Current developments in employee benefits.

• Author: Kundin, Elizabeth A.
• Position: Part 1

This two-part article provides an overview of recent developments in employee benefits, qualified retirement plans and executive compensation. Part I, below, focuses on current developments affecting qualified retirement plans, including IRS determination letters, the Voluntary Compliance Resolution (VCR) program, new final regulations and case law developments applicable to qualified plans. Part II, to be published in December, will focus on executive compensation and employee benefits issues, including amended Securities and Exchange Commission executive compensation disclosure requirements, Employee Retirement Income Security Act of 1974 (ERISA) matters and judicial developments.

Determination Letters

The IRS has issued a procedure(1) for issuing determination letters that take into account all the plan qualification requirements of the Tax Reform Act of 1986 (TRA '86) and subsequent legislation, up to and including the Revenue Reconciliation Act of 1993 (RRA) (collectively, the TRA requirements). Plan sponsors will now be able to obtain rulings that provide reliance on whether a plan satisfies the nondiscrimination requirements of Sec. 401(a)(4) and the coverage requirements of Sec. 410(b), including whether the plan satisfies a nondesign-based safe harbor or the general test under the Sec. 401(a)(4) regulations, and whether the plan satisfies the minimum coverage requirements on the basis of the average benefit test.

Generