31.3121(a)(5)-2(a) of this chapter.
(b) Special rule. Notwithstanding paragraph (a) of this section,
for purposes of section 402(g)(3)(C), an elective deferral only
includes a contribution that is made pursuant to a cash or deferred
election (as defined at Sec. 1.401(k)-1(a)(3)). Thus, for purposes of
section 402(g)(3)(C), an elective deferral does not include a
contribution that is made pursuant to an employee's one-time
irrevocable election made on or before the employee's first becoming
eligible to participate under the employer's plan or a contribution
made as a condition of employment that reduces the employee's
compensation.
(c) Effective date. This section is applicable for taxable years
beginning after December 31, 2005.
Par. 4. Section 1.403(b)-0 is added to read as follows:
Sec. 1.403(b)-0 Taxability under an annuity purchased by a section
501(c)(3) organization or a public school.
Sec. 1.403(b)-1 General overview of taxability under an annuity
contract purchased by a section 501(c)(3) organization or a public
school.
Sec. 1.403(b)-2 Definitions.
Sec. 1.403(b)-3 Exclusion for contributions to purchase section
403(b) contracts.
Sec. 1.403(b)-4 Contribution limitations.
Sec. 1.403(b)-5 Nondiscrimination rules.
Sec. 1.403(b)-6 Timing of distributions and benefits.
Sec. 1. 403(b)-7 Taxation of distributions and benefits.
Sec. 1.403(b)-8 Funding.
Sec. 1.403(b)-9 Special rules for church plans.
Sec. 1.403(b)-10 Miscellaneous provisions.
Sec. 1.403(b)-11 Effective date.
Par. 5. Sections 1.403(b)-1, 1.403(b)-2 and 1.403(b)-3 are revised
to read as follows:
Sec. 1.403(b)-1 General overview of taxability under an annuity
contract purchased by a section 501(c)(3) organization or a public
school.
Section 403(b) and Sec. Sec. 1.403(b)-2 through 1.403(b)-10
provide rules for the Federal income tax treatment of an annuity
purchased for an employee by an employer that is either a tax-exempt
entity under section 501(c)(3) (relating to certain religious,
charitable, scientific, or other types of organizations) or a public
school, or for a minister described in section 414(e)(5)(A). See
section 403(a) (relating to qualified annuities) for rules regarding
the taxation of an annuity purchased under a qualified annuity plan
that meets the requirements of section 404(a)(2), and see section
403(c) (relating to nonqualified annuities) for rules regarding the
taxation of other types of annuities.
Sec. 1.403(b)-2 Definitions.
(a) This section sets forth the definitions that are applicable for
purposes of Sec. Sec. 1.403(b)-1 through 1.403(b)-11.
(1) Accumulated benefit means the total benefit to which a
participant or beneficiary is entitled under a section 403(b) contract,
including all contributions made to the contract and all earnings
thereon.
(2) Annuity contract means a contract that is issued by an
insurance company qualified to issue annuities in a State and that
includes payment in the form of an annuity. See Sec. 1.401(f)-1(d)(2)
and (e) for the definition of an annuity, and see Sec. 1.403(b)-
8(c)(3) for a special rule for certain State plans. See also Sec. Sec.
1.403(b)-8(d) and 1.403(b)-9(a) for additional rules regarding the
treatment of custodial accounts and retirement income accounts as
annuity contracts.
(3) Beneficiary means a person who is entitled to benefits in
respect of a participant following the participant's death or an
alternate payee pursuant to a qualified domestic relations order, as
described in Sec. 1.403(b)-10(c).
(4) Catch-up amount or catch-up limitation for a participant for a
taxable year means a section 403(b) elective deferral permitted under
section 414(v) (as described in Sec. 1.403(b)-4(c)(2)), or section
402(g)(7) (as described in Sec. 1.403(b)-4(c)(3)).
(5) Church means a church as defined in section 3121(w)(3)(A) and a
qualified church-controlled organization as defined in section
3121(w)(3)(B).
(6) Church-related organization means a church or convention or
association of churches as described in section 414(e)(3)(A).
(7) Elective deferral means an elective deferral under Sec.
1.402(g)(3)-1 (with respect to an employer contribution to a section
403(b) contract) and any other amount that constitutes an elective
deferral under section 402(g)(3).
(8)(i) Eligible employer means--
(A) A State, but only with respect to an employee of the State
performing services for a public school;
(B) A section 501(c)(3) organization with respect to any employee
of the section 501(c)(3) organization;
(C) Any employer of a minister described in section 414(e)(5)(A),
but only with respect to the minister; or
(D) A minister described in section 414(e)(5)(A), but only with
respect to a retirement income account established for the minister.
[[Page 67086]]
(ii) An entity is not an eligible employer under paragraph
(a)(8)(i)(A) of this section if it treats itself as not being a State
for any other purpose of the Internal Revenue Code, and a subsidiary or
other affiliate of an eligible employer is not an eligible employer
under paragraph (a)(8)(i) of this section if the subsidiary or other
affiliate is not an entity described in paragraph (a)(8)(i) of this
section.
(9) Employee means a common-law employee performing services for
the employer, and does not include a former employee or an independent
contractor. Subject to any rules in Sec. Sec. 1.403(b)-1 through
1.403(b)-11 that are specifically applicable to ministers, an employee
also includes a minister described in section 414(e)(5)(A) when
performing services in the exercise of his or her ministry.
(10) Employee performing services for a public school means an
employee performing services as an employee for a public school of a
State. This definition is not applicable unless the employee's
compensation for performing services for a public school is paid by the
State. Further, a person occupying an elective or appointive public
office is not an employee performing services for a public school
unless such office is one to which an individual is elected or
appointed only if the individual has received training, or is
experienced, in the field of education. The term public office includes
any elective or appointive office of a State.
(11) Includible compensation means the employee's compensation
received from an eligible employer that is includible in the
participant's gross income for Federal income tax purposes (computed
without regard to section 911) for the most recent period that is a
year of service. Includible compensation for a minister who is self-
employed means the minister's earned income as defined in section
401(c)(2) (computed without regard to section 911) for the most recent
period that is a year of service. Includible compensation does not
include any compensation received during a period when the employer is
not an eligible employer. Includible compensation also includes any
elective deferral and any amount contributed or deferred by the
eligible employer at the election of the employee that is not
includible in the gross income of the employee by reason of section
125, 132(f)(4), or 457. The amount of includible compensation is
determined without regard to any community property laws. See Sec.
1.403(b)-4(d) for a special rule regarding former employees.
(12) Participant means an employee for whom a section 403(b)
contract is currently being purchased, or an employee or former
employee for whom a section 403(b) contract has previously been
purchased and who has not received a distribution of his or her entire
benefit under the contract.
(13) Plan means a plan as described in Sec. 1.403(b)-3(b)(3).
(14) Public school means a State-sponsored educational organization
described in section 170(b)(1)(A)(ii) (relating to educational
organizations that normally maintain a regular faculty and curriculum
and normally have a regularly enrolled body of pupils or students in
attendance at the place where educational activities are regularly
carried on).
(15) Retirement income account means a defined contribution program
established or maintained by a church-related organization to provide
benefits under section 403(b) for its employees or their beneficiaries
as described in Sec. 1.403(b)-9.
(16) Section 403(b) contract; section 403(b) plan--(i) Section
403(b) contract means a contract described in Sec. 1.403(b)-3. If for
any taxable year an employer contributes to more than one section
403(b) contract for a participant or beneficiary, then, under section
403(b)(5), all such contracts are treated as one contract for purposes
of section 403(b) and Sec. Sec. 1.403(b)-2 through 1.403(b)-10. See
also Sec. 1.403(b)-3(b)(1).
(ii) Section 403(b) plan means the plan of the employer under which
the section 403(b) contracts for its employees are maintained.
(17) Section 403(b) elective deferral means an elective deferral
that is an employer contribution to a section 403(b) contract for an
employee. See Sec. 1.403(b)-5(b) for additional rules with respect to
a section 403(b) elective deferral.
(18) Section 501(c)(3) organization means an organization that is
described in section 501(c)(3) (relating to certain religious,
charitable, scientific, or other types of organizations) and exempt
from tax under section 501(a).
(19) Severance from employment means that the employee ceases to be
employed by the employer maintaining the plan. See regulations under
section 401(k) for additional guidance concerning severance from
employment. See also Sec. 1.403(b)-6(h) for a special rule under which
severance from employment is determined by reference to employment with
the eligible employer.
(20) State means a State, a political subdivision of a State, or
any agency or instrumentality of a State. For this purpose, the
District of Columbia is treated as a State, as provided under section
7701(a)(10). In addition, for purposes of determining whether an
individual is an employee performing services for a public school, an
Indian tribal government is treated as a State, as provided under
section 7871(a)(6)(B). See also section 1450(b) of the Small Business
Job Protection Act of 1996 (110 Stat. 1755, 1814) for special rules
treating certain contracts purchased in a plan year beginning before
January 1, 1995, that include contributions by an Indian tribal
government as section 403(b) contracts, whether or not those
contributions are for employees performing services for a public
school.
(21) Years of service means each full year during which an
individual is a full-time employee of an eligible employer, plus
fractional credit for each part of a year during which the individual
is either a full-time employee of an eligible employer for a part of
the year or a part-time employee of an eligible employer. See Sec.
1.403(b)-4(e) for rules for determining years of service.
(b) [Reserved].
Sec. 1.403(b)-3 Exclusion for contributions to purchase section
403(b) contracts.
(a) Exclusion for section 403(b) contracts. Amounts contributed by
an eligible employer for the purchase of an annuity contract for an
employee are excluded from the gross income of the employee under
section 403(b) only if each of the requirements in paragraphs (a)(1)
through (9) of this section is satisfied. In addition, amounts
contributed by an eligible employer for the purchase of an annuity
contract for an employee pursuant to a cash or deferred election are
not includible in an employee's gross income at the time the cash would
have been includible in the employee's gross income (but for the cash
or deferred election) if each of the requirements in paragraphs (a)(1)
through (9) of this section is satisfied.
(1) Not a contract issued under qualified plan or eligible
governmental plan. The contract is not purchased under a qualified plan
(under section 401(a) or 404(a)(2)) or an eligible governmental plan
under section 457(b).
(2) Nonforfeitability. The rights of the employee under the
contract (disregarding rights to future premiums) are nonforfeitable.
An employee's rights under a contract fail to be nonforfeitable unless
the participant for whom the contract is purchased has at all times a
fully vested and nonforfeitable right (as defined under Sec. 1.411(a)-
4) to all benefits provided under the contract. See paragraph (c) of
this section for
[[Page 67087]]
additional rules regarding the nonforfeitability requirement of this
paragraph (a)(2).
(3) Nondiscrimination and universal availability. In the case of a
contract purchased by an eligible employer other than a church, the
contract is purchased under a plan that satisfies section 403(b)(12)
(relating to nondiscrimination and universal availability
requirements). See Sec. 1.403(b)-5.
(4) Limitations on elective deferrals. In the case of an elective
deferral, the contract satisfies section 401(a)(30) (relating to
limitations on elective deferrals). A contract does not satisfy section
401(a)(30) as required under this paragraph (a)(4) unless the contract
requires all elective deferrals for an employee to not exceed the
limits of section 402(g)(1), including elective deferrals for the
employee under the contract and any other elective deferrals under the
plan under which the contract is purchased and under all other plans,
contracts, or arrangements of the employer.
(5) Nontransferability. The contract is not transferable. This
paragraph (a)(5) does not apply to a contract issued before January 1,
1963. See section 401(g).
(6) Minimum required distributions. The contract satisfies the
requirements of section 401(a)(9) (relating to minimum required
distributions). See Sec. 1.403(b)-6(e).
(7) Rollover distributions. The contract provides that, if the
distributee of an eligible rollover distribution elects to have the
distribution paid directly to an eligible retirement plan, as defined
in section 402(c)(8)(B), and specifies the eligible retirement plan to
which the distribution is to be paid, then the distribution will be
paid to that eligible retirement plan in a direct rollover. See Sec.
1.403(b)-7(b)(2).
(8) Limitation on incidental benefits. The contract satisfies the
incidental benefit requirements of section 401(a). See Sec. 1.403(b)-
6(g).
(9) Maximum annual additions. The annual additions to the contract
do not exceed the applicable limitations of section 415(c) (treating
contributions and other additions as annual additions). See paragraph
(b) of this section and Sec. 1.403(b)-4(b).
(b) Application of requirements--(1) Aggregation of contracts. In
accordance with section 403(b)(5), for purposes of determining whether
this section is satisfied, all section 403(b) contracts purchased for
an individual by an employer are treated as purchased under a single
contract. Additional aggregation rules apply under section 402(g) for
purposes of satisfying paragraph (a)(4) of this section and under
section 415 for purposes of satisfying paragraph (a)(9) of this
section.
(2) Disaggregation for excess annual additions. In accordance with
the last sentence of section 415(a)(2), if an excess annual addition is
made to a contract that otherwise satisfies the requirements of this
section, then the portion of the contract that includes such excess
annual addition fails to be a section 403(b) contract (and instead is a
contract to which section 403(c) applies, as further described in
paragraph (c)(1) of this section) and the remaining portion of the
contract is a section 403(b) contract. This paragraph (b)(2) does not
apply unless, for the year of the excess and each year thereafter, the
issuer of the contract maintains separate accounts for each such
portion. Thus, the entire contract fails to be a section 403(b)
contract if an excess annual addition is made and a separate account is
not maintained with respect to the excess.
(3) Plan in form and operation. A contract does not satisfy
paragraph (a) of this section unless it is maintained pursuant to a
plan. For this purpose, a plan is a written defined contribution plan,
which, in both form and operation, satisfies the requirements of this
section and Sec. Sec. 1.403(b)-4 through 1.403(b)-10. For purposes of
this section and Sec. Sec. 1.403(b)-4 through 1.403(b)-10, the plan
must contain all the material terms and conditions for eligibility,
benefits, applicable limitations, the contracts available under the
plan, and the time and form under which benefit distributions would be
made. For purposes of this section and Sec. Sec. 1.403(b)-4 through
1.403(b)-10, a plan may contain certain optional features not required
under section 403(b), such as hardship withdrawal distributions, loans,
plan-to-plan or annuity contract-to-annuity contract transfers, and
acceptance of rollovers to the plan. However, if a plan contains any
optional provisions, the optional provisions must meet, in both form
and operation, the relevant requirements under section 403(b), this
section, and Sec. Sec. 1.403(b)-4 through 1.403(b)-10. This paragraph
(b)(3) applies to contributions to an annuity contract by a church only
if the annuity is part of a retirement income account, as defined in
Sec. 1.403(b)-9.
(4) Exclusion limited to former employees--(i) General rule. Except
as provided in paragraph (b)(4)(ii) of this section and in Sec.
1.403(b)-4(d), the exclusion from gross income provided by section
403(b) does not apply to contributions made for former employees. For
this purpose, a contribution is not made for a former employee if the
contribution is with respect to compensation that would otherwise be
paid for a payroll period that begins before severance from employment.
(ii) Exceptions. [Reserved].
(c) Effect of failure--(1) General rule. See section 403(c)
(relating to nonqualified annuities) for the treatment of a
nonqualified annuity contract issued by an insurance company that is
not a section 403(b) contract. See section 61, 83, or 402(b) for the
treatment of a custodial account or retirement income account that
fails to be treated as a section 403(b) contract.
(2) Failure to satisfy nonforfeitability requirement. If an annuity
contract issued by an insurance company would qualify as a section
403(b) contract but for the failure to satisfy the nonforfeitability
requirement of paragraph (a)(2) of this section, then the contract is
treated as a contract to which section 403(c) applies. However, on or
after the date on which the participant's interest in that contract
becomes nonforfeitable, the contract may be treated as a section 403(b)
contract if no election has been made under section 83(b) with respect
to the contract, the participant's interest in the contract has been
subject to a substantial risk of forfeiture before becoming
nonforfeitable, and the contract has at all times satisfied the
requirements of paragraph (a) of this section other than the
nonforfeitability requirement of paragraph (a)(2) of this section.
Thus, for example, for the current year and each prior year, no
contribution can have been made to the contract that would cause the
contract to fail to be a section 403(b) contract as a result of
contributions exceeding the limitations of section 415 (except to the
extent permitted under paragraph (b)(2) of this section) or to fail to
satisfy the nondiscrimination rules described in Sec. 1.403(b)-5.
(3) Treatment of partial vesting and separate accounts. For
purposes of applying this paragraph (c), if a participant's interest in
a contract becomes nonforfeitable to any extent in a year but the
participant's entire interest in the contract is not nonforfeitable,
then the portion that is nonforfeitable and the portion that fails to
be nonforfeitable are each treated as separate contracts. In addition,
for purposes of applying this paragraph (c), if a contribution is made
to an annuity contract in excess of the limitations of section 415(c)
and the excess is maintained in a separate account, then
[[Page 67088]]
the portion of the contract that includes the excess contributions
account and the remainder are each treated as separate contracts. Thus,
if an annuity contract that includes an excess contributions account
changes from forfeitable to nonforfeitable during a year, then the
portion that is not attributable to the excess contributions account
constitutes a section 403(b) contract (assuming it otherwise satisfies
the requirements to be a section 403(b) contract) and is not included
in gross income, and the portion that is attributable to the excess
contributions account is included in gross income in accordance with
section 403(c).
Par. 5a. Sections 1.403(b)-4 through 1.403(b)-11 are added to read
as follows:
Sec. 1.403(b)-4 Contribution limitations.
(a) Treatment of contributions in excess of limitations. The
exclusion provided under Sec. 1.403(b)-3(a) applies to a participant
only if the amounts contributed by the employer for the purchase of an
annuity contract for the participant do not exceed the applicable limit
under sections 415 and 402(g), as described in this section. Under
Sec. 1.403(b)-3(a)(4), a section 403(b) contract is required to
include the limits on elective deferrals imposed by section 402(g), as
described in paragraph (c) of this section. See paragraph (f) of this
section for special rules concerning correction of excess contributions
and deferrals. The limits imposed by section 415, Sec. 1.403(b)-
3(a)(9), section 402(g), Sec. 1.403(b)-3(a)(4), and this section do
not apply with respect to rollover contributions made to a section
403(b) contract, as described in Sec. 1.403(b)-10(d), but after-tax
contributions are taken into account under section 415, Sec. 1.403(b)-
3(a)(9), and this section.
(b) Maximum annual contribution--(1) General rule. In accordance
with section 415(a)(2) and Sec. 1.403(b)-3(b)(2), the contributions
for any participant under a section 403(b) contract (i.e., employer
nonelective contributions (including matching contributions), section
403(b) elective deferrals, and after-tax contributions) are not
permitted to exceed the limitations imposed by section 415. For this
purpose, contributions made for a participant are aggregated to the
extent applicable under sections 414(b), (c), (m), (n), and (o). For
purposes of section 415(a)(2) and Sec. 1.403(b)-1 through Sec.
1.403(b)-11, a contribution means any annual addition, as defined in
section 415(c).
(2) Special rules. See section 415(k)(4) for a special rule under
which contributions to section 403(b) contracts are generally
aggregated with contributions under other arrangements in applying
section 415. For purposes of applying section 415(c)(1)(B) with respect
to a section 403(b) contract, except as provided in section
415(c)(3)(C), a participant's includible compensation (as defined in
Sec. 1.403(b)-2) is substituted for the participant's compensation, as
described in section 415(c)(3)(E). Any age 50 catch-up contributions
under paragraph (c)(2) of this section are disregarded in applying
section 415.
(c) Section 403(b) elective deferrals--(1) Basic limit under
section 402(g)(1). In accordance with section 402(g)(1)(A), the section
403(b) elective deferrals for any individual are included in the
individual's gross income to the extent the amount of such deferrals,
plus all other elective deferrals for the individual, for the taxable
year exceeds the applicable dollar amount under section 402(g)(1)(B).
The applicable annual dollar amount under section 402(g)(1)(B) is:
$11,000 for 2002; $12,000 for 2003; $13,000 for 2004; $14,000 for 2005;
and $15,000 for 2006 and thereafter. After 2006, the $15,000 amount is
adjusted for cost-of-living in the manner described in section
402(g)(4). See Sec. 1.403(b)-5(b) for a universal availability rule
that applies if any employee is permitted to have any section 403(b)
elective deferrals made on his or her behalf.
(2) Age 50 catch-up--(i) In general. In accordance with section
414(v) and the regulations thereunder, a section 403(b) contract may
provide for additional catch-up contributions for a participant who is
age 50 by the end of the year, provided that such age 50 catch-up
contributions do not exceed the catch-up limit under section 414(v)(2)
for the taxable year. The maximum amount of additional age 50 catch-up
contributions for a taxable year under section 414(v) is as follows:
$1,000 for 2002; $2,000 for 2003; $3,000 for 2004; $4,000 for 2005; and
$5,000 for 2006 and thereafter. After 2006, the $5,000 amount is
adjusted for cost-of-living in the manner described in section
414(v)(2)(C). For additional requirements, see regulations under
section 414(v).
(ii) Coordination with special section 403(b) catch-up. In
accordance with sections 414(v)(6)(A)(ii) and 402(g)(7)(A), the age 50
catch-up described in this paragraph (c)(2) may apply for any taxable
year in which a participant also qualifies for the special section
403(b) catch-up under paragraph (c)(3) of this section.
(3) Special section 403(b) catch-up for certain organizations--(i)
Amount of the special section 403(b) catch-up. In the case of a
qualified employee of a qualified organization for whom the basic
section 403(b) elective deferrals for any year are not less than the
applicable dollar amount under section 402(g)(1)(B), the section 403(b)
elective deferral limitation of section 402(g)(1) for the taxable year
of the qualified employee is increased by the least of--
(A) $3,000;
(B) The excess of--
(1) $15,000; over
(2) The total special section 403(b) catch-up elective deferrals
made for the qualified employee by the qualified organization for prior
years; or
(C) The excess of--
(1) $5,000 multiplied by the number of years of service of the
employee with the qualified organization; over
(2) The total elective deferrals (as defined at Sec. 1.403(b)-2)
made for the qualified employee by the qualified organization for prior
years.
(ii) Qualified organization. (A) For purposes of this paragraph
(c)(3), qualified organization means an eligible employer that is
either--
(1) An educational organization described in section
170(b)(1)(A)(ii);
(2) A hospital;
(3) A health and welfare service agency (including a home health
service agency); or
(4) A church-related organization. All entities that are in a
church-related organization are treated as a single qualified
organization (so that years of service and any special section 403(b)
catch-up elective deferrals previously made for a qualified employee
for a church within a church-related organization are taken into
account for purposes of applying this paragraph (c)(3) to the employee
with respect to any other entity within the same church-related
organization).
(B) For purposes of this paragraph (c)(3)(ii), a health and welfare
service agency means either an organization whose primary activity is
to provide services that constitute medical care as defined in section
213(d)(1) (such as a hospice) or a section 501(c)(3) organization whose
primary activity is the prevention of cruelty to individuals or
animals, or which provides substantial personal services to the needy
as part of its primary activity (such as a section 501(c)(3)
organization that provides meals to needy individuals).
(iii) Qualified employee. For purposes of this paragraph (c)(3),
qualified employee means an employee who has completed at least 15
years of service (as defined under paragraph (e) of this section)
taking into account only
[[Page 67089]]
employment with the qualified organization.
(iv) Coordination with age 50 catch-up. In accordance with sections
402(g)(1)(C) and 402(g)(7), any catch-up amount contributed by an
employee who is eligible for both an age 50 catch-up and a special
section 403(b) catch-up is treated first as an amount contributed as a
special section 403(b) catch-up to the extent a special section 403(b)
catch-up is permitted, and then as an amount contributed as an age 50
catch-up (to the extent the catch-up amount exceeds the maximum special
section 403(b) catch-up after taking into account sections 402(g) and
415(c), this paragraph (c)(3), and any limitations on the special
section 403(b) catch-up that are imposed by the terms of the plan).
(4) Examples. The provisions of this paragraph (c) are illustrated
by the following examples:
Example 1. (i) Facts illustrating application of the basic
dollar limit. Participant B, who is 45, is eligible to participate
in a State university section 403(b) plan in 2006. B is not a
qualified employee, as defined in paragraph (c)(3)(iii) of this
section. The plan permits section 403(b) elective deferrals, but no
other employer contributions are made under the plan. The plan
provides limitations on section 403(b) elective deferrals up to the
maximum permitted under paragraphs (c)(1) and (3) of this section
and the additional age 50 catch-up amount described in paragraph
(c)(2) of this section. For 2006, B will receive includible
compensation of $42,000 from the eligible employer. B desires to
elect to have the maximum section 403(b) elective deferral possible
contributed in 2006. For 2006, the basic dollar limit for section
403(b) elective deferrals under paragraph (c)(1) of this section is
$15,000 and the additional dollar amount permitted under the age 50
catch-up is $5,000.
(ii) Conclusion. B is not eligible for the age 50 catch-up in
2006 because B is 45 in 2006, or the special section 403(b) catch-up
under paragraph (c)(3) of this section because B is not a qualified
employee. Accordingly, the maximum section 403(b) elective deferral
that B may elect for 2006 is $15,000.
Example 2. (i) Facts illustrating application of the includible
compensation limitation. The facts are the same as in Example 1,
except B's includible compensation is $14,000.
(ii) Conclusion. Under section 415(c), contributions may not
exceed 100 percent of includible compensation. Accordingly, the
maximum section 403(b) elective deferral that B may elect for 2006
is $14,000.
Example 3. (i) Facts illustrating application of the age 50
catch-up. Participant C, who is 55, is eligible to participate in a
State university section 403(b) plan in 2006. The plan permits
section 403(b) elective deferrals, but no other employer
contributions are made under the plan. The plan provides limitations
on section 403(b) elective deferrals up to the maximum permitted
under paragraphs (c)(1) and (3) of this section and the additional
age 50 catch-up amount described in paragraph (c)(2) of this
section. For 2006, C will receive includible compensation of $48,000
from the eligible employer. C desires to elect to have the maximum
section 403(b) elective deferral possible contributed in 2006. For
2006, the basic dollar limit for section 403(b) elective deferrals
under paragraph (c)(1) of this section is $15,000 and the additional
dollar amount permitted under the age 50 catch-up is $5,000. C does
not have 15 years of service and thus is not a qualified employee,
as defined in paragraph (c)(3)(iii) of this section.
(ii) Conclusion. C is eligible for the age 50 catch-up in 2006
because C is 55 in 2006. C is not eligible for the special section
403(b) catch-up under paragraph (c)(3) of this section because C is
not a qualified employee (as defined in paragraph (c)(3)(iii) of
this section). Accordingly, the maximum section 403(b) elective
deferral that C may elect for 2006 is $20,000 ($15,000 plus $5,000).
Example 4. (i) Facts illustrating application of both the age
50 and the special section 403(b) catch-up. The facts are the same
as in Example 3, except that C is a qualified employee for purposes
of the special section 403(b) catch-up provisions in paragraph
(c)(3) of this section. For 2006, the maximum additional section
403(b) elective deferral for which C qualifies under the special
section 403(b) catch-up under paragraph (c)(3) of this section is
$3,000.
(ii) Conclusion. The maximum section 403(b) elective deferrals
that C may elect for 2006 is $23,000. This is the sum of the basic
limit on section 403(b) elective deferrals under paragraph (c)(1) of
this section equal to $15,000, plus the $3,000 additional special
section 403(b) catch-up amount for which C qualifies under paragraph
(c)(3) of this section, plus the additional age 50 catch-up amount
of $5,000.
Example 5. (i) Facts illustrating calculation of years of
service with a predecessor organization for purposes of the special
section 403(b) catch-up. The facts are the same as in Example 4,
except that C has previously made special section 403(b) catch-up
deferrals to a section 403(b) plan maintained by a hospital which
was acquired by C's current eligible employer which is a hospital.
(ii) Conclusion. The special section 403(b) catch-up amount for
which C qualifies under paragraph (c)(3) of this section must be
calculated taking into account C's prior years of service and
special section 403(b) catch-up deferrals with the predecessor
hospital if and only if C did not have any severance from service in
connection with the acquisition.
Example 6. (i) Facts illustrating application of the age 50
catch-up and the section 415(c) dollar limitation. The facts are the
same as in Example 4, except that the employer makes a nonelective
contribution for each employee equal to 20 percent of C's
compensation (which is $48,000). Thus, the employer makes a
nonelective contribution for C for 2006 equal to $9,600. The plan
provides that a participant is not permitted to make section 403(b)
elective deferrals to the extent the section 403(b) elective
deferrals would result in contributions in excess of the maximum
permitted under section 415 and provides that contributions are
reduced in the following order: the special section 403(b) catch-up
elective deferrals under paragraph (c)(3) of this section are
reduced first; the age 50 catch-up elective deferrals under
paragraph (c)(2) of this section are reduced second; and then the
basic section 403(b) elective deferrals under paragraph (c)(1) of
this section are reduced. For 2006, it is assumed that the
applicable dollar limit under section 415(c)(1)(A) is $44,000.
(ii) Conclusion. The maximum section 403(b) elective deferral
that C may elect for 2006 is $23,000. This is the sum of the basic
limit on section 403(b) elective deferrals under paragraph (c)(1) of
this section equal to $15,000, plus the $3,000 additional special
section 403(b) catch-up amount for which C qualifies under paragraph
(c)(3) of this section, plus the additional age 50 catch-up amount
of $5,000. The limit in paragraph (b) of this section would not be
exceeded because the sum of the $9,600 nonelective contribution and
the $23,000 section 403(b) elective deferrals does not exceed the
lesser of $49,000 (which is the sum of $44,000 plus the $5,000
additional age 50 catch-up amount) or $53,000 (which is the sum of
C's includible compensation for 2006 ($48,000) plus the $5,000
additional age 50 catch-up amount).
Example 7. (i) Facts further illustrating application of the age
50 catch-up and the section 415(c) dollar limitation. The facts are
the same as in Example 6, except that C's includible compensation
for 2006 is $56,000 and the plan provides for a nonelective
contribution equal to 50 percent of includible compensation, so that
the employer nonelective contribution for C for 2006 is $28,000 (50
percent of $56,000).
(ii) Conclusion. The maximum section 403(b) elective deferral
that C may elect for 2006 is $21,000. A section 403(b) elective
deferral in excess of this amount would exceed the sum of the limit
in section 415(c)(1)(A) plus the additional age 50 catch-up amount,
because the sum of the employer's nonelective contribution of
$28,000 plus a section 403(b) elective deferral in excess of $21,000
would exceed $49,000 (the sum of the $44,000 limit in section
415(c)(1)(A) plus the $5,000 additional age 50 catch-up amount).
Example 8. (i) Facts further illustrating application of the age
50 catch-up and the section 415(c) dollar limitation. The facts are
the same as in Example 7, except that the plan provides for a
nonelective contribution for C equal to $44,000 (which is the limit
in section 415(c)(1)(A)).
(ii) Conclusion. The maximum section 403(b) elective deferral
that C may elect for 2006 is $5,000. A section 403(b) elective
deferral in excess of this amount would exceed the sum of the limit
in section 415(c)(1)(A) plus the additional age 50 catch-up amount
($5,000), because the sum of the employer's nonelective contribution
of $44,000 plus a section 403(b) elective deferral in excess of
$5,000 would exceed $49,000 (the sum of the $44,000 limit in section
415(c)(1)(A) plus the $5,000 additional age 50 catch-up amount).
[[Page 67090]]
Example 9. (i) Facts illustrating application of the age 50
catch-up and the section 415(c) includible compensation limitation.
The facts are the same as in Example 7, except that C's includible
compensation for 2006 is $28,000, so that the employer nonelective
contribution for C for 2006 is $14,000 (50 percent of $28,000).
(ii) Conclusion. The maximum section 403(b) elective deferral
that C may elect for 2006 is $19,000. A section 403(b) elective
deferral in excess of this amount would exceed the sum of the limit
in section 415(c)(1)(B) plus the additional age 50 catch-up amount,
because C's includible compensation is $28,000 and the sum of the
employer's nonelective contribution of $14,000 plus a section 403(b)
elective deferral in excess of $19,000 would exceed $33,000 (which
is the sum of 100 percent of C's includible compensation plus the
$5,000 additional age 50 catch-up amount).
Example 10. (i) Facts illustrating that section 403(b) elective
deferrals cannot exceed compensation otherwise payable. Employee D
is age 60, has includible compensation of $14,000, and wishes to
contribute section 403(b) elective deferrals of $20,000 for the
year. No nonelective contributions are made for Employee D.
(ii) Conclusion. The maximum limit on section 403(b) elective
deferrals for a participant with compensation less than the maximum
dollar limit in section 415(c) is 100 percent of includible
compensation, plus the $5,000 additional age 50 catch-up amount.
However, because a contribution is a section 403(b) elective
deferral only if it is a result of a compensation reduction, D
cannot make section 403(b) elective deferrals in excess of D's
actual compensation.
Example 11. (i) Facts illustrating calculation of the special
section 403(b) catch-up. For 2006, employee E, who is age 50, is
eligible to participate in a section 403(b) plan of hospital H,
which is a section 501(c)(3) organization. H's plan permits section
403(b) elective deferrals and provides for an employer contribution
of 10 percent of a participant's compensation with that employer for
the taxable year. The plan provides limitations on section 403(b)
elective deferrals up to the maximum permitted under paragraphs
(c)(1), (2), and (3) of this section. For 2006, E's includible
compensation is $50,000. E wishes to elect to have the maximum
section 403(b) elective deferral possible contributed in 2006. E has
previously made $62,000 of section 403(b) elective deferrals under
the plan, but has never made an election for a special section
403(b) catch-up elective deferral. For 2006, the basic dollar limit
for section 403(b) elective deferrals under paragraph (c)(1) of this
section is $15,000, the additional dollar amount permitted under the
age 50 catch-up is $5,000, E's employer will make a nonelective
contribution of $5,000 (10% of $50,000 compensation), and E is a
qualified employee of a qualified employer as defined in paragraph
(c)(3) of this section.
(ii) Conclusion. The maximum section 403(b) elective deferrals
that E may elect for 2006 is $23,000. This is the sum of the basic
limit on section 403(b) elective deferrals for 2006 under paragraph
(c)(1) of this section equal to $15,000, plus the $3,000 maximum
additional special section 403(b) catch-up amount for which D
qualifies in 2006 under paragraph (c)(3) of this section, plus the
additional age 50 catch-up amount of $5,000. The limitation on the
additional special section 403(b) catch-up amount is not less than
$3,000 because the limitation at paragraph (c)(3)(i)(B) of this
section is $15,000 ($15,000 minus zero) and the limitation at
paragraph (c)(3)(i)(C) of this section is $13,000 ($5,000 times 15,
minus $62,000 of total deferrals in prior years).
Example 12. (i) Facts illustrating calculation of the special
section 403(b) catch-up in the next calendar year. The facts are the
same as in Example 11, except that, for 2007, E has includible
compensation of $60,000. For 2007, E now has previously made $85,000
of section 403(b) elective deferrals ($62,000 deferred before 2006,
plus the $15,000 in basic section 403(b) elective deferrals in 2006,
the $3,000 maximum additional special section 403(b) catch-up amount
in 2006, plus the $5,000 age 50 catch-up amount in 2006). However,
the $5,000 age 50 catch-up amount deferred in 2006 is disregarded
for purposes of applying the limitation at paragraph (c)(3)(i)(B) of
this section to determine the special section 403(b) catch-up
amount. Thus, for 2007, only $80,000 of section 403(b) elective
deferrals are taken into account in applying the limitation at
paragraph (c)(3)(i)(B) of this section. For 2007, the basic dollar
limit for section 403(b) elective deferrals under paragraph (c)(1)
of this section is assumed to be $16,000, the additional dollar
amount permitted under the age 50 catch-up is assumed to be $5,000,
and E's employer contributes $6,000 (10% of $60,000 compensation) as
a non-elective contribution.
(ii) Conclusion. The maximum section 403(b) elective deferral
that D may elect for 2007 is $21,000. This is the sum of the basic
limit on section 403(b) elective deferrals under paragraph (c)(1) of
this section equal to $16,000, plus the additional age 50 catch-up
amount of $5,000. E is not entitled to any additional special
section 403(b) catch-up amount for 2007 under paragraph (c)(3) due
to the limitation at paragraph (c)(3)(i)(C) of this section (16
times $5,000 equals $80,000, minus D's total prior section 403(b)
elective deferrals of $80,000 equals zero).
(d) Employer contributions for former employees--(1) Includible
compensation deemed to continue for nonelective contributions. For
purposes of applying paragraph (b) of this section, a former employee
is deemed to have monthly includible compensation for the period
through the end of the taxable year of the employee in which he or she
ceases to be an employee and through the end of each of the next five
taxable years. The amount of the monthly includible compensation is
equal to one twelfth of the former employee's includible compensation
during the former employee's most recent year of service. Accordingly,
nonelective employer contributions for a former employee must not
exceed the limitation of section 415(c)(1) up to the lesser of the
dollar amount in section 415(c)(1)(A) or the former employee's annual
includible compensation based on the former employee's average monthly
compensation during his or her most recent year of service.
(2) Examples. The provisions of paragraph (d)(1) of this section
are illustrated by the following examples:
Example 1. (i) Facts. College M is a section 501(c)(3)
organization operated on the basis of a June 30 fiscal year that
maintains a section 403(b) plan for its employees. In 2004, M amends
the plan to provide for a temporary early retirement incentive under
which the college will make a nonelective contribution for any
participant who satisfies certain minimum age and service conditions
and who retires before June 30, 2006. The contribution will equal
110 percent of the participant's rate of pay for one year and will
be payable over a period ending no later than the end of the fifth
fiscal year that begins after retirement. It is assumed for purposes
of this Example 1 that, in accordance with Sec. 1.401(a)(4)-10(b)
and under the facts and circumstances, the post-retirement
contributions made for participants who satisfy the minimum age and
service conditions and retire before June 30, 2006 do not
discriminate in favor of former employees who are highly compensated
employees. Employee A retires under the early retirement incentive
on March 12, 2006, and A's annual includible compensation for the
period from March 1, 2005 through February 28, 2006 (which is A's
most recent one year of service) is $30,000. The applicable dollar
limit under section 415(c)(1)(A) is assumed to be $44,000 for 2006
and $45,000 for 2007. The college contributes $30,000 for A for 2006
and $3,000 for A for 2007 (totaling $33,000 or 110 percent of
$30,000). No other contributions are made to a section 403(b)
contract for A for those years.
(ii) Conclusion. The contributions made for A do not exceed A's
includible compensation for 2006 or 2007.
Example 2. (i) Facts. College N is a section 501(c)(3)
organization that maintains a section 403(b) plan for its employees.
The plan provides for N to make monthly nonelective contributions
equal to 20 percent of the monthly includible compensation for each
eligible employee. In addition, the plan provides for contributions
to continue for 5 years following the retirement of any employee
after age 64 and completion of at least 20 years of service (based
on the employee's average annual rate of base salary in the
preceding 3 calendar years ended before the date of retirement). It
is assumed for purposes of this Example 2 that, in accordance with
Sec. 1.401(a)(4)-10(b) and under the facts and circumstances, the
post-retirement contributions made for participants who satisfy the
minimum age and service conditions do not discriminate in favor of
former employees who are highly compensated employees. Employee B
retires on July 1, 2006, at age 64 after completion of 20 or more
years of service. At that date, B's annual includible compensation
for the
[[Page 67091]]
most recently ended fiscal year of N is $72,000 and B's average
monthly rate of base salary for 2003 through 2005 is $5,000. N
contributes $1,200 per month (20 percent of 1/12th of $72,000) from
January of 2006 through June of 2006 and contributes $1,000 (20
percent of $5,000) per month for B from July of 2006 through June of
2011. The applicable dollar limit under section 415(c)(1)(A) is
assumed to be at least $44,000 for 2006 through 2011. No other
contributions are made to a section 403(b) contract for B for those
years.
(ii) Conclusion. The contributions made for B do not exceed B's
includible compensation for any of the years from 2006 through 2010.
(3) Disabled employees. See also section 415(c)(3)(C) which sets
forth a special rule under which compensation may be treated as
continuing for purposes of section 415 for certain former employees who
are disabled.
(e) Special rules for determining years of service--(1) In general.
For purposes of determining a participant's includible compensation
under paragraph (b)(2) of this section and a participant's years of
service under paragraphs (c)(3) (special section 403(b) catch-up for
qualified employees of certain organizations) and (d) (employer
contributions for former employees) of this section, an employee's
number of years of service depend on whether the employee has a full
year during which the individual is a full-time employee of the
eligible employer, and any fraction of a year for each part of a year
during which the individual is a full-time or part-time employee of the
eligible employer. An individual's number of years of service equals
the aggregate of the annual work periods during which the individual is
employed by the eligible employer.
(2) Work period. A year of service is based on the employer's
annual work period, not the employee's taxable year. For example, in
determining whether a university professor is employed full time, the
annual work period is the school's academic year. However, in no case
may an employee accumulate more than one year of service in a twelve-
month period.
(3) Service with more than one eligible employer--(i) General rule.
With respect to any section 403(b) contract of an eligible employer,
except as provided in paragraph (e)(3)(ii) of this section, any period
during which an individual is not an employee of that eligible employer
is disregarded for purposes of this paragraph (e).
(ii) Special rule for church employees. With respect to any section
403(b) contract of an eligible employer that is a church-related
organization, any period during which an individual is an employee of
that eligible employer and any other eligible employer that is a
church-related organization that has an association (as defined in
section 414(e)(3)(D)) with that eligible employer is taken into account
on an aggregated basis, but any period during which an individual is
not an employee of a church-related organization or is an employee of a
church-related organization that does not have an association with that
eligible employer is disregarded for purposes of this paragraph (e).
(4) Full-time employee for full year. Each annual work period
during which an individual is employed full time by the eligible
employer constitutes one year of service. In determining whether an
individual is employed full-time, the amount of work which he or she
actually performs is compared with the amount of work that is normally
required of individuals performing similar services from which
substantially all of their annual compensation is derived.
(5) Other employees. (i) An individual is treated as performing a
fraction of a year of service for each annual work period during which
he or she is a full-time employee for part of the annual work period
and for each annual work period during which he or she is a part-time
employee either for the entire annual work period or for a part of the
annual work period.
(ii) In determining the fraction that represents the fractional
year of service for an individual employed full time for part of an
annual work period, the numerator is the period of time (e.g., weeks or
months) during which the individual is a full-time employee during that
annual work period, and the denominator is the period of time that is
the annual work period.
(iii) In determining the fraction that represents the fractional
year of service of an individual who is employed part time for the
entire annual work period, the numerator is the amount of work
performed by the individual, and the denominator is the amount of work
normally required of individuals who perform similar services and who
are employed full time for the entire annual work period.
(iv) In determining the fraction representing the fractional year
of service of an individual who is employed part time for part of an
annual work period, the fractional year of service that would apply if
the individual were a part-time employee for a full annual work period
is multiplied times the fractional year of service that would apply if
the individual were a full-time employee for the part of an annual work
period.
(6) Work performed. For purposes of this paragraph (e), in
measuring the amount of work of an individual performing particular
services, the work performed is determined based on the individual's
hours of service (as defined under section 410(a)(3)(C)), except that a
plan may use a different measure of work if appropriate under the facts
and circumstances. For example, a plan may provide for a university
professor's work to be measured by the number of courses taught during
an annual work period in any case in which that individual's work
assignment is generally based on a specified number of courses to be
taught.
(7) Most recent one-year period of service. For purposes of
paragraph (d) of this section, in the case of a part-time employee or a
full-time employee who is employed for only part of the year determined
on the basis of the employer's annual work period, the employee's most
recent periods of service are aggregated to determine his or her most
recent one-year period of service. In such a case, there is first taken
into account his or her service during the annual work period for which
the last year of service's includible compensation is being determined;
then there is taken into account his or her service during his next
preceding annual work period based on whole months; and so forth, until
the employee's service equals, in the aggregate, one year of service.
(8) Less than one year of service considered as one year. If, at
the close of a taxable year, an employee has, after application of all
of the other rules in this paragraph (e), some portion of one year of
service (but has accumulated less than one year of service), the
employee is deemed to have one year of service. Except as provided in
this paragraph (e)(8), fractional years of service are not rounded up.
(9) Examples. The provisions of this paragraph (e) are illustrated
by the following examples:
Example 1. (i) Facts. Individual C is employed half-time in 2004
and 2005 as a clerk by H, a hospital which is a section 501(c)(3)
organization. C earns $20,000 from H in each of those years, and
retires on December 31, 2005.
(ii) Conclusion. For purposes of determining C's includible
compensation during C's last year of service under paragraph (d) of
this section, C's most recent periods of service are aggregated to
determine C's most recent one-year period of service. In this case,
since C worked half-time in 2004 and 2005, the compensation C earned
in those two years are aggregated to produce C's includible
compensation for C's last full year in service. Thus, in this case,
the $20,000 that C earned in 2004 and 2005 for C's half-time
[[Page 67092]]
work are aggregated, so that C has $40,000 of includible
compensation for C's most recent one-year of service for purposes of
applying paragraphs (b)(2), (c)(3), and (d) of this section.
Example 2. (i) Facts. Individual A is employed as a part-time
professor by public University U during the first semester of its
two-semester 2004-2005 academic year. While A teaches one course
generally for 3 hours a week during the first semester of the
academic year, U's full-time faculty members generally teach for 9
hours a week during the full academic year.
(ii) Conclusion. For purposes of calculating how much of a year
of service A performs in the 2004-05 academic year (before
application of the special rules of paragraphs (e)(7) and (8) of
this section concerning less than one year of service), paragraph
(e)(5)(iv) of this section is applied as follows: since A teaches
one course at U for 3 hours per week for 1 semester and other
faculty members at U teach 9 hours per week for 2 semesters, A is
considered to have completed \3/18\ or \1/6\ of a year of service
during the 2004-05 academic year, determined as follows:
(A) The fractional year of service if A were a part-time
employee for a full year is \3/9\ (number of hours employed divided
by the usual number of hours of work required for that position).
(B) The fractional year of service if A were a full-time
employee for half of a year is \1/2\ (one semester, divided by the
usual 2-semester annual work period).
(C) These fractions are multiplied to obtain the fractional year
of service: \3/9\ times \1/2\, or \3/18\, equals \1/6\ of a year of
service.
(f) Excess contributions or deferrals--(1) In general. Any
contribution made for a participant to a section 403(b) contract for
the taxable year that exceeds either the maximum annual contribution
limit set forth in paragraph (b) of this section or the maximum annual
section 403(b) elective deferral limit set forth in paragraph (c) of
this section constitutes an excess contribution that is included in
gross income for that taxable year. A contract does not fail to satisfy
the requirements of Sec. 1.403(b)-3, the distribution rules of
Sec. Sec. 1.403(b)-6 or 1.403(b)-9, or the funding rules of Sec.
1.403(b)-8 solely by reason of a distribution made under this paragraph
(f). See also section 4973 for an excise tax applicable with respect to
excess contributions to a custodial account.
(2) Excess section 403(b) elective deferrals. A section 403(b)
contract may provide that any excess deferral as a result of a failure
to comply with the limitation under paragraph (c) of this section for a
taxable year with respect to any section 403(b) elective deferral made
for a participant by the employer will be distributed to the
participant, with allocable net income, no later than April 15 of the
following taxable year or otherwise in accordance with section 402(g).
See section 402(g)(2)(A) for rules permitting the participant to
allocate excess deferrals among the plans in which the participant has
made elective deferrals, and see section 402(g)(2)(C) for special rules
to determine the tax treatment of such a distribution.
(3) Special rule for small excess amount. See section 4979(f)(2)(B)
for a special rule applicable if excess matching contributions, excess
after-tax contributions, and excess section 403(b) elective deferrals
do not exceed $100.
(4) Example. The provisions of this paragraph (f) are illustrated
by the following example:
Example. (i) Facts. Individual D makes section 403(b) elective
deferrals totaling $15,500 for 2006, when D is age 45 and the
applicable limit on section 403(b) elective deferrals is $15,000. On
April 14, 2007, the plan refunds the $500 excess along with
applicable earnings of $65.
(ii) Conclusion. The $565 payment constitutes a distribution of
an excess deferral under paragraph (f)(2) of this section. Under
section 402(g), the $500 excess deferral is included in D's gross
income for 2006. The additional $65 is included in D's gross income
for 2007 and, because the distribution is made by April 15, 2007 (as
provided in section 402(g)(2)), the $65 is not subject to the
additional 10 percent income tax on early distributions under
section 72(t).
Sec. 1.403(b)-5 Nondiscrimination rules.
(a) Nondiscrimination rules for contributions other than section
403(b) elective deferrals--(1) General rule. Under section
403(b)(12)(A)(i), employer contributions and employee after-tax
contributions must satisfy all of the following requirements (the
nondiscrimination requirements) in the same manner as a qualified plan
under section 401(a):
(i) Section 401(a)(4) (relating to nondiscrimination in
contributions and benefits), taking section 401(a)(5) into account.
(ii) Section 401(a)(17) (limiting the amount of compensation that
can be taken into account).
(iii) Section 401(m) (relating to matching and after-tax
contributions).
(iv) Section 410(b) (relating to minimum coverage).
(2) Nonapplication to section 403(b) elective deferrals. The
requirements of this paragraph (a) do not apply to section 403(b)
elective deferrals.
(3) Compensation for testing. Except as may otherwise be
specifically permitted under the sections referenced in paragraph
(a)(1) of this section, compliance with those provisions is tested
using compensation as defined in section 414(s) (and without regard to
section 415(c)(3)(E)).
(4) Employer aggregation rules. See regulations under section 414
for rules treating entities as a single employer for purposes of the
nondiscrimination requirements.
(5) Special rules for governmental plans. Paragraphs (a)(1)(i),
(iii), and (iv) of this section do not apply to a governmental plan as
defined in section 414(d) (but contributions to a governmental plan
must comply with paragraphs (a)(1)(ii) and (b) of this section).
(b) Universal availability required for section 403(b) elective
deferrals--(1) General rule. Under section 403(b)(12)(A)(ii), all
employees of the eligible employer must be permitted to have section
403(b) elective deferrals contributed on their behalf if any employee
of the eligible employer may elect to have the organization make
section 403(b) elective deferrals. The employee's right to have section
403(b) elective deferrals made on his or her behalf includes the right
to section 403(b) elective deferrals up to the lesser of the applicable
limits in Sec. 1.403(b)-4(c) (including any permissible catch-up
elective deferrals under Sec. 1.403(b)-4(c)(2) and (3)) or the
applicable limits under the contract with the largest limitation, and
applies to part-time employees as well as full-time employees.
(2) Effective opportunity required. A section 403(b) plan satisfies
this paragraph (b) only if the plan provides an employee with an
effective opportunity to make (or change) a cash or deferred election
(as defined at Sec. 1.401(k)-1(a)(3)) at least once during each plan
year. Whether an employee has an effective opportunity is determined
based on all the relevant facts and circumstances, including notice of
the availability of the election, the period of time during which an
election may be made, and any other conditions on elections. An
effective opportunity is not considered to exist if there are any other
rights or benefits that are conditioned (directly or indirectly) upon a
participant making or failing to make a cash or deferred election with
respect to a contribution to a section 403(b) contract.
(3) Special rules. (i) In the case of a section 403(b) plan that
covers the employees of more than one section 501(c)(3) organization,
the universal availability requirement of this paragraph (b) applies
separately to each common law entity, i.e., to each section 501(c)(3)
organization. In the case of a section 403(b) plan that covers the
employees of more than one State entity, this requirement applies
separately to each entity that is not part of a common payroll. An
employer may condition the employee's right to have
[[Page 67093]]
section 403(b) elective deferrals made on his or her behalf on the
employee electing a section 403(b) elective deferral of more than $200
for a year.
(ii) For purposes of this paragraph (b)(3), an employer that
historically has treated one or more of its various geographically
distinct units as separate for employee benefit purposes may treat each
unit as a separate organization if the unit is operated independently
on a day-to-day basis. Units are not geographically distinct if such
units are located within the same Standard Metropolitan Statistical
Area (SMSA).
(4) Special exclusions--(i) Exclusions for special types of
employees. A plan does not fail to satisfy the universal availability
requirement of this paragraph (b) merely because it excludes one or
more of the types of employees listed in paragraph (b)(4)(ii) of this
section. If any employee listed in paragraph (b)(4)(ii)(A) through (E)
of this section has the right to have section 403(b) elective deferrals
made on his or her behalf, then no employees listed in that
subparagraph may be excluded under this paragraph (b)(4).
(ii) List of special types of excludible employees. The following
types of employees are listed in this paragraph (b)(4)(ii):
(A) Employees who are eligible under a section 457(b) eligible
governmental plan of the employer which permits an amount to be
contributed or deferred at the election of the employee.
(B) Employees who are eligible to make a cash or deferred election
(as defined at Sec. 1.401(k)-1(a)(3)) under a section 401(k) plan of
the employer.
(C) Employees who are non-resident aliens described in section
410(b)(3)(C).
(D) Subject to the conditions applicable under section 410(b)(4)
(including section 410(b)(4)(B) permitting separate testing for
employees not meeting minimum age and service requirements), employees
who are students performing services described in section 3121(b)(10).
(E) Subject to the conditions applicable under section 410(b)(4),
employees who normally work fewer than 20 hours per week. For this
purpose, an employee normally works fewer than 20 hours per week if and
only if--
(1) For the 12-month period beginning on the date the employee's
employment commenced, the employer reasonably expects the employee to
work fewer than 1,000 hours of service (as defined in section
410(a)(3)(C)) in such period; and
(2) For each plan year ending after the close of the 12-month
period beginning on the date the employee's employment commenced (or,
if the plan so provides, each subsequent 12-month period), the employee
worked fewer than 1,000 hours of service in the preceding 12-month
period. (See, however, section 202(a)(1) of the Employee Retirement
Income Security Act of 1974 (ERISA) (88 Stat. 829) Public Law 93-406,
and regulations under section 410(a) of the Internal Revenue Code
applicable with respect to plans that are subject to Title I of ERISA.)
(c) Plan required. Contributions to an annuity contract do not
satisfy the requirements of this section unless the contributions are
made pursuant to a plan, as defined in Sec. 1.403(b)-3(b)(3), and the
terms of the plan satisfy this section.
(d) Certain requirements not applicable to a church plan. This
section does not apply to a section 403(b) contract purchased by a
church (as defined in Sec. 1.403(b)-2).
(e) Other rules. This section only reflects requirements of the
Internal Revenue Code applicable for purposes of section 403(b) and
does not include other requirements. Specifically, this section does
not reflect the requirements of the ERISA that may apply with respect
to section 403(b), such as the vesting requirements at 29 U.S.C. 1053.
Sec. 1.403(b)-6 Timing of distributions and benefits.
(a) Distributions generally. This section includes special rules
regarding the timing of distributions from, and the benefits that may
be provided under, a section 403(b) contract, including limitations on
when early distributions can be made (in paragraphs (b) through (d) of
this section), required minimum distributions (in paragraph (e) of this
section), and special rules relating to loans (in paragraph (f) of this
section) and incidental benefits (in paragraph (g) of this section).
(b) Distributions from contracts other than custodial accounts or
amounts attributable to section 403(b) elective deferrals. Except as
provided in paragraph (c) of this section relating to distributions
from custodial accounts, paragraph (d) of this section relating to
distributions attributable to section 403(b) elective deferrals, Sec.
1.403(b)-4(f) (relating to correction of excess deferrals), or Sec.
1.403(b)-10(a) (relating to plan termination), a section 403(b)
contract is permitted to distribute retirement benefits to the
participant no earlier than upon the earliest of the participant's
severance from employment or upon the prior occurrence of some event,
such as after a fixed number of years, the attainment of a stated age,
or disability. See Sec. 1.401-1(b)(1)(ii) for additional guidance.
(c) Distributions from custodial accounts that are not attributable
to section 403(b) elective deferrals. Except as provided in Sec.
1.403(b)-4(f) (relating to correction of excess deferrals) or Sec.
1.403(b)-10(a) (relating to plan termination), distributions from a
custodial account, as defined in Sec. 1.403(b)-8(d)(2), may not be
paid to a participant before the participant has a severance from
employment, dies, becomes disabled (within the meaning of section
72(m)(7)), or attains age 59\1/2\. Any amounts transferred out of a
custodial account to an annuity contract or retirement income account,
including earnings thereon, continue to be subject to this paragraph
(c). This paragraph (c) does not apply to distributions that are
attributable to section 403(b) elective deferrals.
(d) Distribution of section 403(b) elective deferrals--(1)
Limitation on distributions--(i) General rule. Except as provided in
paragraph (d)(2) of this section (relating to distributions on account
of hardship), Sec. 1.403(b)-4(f) (relating to correction of excess
deferrals), or Sec. 1.403(b)-10(a) (relating to plan termination),
distributions of amounts attributable to section 403(b) elective
deferrals may not be paid to a participant earlier than the earliest of
the date on which the participant has a severance from employment,
dies, has a hardship, becomes disabled (within the meaning of section
72(m)(7)), or attains age 59\1/2\.
(ii) Special rule for pre-1989 section 403(b) elective deferrals.
For special rules relating to amounts held as of the close of the
taxable year beginning before January 1, 1989 (which does not apply to
earnings thereon), see section 1123(e)(3) of the Tax Reform Act of 1986
(100 Stat. 2085, 2475) Public Law 99-514, and section 1011A(c)(11) of
the Technical and Miscellaneous Revenue Act of 1988 (102 Stat. 3342,
3476) Public Law 100-647.
(2) Hardship rules. A hardship distribution under this paragraph
(d) is defined as, and is subject to the rules in, Sec. 1.401(k)-
1(d)(3) (including limiting the amount of a distribution in the case of
hardship to the amount necessary to satisfy the hardship). In addition,
a hardship distribution is limited to the aggregate dollar amount of
the participant's section 403(b) elective deferrals under the contract
(and may not include any income thereon), reduced by the aggregate
dollar amount of the distributions previously made to the participant
from the contract.
(3) Failure to keep separate accounts. If a section 403(b) contract
includes
[[Page 67094]]
both section 403(b) elective deferrals and other contributions and the
section 403(b) elective deferrals are not maintained in a separate
account, then distributions may not be made earlier than the later of:
(i) Any date permitted under this paragraph (d) with respect to
403(b) elective deferrals; and
(ii) Any date permitted under paragraph (b) or (c) of this section
with respect to contributions that are not section 403(b) elective
deferrals (whichever applies to the contributions that are not section
403(b) elective deferrals).
(e) Minimum required distributions for eligible plans--(1) In
general. Under section 403(b)(10), a section 403(b) contract must meet
the minimum distribution requirements of section 401(a)(9) (in both
form and operation). See section 401(a)(9) and the regulations
thereunder for these requirements.
(2) Treatment as IRAs. For purposes of applying the distribution
rules of section 401(a)(9) to section 403(b) contracts, section 403(b)
contracts are treated as individual retirement annuities described in
section 408(b) and individual retirement accounts described in section
408(a) (IRAs). Consequently, except as otherwise provided in paragraphs
(e)(3) through (e)(5) of this section, the distribution rules in
section 401(a)(9) are applied to section 403(b) contracts in accordance
with the provisions in Sec. 1.408-8 for purposes of determining
required minimum distributions.
(3) Required beginning date. The required beginning date for
purposes of section 403(b)(10) is April 1 of the calendar year
following the later of the calendar year in which the employee attains
70\1/2\ or the calendar year in which the employee retires from
employment with the employer maintaining the plan. However, for any
section 403(b) contract that is not part of a government plan or church
plan, the required beginning date for a 5-percent owner is April 1 of
the calendar year following the earlier of the calendar year in which
the employee attains 70\1/2\ or the calendar year in which the employee
retires from employment with the employer maintaining the plan.
(4) Surviving spouse rule does not apply. The special rule in Sec.
1.408-8, A-5 (relating to spousal beneficiaries), does not apply to a
section 403(b) contract. Thus, the surviving spouse of a participant is
not permitted to treat a section 403(b) contract as the spouse's own
section 403(b) contract, even if the spouse is the sole beneficiary.
(5) Retirement income accounts. For purposes of Sec. 1.401(a)(9)-
6, A-4 (relating to annuity contracts), annuity payments provided with
respect to retirement income accounts do not fail to satisfy the
requirements of section 401(a)(9) merely because the payments are not
made under an annuity contract purchased from an insurance company,
provided that the relationship between the annuity payments and the
retirement income accounts is not inconsistent with any rules
prescribed by the Commissioner in revenue rulings, notices, or other
guidance published in the Internal Revenue Bulletin (see Sec.
601.601(d)(2)(ii)(b) of this chapter). See Sec. 1.403(b)-9(a)(5).
(6) Special rules for benefits accruing before December 31, 1986.
(i) The distribution rules provided in section 401(a)(9) do not apply
to the undistributed portion of the account balance under the section
403(b) contract valued as of December 31, 1986, exclusive of subsequent
earnings (pre-'87 account balance). The distribution rules provided in
section 401(a)(9) apply to all benefits under section 403(b) contracts
accruing after December 31, 1986 (post-'86 account balance), including
earnings after December 31, 1986. Consequently, the post-'86 account
balance includes earnings after December 31, 1986, on contributions
made before January 1, 1987, in addition to the contributions made
after December 31, 1986, and earnings thereon.
(ii) The issuer or custodian of the section 403(b) contract must
keep records that enable it to identify the pre-'87 account balance and
subsequent changes as set forth in paragraph (d)(6)(iii) of this
section and provide such information upon request to the relevant
employee or beneficiaries with respect to the contract. If the issuer
or custodian does not keep such records, the entire account balance is
treated as subject to section 401(a)(9).
(iii) In applying the distribution rules in section 401(a)(9), only
the post-'86 account balance is used to calculate the required minimum
distribution for a calendar year. The amount of any distribution from a
contract is treated as being paid from the post-'86 account balance to
the extent the distribution is required to satisfy the minimum
distribution requirement with respect to that contract for a calendar
year. Any amount distributed in a calendar year from a contract in
excess of the required minimum distribution for a calendar year with
respect to that contract is treated as paid from the pre-'87 account
balance, if any, of that contract.
(iv) If an amount is distributed from the pre-'87 account balance
and rolled over to another section 403(b) contract, the amount is
treated as part of the post-'86 account balance in that second
contract. However, if the pre-'87 account balance under a section
403(b) contract is directly transferred to another section 403(b)
contract (as permitted under Sec. 1.403(b)-10(b)), the amount
transferred retains its character as a pre-'87 account balance,
provided the issuer of the transferee contract satisfies the
recordkeeping requirements of paragraph (e)(6)(ii) of this section.
(v) The distinction between the pre-'87 account balance and the
post-'86 account balance provided for under this paragraph (e)(6) of
this section has no relevance for purposes of determining the portion
of a distribution that is includible in income under section 72.
(vi) The pre-'87 account balance must be distributed in accordance
with the incidental benefit requirement of Sec. 1.401-1(b)(1)(i).
Distributions attributable to the pre-'87 account balance are treated
as satisfying this requirement if all distributions from the section
403(b) contract (including distributions attributable to the post-'86
account balance) satisfy the requirements of Sec. 1.401-1(b)(1)(i)
without regard to this section, and distributions attributable to the
post-'86 account balance satisfy the rules of this paragraph (e).
Distributions attributable to the pre-'87 account balance are treated
as satisfying the incidental benefit requirement if all distributions
from the section 403(b) contract (including distributions attributable
to both the pre-'87 account balance and the post-'86 account balance)
satisfy the rules of this paragraph (e).
(7) Application to multiple contracts for an employee. The required
minimum distribution must be separately determined for each section
403(b) contract of an employee. However, because, as provided in
paragraph (e)(2) of this section, the distribution rules in section
401(a)(9) apply to section 403(b) contracts in accordance with the
provisions in Sec. 1.408-8, the required minimum distribution from one
section 403(b) contract of an employee is permitted to be distributed
from another section 403(b) contract in order to satisfy section
401(a)(9). Thus, as provided in Sec. 1.408-8, A-9, with respect to
IRAs, the required minimum distribution amount from each contract is
then totaled and the total minimum distribution taken from any one or
more of the individual section 403(b) contracts. However, consistent
with the rules in Sec. 1.408-8, A-9, only amounts in section 403(b)
contracts that an individual holds as an employee may be aggregated.
Amounts in section 403(b) contracts that an
[[Page 67095]]
individual holds as a beneficiary of the same decedent may be
aggregated, but such amounts may not be aggregated with amounts held in
section 403(b) contracts that the individual holds as the employee or
as the beneficiary of another decedent. Distributions from section
403(b) contracts do not satisfy the minimum distribution requirements
for IRAs, nor do distributions from IRAs satisfy the minimum
distribution requirements for section 403(b) contracts.
(f) Loans. The determination of whether the availability of a loan,
the making of a loan, or a failure to repay a loan made from an issuer
of a section 403(b) contract to a participant or beneficiary is treated
as a distribution (directly or indirectly) for purposes of this
section, and the determination of whether the availability of the loan,
the making of the loan, or a failure to repay the loan is in any other
respect a violation of the requirements of section 403(b) and these
regulations, depends on the facts and circumstances. Among the facts
and circumstances are whether the loan has a fixed repayment schedule
and bears a reasonable rate of interest, and whether there are
repayment safeguards to which a prudent lender would adhere. Thus, for
example, a loan must bear a reasonable rate of interest in order to be
treated as not being a distribution. However, a plan loan offset is a
distribution for purposes of this section. See Sec. 1.72(p)-1, Q&A-13.
See also Sec. 1.403(b)-7(d) relating to the application of section
72(p) with respect to the taxation of a loan made under a section
403(b) contract. (Further, see 29 CFR 2550.408b-1 of the Department of
Labor regulations concerning additional requirements applicable with
respect to plans that are subject to Title I of ERISA.)
(g) Death benefits and other incidental benefits. An annuity is not
a section 403(b) contract if it fails to satisfy the incidental benefit
requirement of Sec. 1.401-1(b)(1)(i). For this purpose, to the extent
the incidental benefit requirement of Sec. 1.401-1(b)(1)(i) requires a
distribution of the participant's or beneficiary's accumulated benefit,
that requirement is deemed to be satisfied if distributions satisfy the
minimum distribution requirements of section 401(a)(9).
(h) Special rule regarding severance from employment. For purposes
of this section, severance from employment occurs on any date on which
an employee ceases to be an employee of an eligible employer (e.g., by
the section 501(c)(3) organization that maintains the plan, assuming
that only one section 501(c)(3) organization maintains the plan), even
though the employee may continue to be employed either by another
entity that is treated as the same employer where either that other
entity is not an entity that can be an eligible employer (such as
transferring from a section 501(c)(3) organization to a for-profit
subsidiary of the section 501(c)(3) organization) or in a capacity that
is not employment with an eligible employer (e.g., ceasing to be an
employee performing services for a public school but continuing to work
for the same State employer).
(i) Certain limitations do not apply to rollover contributions. The
limitations on distributions in paragraphs (b) through (d) of this
section do not apply to amounts held in a separate account for eligible
rollover distributions as described in Sec. 1.403(b)-10(d).
Sec. 1.403(b)-7 Taxation of distributions and benefits.
(a) General rules for when amounts are included in gross income.
Except as provided in this section (or in Sec. 1.403(b)-10(c) relating
to payments pursuant to a qualified domestic relations order), amounts
actually distributed from a section 403(b) contract are includible in
the gross income of the recipient participant or beneficiary (in the
year in which so distributed) under section 72 (relating to annuities).
For an additional income tax that may apply to certain early
distributions that are includible in gross income, see section 72(t).
(b) Rollovers to individual retirement arrangements and other
eligible retirement plans--(1) Timing of taxation of rollovers. In
accordance with sections 402(c), 403(b)(8), and 403(b)(10), a direct
transfer in accordance with section 401(a)(31) (generally referred to
as a direct rollover) is not includible in the gross income of a
participant or beneficiary in the year transferred. In addition, any
payment made in the form of an eligible rollover distribution (as
defined in section 402(c)(4)) is not includible in gross income in the
year paid to the extent the payment is transferred to an eligible
retirement plan (as defined in section 402(c)(8)(B)) within 60 days,
including the transfer to the eligible retirement plan of any property
distributed. For this purpose, the rules of section 402(c)(2) through
(7) and (c)(9) apply. Any direct rollover under this paragraph (b)(1)
is a distribution that is subject to the distribution requirements of
Sec. 1.403(b)-6.
(2) Requirement that contract provide rollover options for eligible
rollover distributions. As required in Sec. 1.403(b)-3(a)(7), an
annuity contract is not a section 403(b) contract unless the contract
provides that if the distributee of an eligible rollover distribution
elects to have the distribution paid directly to an eligible retirement
plan (as defined in section 402(c)(8)(B)) and specifies the eligible
retirement plan to which the distribution is to be paid, then the
distribution will be paid to that eligible retirement plan in a direct
rollover. For purposes of determining whether a contract satisfies this
requirement, the provisions of section 401(a)(31) apply to the annuity
as though it were a plan qualified under section 401(a) unless
otherwise provided in section 401(a)(31). In applying the provisions of
this paragraph (b)(2), the payor of the eligible rollover distribution
from the contract is treated as the plan administrator.
(3) Requirement that contract payor provide notice of rollover
option to distributees. To ensure that the distributee of an eligible
rollover distribution from a section 403(b) contract has a meaningful
right to elect a direct rollover, section 402(f) requires that the
distributee be informed of the option. Thus, within a reasonable time
period before making the initial eligible rollover distribution, the
payor must provide an explanation to the distributee of his or her
right to elect a direct rollover and the income tax withholding
consequences of not electing a direct rollover. For purposes of
satisfying the reasonable time period requirement, the plan timing rule
provided in section 402(f)(1) and the regulations thereunder applies to
section 403(b) contracts.
(4) Mandatory withholding upon certain eligible rollover
distributions from contracts. If a distributee of an eligible rollover
distribution from a section 403(b) contract does not elect to have the
eligible rollover distribution paid directly to an eligible retirement
plan in a direct rollover, the eligible rollover distribution is
subject to 20-percent income tax withholding imposed under section
3405(c). See section 3405(c) and the regulations thereunder for
provisions regarding the withholding requirements relating to eligible
rollover distributions.
(5) Automatic rollover for certain mandatory distributions under
section 401(a)(31)(B). [Reserved].
(c) Special rules for certain corrective distributions. See section
402(g)(2)(C) for special rules to determine the tax treatment of a
distribution of excess deferrals, and see Sec. 1.401(m)-1(e)(3)(v) for
the tax treatment of corrective distributions of after-tax and matching
contributions to comply with section 401(m).
[[Page 67096]]
(d) Amounts taxable under section 72(p)(1). In accordance with
section 72(p), the amount of any loan from a section 403(b) contract to
a participant or beneficiary (including any pledge or assignment
treated as a loan under section 72(p)(1)(B)) is treated as having been
received as a distribution from the contract under section 72(p)(1),
except to the extent set forth in section 72(p)(2) (relating to loans
that do not exceed a maximum amount and that are repayable in
accordance with certain terms) and Sec. 1.72(p)-1. Thus, except to the
extent a loan satisfies section 72(p)(2), any amount loaned from a
section 403(b) contract to a participant or beneficiary (including any
pledge or assignment treated as a loan under section 72(p)(1)(B)) is
includible in the gross income of the participant or beneficiary for
the taxable year in which the loan is made. See generally Sec.
1.72(p)-1.
Sec. 1.403(b)-8 Funding.
(a) Investments permitted. Section 403(b) and Sec. 1.403(b)-3 only
apply to amounts held in an annuity contract (as defined in Sec.
1.403(b)-2), including a custodial account that is treated as an
annuity contract under this section or a retirement income account that
is treated as an annuity contract under Sec. 1.403(b)-9.
(b) Contributions to the plan. Contributions to a section 403(b)
plan must be transferred to the insurance company issuing the annuity
contract (or the entity holding assets of any custodial or retirement
income account that is treated as an annuity contract) within a period
that is not longer than is reasonable for the proper administration of
the plan. For purposes of this requirement, the plan may provide for
section 403(b) elective deferrals for a participant under the plan to
be transferred to the annuity contract within a specified period after
the date the amounts would otherwise have been paid to the participant.
For example, the plan could provide for section 403(b) elective
deferrals under the plan to be contributed within 15 business days
following the month in which these amounts would otherwise have been
paid to the participant.
(c) Annuity contracts--(1) Generally. As defined in Sec. 1.403(b)-
2, and except as otherwise permitted under this section, an annuity
contract means a contract that is issued by an insurance company
qualified to issue annuities in a State and that includes payment in
the form of an annuity. This paragraph (c) sets forth additional rules
regarding annuity contracts.
(2) Certain insurance contracts. Neither a life insurance contract,
as defined in section 7702, an endowment contract, a health or accident
insurance contract, nor a property, casualty, or liability insurance
contract meets the definition of an annuity contract. See Sec.
1.401(f)-4(e). Also see Sec. 1.403(b)-11(d) for a transition rule.
(3) Special rule for certain contracts. This paragraph (c)(3)
applies in the case of a contract issued under a State section 403(b)
plan established on or before May 17, 1982, or for an employee who
becomes covered for the first time under the plan after May 17, 1982,
unless the Commissioner had before that date issued any written
communication (either to the employer or financial institution) to the
effect that the arrangement under which the contract was issued did not
meet the requirements of section 403(b). The requirement that the
contract be issued by an insurance company qualified to issue annuities
in a State does not apply to that contract if one of the following two
conditions is satisfied and that condition has been satisfied
continuously since May 17, 1982--
(i) Benefits under the contract are provided from a separately
funded retirement reserve that is subject to supervision of the State
insurance department; or
(ii) Benefits under the contract are provided from a fund that is
separate from the fund used to provide statutory benefits payable under
a State retirement system and that is part of a State teachers
retirement system to purchase benefits that are unrelated to the basic
benefits provided under the retirement system, and the death benefit
provided under the contract does not at any time exceed the larger of
the reserve or the contribution made for the employee.
(d) Custodial accounts--(1) Treatment as a section 403(b) contract.
Under section 403(b)(7), a custodial account is treated as an annuity
contract for purposes of Sec. Sec. 1.403(b)-1 through 1.403(b)-11. See
section 403(b)(7)(B) for special rules regarding the tax treatment of
custodial accounts and section 4973(c) for an excise tax that applies
to excess contributions to a custodial account.
(2) Custodial account defined. A custodial account means a plan, or
a separate account under a plan, in which an amount attributable to
section 403(b) contributions (or amounts rolled over to a section
403(b) contract, as described in Sec. 1.403(b)-10(d)) is held by a
bank or a person who satisfies the conditions in section 401(f)(2),
if--
(i) All of the amounts held in the account are invested in stock of
a regulated investment company (as defined in section 851(a) relating
to mutual funds);
(ii) The requirements of Sec. 1.403(b)-6(c) (imposing restrictions
on distributions with respect to a custodial account) Sec. 1.403(b)-
6(d) are satisfied with respect to the amounts held in the account;
(iii) The assets held in the account cannot be used for, or
diverted to, purposes other than for the exclusive benefit of plan
participants or their beneficiaries (for which purpose, assets are
treated as diverted to the employer if the employer borrows assets from
the account); and
(iv) The account is not part of a retirement income account.
(3) Effect of definition. The requirement in paragraph (d)(2)(i) of
this section is not satisfied if the account includes any assets that
other than stock of a regulated investment company.
(e) Retirement income accounts. See Sec. 1.403(b)-9 for special
rules under which a retirement income account for employees of a
church-related organization is treated as a section 403(b) contract for
purposes of Sec. Sec. 1.403(b)-1 through 1.403(b)-11.
(f) Combining assets. To the extent permitted by the Commissioner
in revenue rulings, notices, or other guidance published in the
Internal Revenue Bulletin (see Sec. 601.601(d)(2)(ii)(b) of this
chapter), trust assets held under a custodial account and trust assets
held under a retirement income account, as described in Sec. 1.403(b)-
9(a)(6), may be invested in a group trust with trust assets held under
a qualified plan or individual retirement plan. For this purpose, a
trust includes a custodial account that is treated as a trust under
section 401(f).
Sec. 1.403(b)-9 Special rules for church plans.
(a) Retirement income accounts--(1) Treatment as a section 403(b)
contract. Under section 403(b)(9), a retirement income account for
employees of a church-related organization (as defined in Sec.
1.403(b)-2) is treated as an annuity contract for purposes of
Sec. Sec. 1.403(b)-1 through 1.403(b)-11.
(2) Retirement income account defined--(i) In general. A retirement
income account means a defined contribution program established or
maintained by a church-related organization under which--
(A) There is separate accounting for the retirement income
account's interest in the underlying assets (i.e., there must be
sufficient separate accounting for it
[[Page 67097]]
to be possible at all times to determine the retirement income
account's interest in the underlying assets and to distinguish that
interest from any interest that is not part of the retirement income
account);
(B) Investment performance is based on gains and losses on those
assets; and
(C) The assets held in the account cannot be used for, or diverted
to, purposes other than for the exclusive benefit of plan participants
or their beneficiaries. For this purpose, assets are treated as
diverted to the employer if the employer borrows assets from the
account.
(ii) Plan required. A retirement income account must be maintained
pursuant to a program which is a plan (as defined in Sec. 1.403(b)-
3(b)(3)) and the plan document must state (or otherwise evidence in a
similarly clear manner) the intent to constitute a retirement income
account.
(3) Ownership or use constitutes distribution. Any asset of a
retirement income account that is owned or used by a participant or
beneficiary is treated as having been distributed to that participant
or beneficiary. See Sec. Sec. 1.403(b)-6 and 1.403(b)-7 for rules
relating to distributions.
(4) Coordination of retirement income account with custodial
account rules. A retirement income account that is treated as an
annuity contract is not a custodial account (defined in Sec. 1.403(b)-
8(d)(2)), even if it is invested solely in stock of a regulated
investment company.
(5) Life annuities. A retirement income account may distribute
benefits in a form that includes a life annuity only if--
(i) The amount of the distribution form has an actuarial present
value, at the annuity starting date, equal to the participant's or
beneficiary's accumulated benefit, based on reasonable actuarial
assumptions, including regarding interest and mortality; and
(ii) The plan sponsor guarantees benefits in the event that a
payment is due that exceeds the participant's or beneficiary's
accumulated benefit.
(6) Combining retirement income account assets with other assets.
For purposes of Sec. 1.403(b)-8(f) relating to combining assets,
retirement income account assets held in trust (including a custodial
account that is treated as a trust under section 401(f)) are subject to
the same rules regarding combining of assets as custodial account
assets. In addition, retirement income account assets are permitted to
be commingled in a common fund with amounts devoted exclusively to
church purposes (such as a fund from which unfunded pension payments
are made to former employees of the church). However, unless otherwise
permitted by the Commissioner, no assets of the plan sponsor, other
than retirement income account assets, may be combined with custodial
account assets or any other assets permitted to be combined under Sec.
1.403(b)-8(f). This paragraph (a)(6) is subject to any additional rules
issued by the Commissioner in revenue rulings, notices, or other
guidance published in the Internal Revenue Bulletin (see Sec.
601.601(d)(2)(ii)(b) of this chapter).
(7) Trust treated as tax exempt. A trust (including a custodial
account that is treated as a trust under section 401(f)) that includes
no assets other than assets of a retirement income account is treated
as an organization that is exempt from taxation under section 501(a).
(b) No compensation limitation up to $10,000. See section 415(c)(7)
for special rules regarding certain employer contributions not
exceeding $10,000.
(c) Special deduction rule for self-employed ministers. See section
404(a)(10) for a special rule regarding the deductibility of a
contribution made by a self-employed minister.
Sec. 1.403(b)-10 Miscellaneous provisions.
(a) Plan terminations and frozen plans--(1) In general. An employer
may amend its section 403(b) plan to eliminate future contributions for
existing participants. Alternatively, an employer may amend its section
403(b) plan to limit participation to existing participants and
employees (to the extent consistent with Sec. 1.403(b)-5). A section
403(b) plan may contain provisions that permit plan termination and
permit accumulated benefits to be distributed on termination. However,
in the case of a section 403(b) contract that is subject to the
distribution restrictions in Sec. 1.403(b)-6(c) or (d) (relating to
custodial accounts and section 403(b) elective deferrals), termination
of the plan and the distribution of accumulated benefits is permitted
only if the employer (taking into account all entities that are treated
as the employer under section 414 on the date of the termination) does
not make contributions to an alternative section 403(b) contract that
is not part of the plan. For purposes of this rule, contributions are
made to an alternative section 403(b) contract if and only if
contributions are made to a section 403(b) contract during the period
beginning on the date of plan termination and ending 12 months after
distribution of all assets from the terminated plan. However, if at all
times during the period beginning 12 months before the termination and
ending 12 months after distribution of all assets from the terminated
plan, fewer than 2 percent of the employees who were eligible under the
section 403(b) plan as of the date of plan termination are eligible
under the alternative section 403(b) contract, the alternative section
403(b) contract is disregarded. In order for a section 403(b) plan to
be considered terminated, all accumulated benefits under the plan must
be distributed to all participants and beneficiaries as soon as
administratively practicable after termination of the plan. A
distribution includes delivery of a fully paid individual insurance
annuity contract. The mere provision for, and making of, distributions
to participants or beneficiaries upon plan termination does not cause a
contract to cease to be a section 403(b) contract. See Sec. 1.403(b)-7
for rules regarding the tax treatment of distributions.
(2) Employers that cease to be eligible employers. An employer that
ceases to be an eligible employer may no longer contribute to a section
403(b) contract for any subsequent period, and the contract will fail
to satisfy Sec. 1.403(b)-3(a) if any further contributions are made
with respect to a period after the employer ceases to be an eligible
employer.
(b) Contract exchanges and plan-to-plan transfers--(1) Contract
exchanges and transfers--(i) General rule. If the conditions in
paragraph (b)(2) of this section are met, a section 403(b) contract
held under a section 403(b) plan may be exchanged for another section
403(b) contract held under that section 403(b) plan. Further, if the
conditions in paragraph (b)(3) of this section are met, a section
403(b) plan may provide for the transfer of its assets (i.e., the
section 403(b) contracts held thereunder, including any assets held in
a custodial account or retirement income account that are treated as
section 403(b) contracts) to another section 403(b) plan. In addition,
if the conditions in paragraph (b)(4) of this section (relating to
permissive service credit and repayments under section 415) are met, a
section 403(b) plan may provide for the transfer of its assets to a
qualified plan under section 401(a). However, neither a qualified plan
nor an eligible plan under section 457(b) may transfer assets to a
section 403(b) plan, and a section 403(b) plan may not accept such a
transfer. In addition, a section 403(b) contract may not be exchanged
for an annuity contract that is not a section 403(b) contract. Neither
a plan-to-plan transfer nor a contract exchange permitted under this
paragraph (b) is treated as a distribution
[[Page 67098]]
for purposes of the distribution restrictions at Sec. 1.403(b)-6.
Therefore, such a transfer or exchange may be made before severance
from employment or another distribution event. Further, no amount is
includible in gross income by reason of such a transfer or exchange.
(ii) ERISA rules. See Sec. 1.414(l)-1 for other rules that are
applicable to section 403(b) plans that are subject to section 208 of
the Employee Retirement Income Security Act of 1974 (88 Stat. 829,
865).
(2) Requirements for contract exchange within the same plan. A
section 403(b) contract of a participant or beneficiary may be
exchanged under paragraph (b)(1) of this section for another section
403(b) contract of that participant or beneficiary under the same
section 403(b) plan if the following conditions are met--
(i) The plan under which the contract is issued provides for the
exchange;
(ii) The participant or beneficiary has an accumulated benefit
immediately after the transfer at least equal to the accumulated
benefit of that participant or beneficiary immediately before the
exchange (taking into account the accumulated benefit of that
participant or beneficiary under both section 403(b) contracts
immediately before the exchange); and
(iii) The other contract provides that, to the extent a contract
that is exchanged is subject to any distribution restrictions under
Sec. 1.403(b)-6, the other contract imposes restrictions on
distributions to the participant or beneficiary that are not less
stringent than those imposed on the contract being exchanged.
(3) Requirements for plan-to-plan transfers. A plan-to-plan
transfer under paragraph (b)(1) of this section from a section 403(b)
plan to another section 403(b) plan is permitted if the following
conditions are met--
(i) The participant or beneficiary whose assets are being
transferred is an employee of the employer providing the receiving
plan;
(ii) The transferor plan provides for transfers;
(iii) The receiving plan provides for the receipt of transfers;
(iv) The participant or beneficiary whose assets are being
transferred has an accumulated benefit immediately after the transfer
at least equal to the accumulated benefit with respect to that
participant or beneficiary immediately before the transfer.
(v) The receiving plan provides that, to the extent any amount
transferred is subject to any distribution restrictions under Sec.
1.403(b)-6, the receiving plan imposes restrictions on distributions to
the participant or beneficiary whose assets are being transferred that
are not less stringent than those imposed on the transferor plan.
(vi) If a plan-to-plan transfer does not constitute a complete
transfer of the participant's or beneficiary's interest in the section
403(b) plan, the transferee plan treats the amount transferred as a
continuation of a pro rata portion of the participant's or
beneficiary's interest in the section 403(b) plan (e.g., a pro rata
portion of the participant's or beneficiary's interest in any after-tax
employee contributions).
(4) Purchase of permissive service credit by contract-to-plan
transfers from a section 403(b) contract to a qualified plan--(i)
General rule. If the conditions in paragraph (b)(4)(ii) of this section
are met, a section 403(b) plan may provide for the transfer of assets
held thereunder to a qualified defined benefit governmental plan (as
defined in section 414(d)).
(ii) Conditions for plan-to-plan transfers. A transfer may be made
under this paragraph (b)(4) only if the transfer is either--
(A) For the purchase of permissive service credit (as defined in
section 415(n)(3)(A)) under the receiving defined benefit governmental
plan; or
(B) A repayment to which section 415 does not apply by reason of
section 415(k)(3).
(c) Qualified domestic relations orders. In accordance with the
second sentence of section 414(p)(9), any distribution from an annuity
contract under section 403(b) (including a distribution from a
custodial account or retirement income account that, under section
403(b)(7) or (9), is treated as a section 403(b) contract) pursuant to
a qualified domestic relations order is treated in the same manner as a
distribution from a plan to which section 401(a)(13) applies. Thus, for
example, a section 403(b) plan does not fail to satisfy the
distribution restrictions set forth in Sec. 1.403(b)-6(b), (c), or (d)
merely as a result of distribution made pursuant to a qualified
domestic relations order under section 414(p), so that such a
distribution is permitted without regard to whether the employee from
whose contract the distribution is made has had a severance from
employment or other event permitting a distribution to be made under
section 403(b).
(d) Rollovers to a section 403(b) contract. A section 403(b)
contract may accept contributions that are eligible rollover
distributions (as defined in section 402(c)(4)) made from another
eligible retirement plan (as defined in section 402(c)(8)(B)).
Amounts contributed to a section 403(b) contract as eligible
rollover distributions are not taken into account for purposes of the
limits in Sec. 1.403(b)-4, but, except as otherwise specifically
provided (for example, at Sec. 1.403(b)-6(i)), are otherwise treated
in the same manner as amounts held under a section 403(b) contract for
purposes of Sec. Sec. 1.403(b)-3 through 1.403(b)-9 and this section.
(e) Deemed IRAs. See regulations under section 408(q) for special
rules relating to deemed IRAs.
(f) Defined benefit plans--(1) TEFRA church defined benefit plans.
See section 251(e)(5) of the Tax Equity and Fiscal Responsibility Act
of 1982, Public Law 97-248, for a provision permitting certain
arrangements established by a church-related organization and in effect
on September 3, 1982 (a TEFRA church defined benefit plan) to be
treated as section 403(b) contract even though it is a defined benefit
arrangement. In accordance with section 403(b)(1), for purposes of
applying section 415 to a TEFRA church defined benefit plan, the
accruals under the plan are limited to the maximum amount permitted
under section 415(c) when expressed as an annual addition, and, for
this purpose, the rules at Sec. 1.402(b)-1(a)(2) for determining the
present value of an accrual under a nonqualified defined benefit plan
also apply for purposes of converting the accrual under a TEFRA church
defined benefit plan to an annual addition. See section 415(b) for
additional limits for TEFRA church defined benefit plans.
(2) Other defined benefit plans. Except for a TEFRA church defined
benefit plan, section 403(b) does not apply to any contributions or
accrual under a defined benefit plan.
(g) Other rules relating to section 501(c)(3) organizations. See
section 501(c)(3) and regulations thereunder for the substantive
standards for tax-exemption under that section, including the
requirement that no part of the organization's net earnings inure to
the benefit of any private shareholder or individual. See also sections
4941 (self dealing), 4945 (taxable expenditures), and 4958 (excess
benefit transactions), and the regulations thereunder, for rules
relating to excise taxes imposed on certain transactions involving
organizations described in section 501(c)(3).
Sec. 1.403(b)-11 Effective dates.
(a) Except as otherwise provided in this section, Sec. Sec.
1.403(b)-1 through 1.403(b)-10 apply for taxable years beginning after
December 31, 2005.
[[Page 67099]]
(b) In the case of a section 403(b) contract maintained pursuant to
a collective bargaining agreement that is ratified and in effect on the
date of publication of final regulations in the Federal Register,
Sec. Sec. 1.403(b)-1 through 1.403(b)-10 do not apply before the date
on which the collective bargaining agreement terminates (determined
without regard to any extension thereof after the date of publication
of final regulations in the Federal Register).
(c) In the case of a section 403(b) contract maintained by a
church-related organization for which the authority to amend the
contract is held by a church convention (within the meaning of section
414(e)), Sec. Sec. 1.403(b)-1 through 1.403(b)-10 do not apply before
the earlier of--
(1) January 1, 2007; or
(2) 60 days following the earliest church convention that occurs
after the date of publication of final regulations in the Federal
Register.
(d) Section 1.403(b)-8(c)(2) does not apply to a contract issued
before February 14, 2005.
Par. 6. Section 1.414(c)-5 is redesignated as Sec. 1.414(c)-6 and
new Sec. 1.414(c)-5 is added to read as follows:
Sec. 1.414(c)-5 Certain tax-exempt organizations.
(a) Application. This section applies to an organization that is
exempt from tax under section 501(a). The rules of this section are in
addition to the rules otherwise applicable under section 414(b) and
414(c). Except to the extent set forth in paragraphs (d), (e), and (f)
of this section, this section does not apply to any church, as defined
in section 3121(w)(3)(A), or any qualified church-controlled
organization, as defined in section 3121(w)(3)(B).
(b) General rule. In the case of an organization that is exempt
from tax under section 501(a) (an exempt organization) whose employees
participate in a plan, the employer with respect to that plan includes
the exempt organization and any other organization that is under common
control with the exempt organization whose employees participate in the
plan. For this purpose, common control exists between exempt
organizations if at least 80 percent of the directors or trustees of
one organization are either representatives of, or directly or
indirectly controlled by, the other organization. A trustee or director
is treated as a representative of another exempt organization if he or
she also is a trustee, director, agent, or employee of the other exempt
organization. Existence of control is determined based on the facts and
circumstances. A trustee or director is controlled by another
organization if the other organization has the power to remove such
trustee or director and designate a new trustee or director. For
example, if exempt organization A appoints at least 80 percent of the
trustees of exempt organization B (which is the owner of the
outstanding shares of corporation C, which is not an exempt
organization) and has the power to control at least 80 percent of the
directors of exempt organization D, then, under this paragraph (b) and
Sec. 1.414(b)-1, entities A, B, C, and D are treated as the same
employer with respect to any plan maintained by A, B, C, or D for
purposes of the sections referenced in sections 414(b), 414(c), and
414(t).
(c) Permissive aggregation with entities having a common exempt
purpose. For purposes of this section, exempt organizations that
maintain a single plan covering one or more employees from each
organization may treat themselves as under common control for purposes
of section 414(c) if each of the organizations regularly coordinate
their day-to-day exempt activities. For example, an entity that
provides a type of emergency relief within one geographic region and
another exempt organization that provides that type of emergency relief
within another geographic region may treat themselves as under common
control if they have a single plan covering employees of both entities
and regularly coordinate their day-to-day exempt activities. Similarly,
a hospital that is an exempt organization and another exempt
organization with which it coordinates the delivery of medical services
or medical research may treat themselves as under common control if
there is a single plan covering employees of the hospital and employees
of the other exempt organization and the coordination is a regular part
of their day-to-day exempt activities.
(d) Permissive disaggregation between qualified church controlled
organizations and other entities. In the case of a church plan (as
defined in section 414(e)) to which contributions are made by more than
one common law entity, any employer may apply paragraphs (b) and (c) of
this section to those entities that are not a church (as defined in
section 403(b)(12)(B) and Sec. 1.403(b)-2) separately from those
entities that are churches. For example, in the case of a group of
entities consisting of a church (as defined in section 3121(w)(3)(A)),
a secondary school (that is treated as a church under Sec. 1.403(b)-
2), and a nursing home that receives more than 25 percent of its
support from fees paid by residents (so that it is not treated as a
qualified church-controlled organization under Sec. 1.403(b)-2 and
section 3121(w)(3)(B)), the nursing home may treat itself as not being
under common control with the church and the school, even though under
the nursing home may be under common control with the school and the
church under paragraph (b) of this section.
(e) Application to certain church entities. [Reserved].
(f) Anti-abuse rule. In any case in which the Commissioner
determines that the structure of one or more exempt organizations
(including an exempt organization and an entity that is not exempt from
income tax) or the positions taken by those organizations has the
effect of avoiding or evading Sec. 1.403(b)-5(a) or another
requirement imposed under section 401(a), 403(b), or 457(b), or any
applicable section (as defined in section 414(t)), the Commissioner may
treat an entity as under common control with the exempt organization.
(g) Examples. The provisions of this section are illustrated by the
following examples:
Example 1. (i) Facts. Organization A is a tax-exempt
organization under section 501(c)(3) which owns 80% or more of the
total value of all classes of stock of corporation B, which is a for
profit organization.
(ii) Conclusion. Under paragraph (a) of this section, this
section does not alter the rules of section 414(b) and (c), so that
organization A and corporation B are under common control under
Sec. 1.414(c)-2(b).
Example 2. (i) Facts. Organization M is a hospital which is a
tax-exempt organization under section 501(c)(3) and organization N
is a medical clinic which is also a tax-exempt organization under
section 501(c)(3). N is located in a city and M is located in a
nearby suburb. There is a history of regular coordination of day-to-
day activities between M and N, including periodic transfers of
staff, coordination of staff training, common sources of income, and
coordination of budget and operational goals. A single section
403(b) plan covers professional and staff employees of both the
hospital and the medical clinic. While a number of members of the
board of directors of M are also on the board of directors of N,
there is less than 80% overlap in board membership. Both
organizations have approximately the same percentage of employees
who are highly compensated and have appropriate business reasons for
being maintained in separate entities.
(ii) Conclusion. M and N are not under common control under this
section, but, under paragraph (c) of this section, may choose to
treat themselves as under common control, assuming both of them act
in a manner that is consistent with that choice for purposes of
Sec. 1.403(b)-5(a), sections 401(a), 403(b), and 457(b), and any
other applicable section (as defined in section 414(t)).
[[Page 67100]]
(h) Effective date. This section applies for taxable years
beginning after December 31, 2005.
PART 31--EMPLOYMENT TAXES
Par. 7. The authority citation for part 31 continues to read in
part as follows:
Authority: 26 U.S.C. 7805 * * *
Par. 8. Section 31.3121(a)(5)-2 is added to read as follows:
Sec. 31.3121(a)(5)-2 Payments under or to an annuity contract
described in section 403(b).
[The text of proposed Sec. 31.3121(a)(5)-2 is the same as the text
of Sec. 31.3121(a)(5)-2T published elsewhere in this issue of the
Federal Register].
Nancy Jardini,
Acting Deputy Commissioner for Services and Enforcement.
[FR Doc. 04-25237 Filed 11-15-04; 8:45 am]
BILLING CODE 4830-01-P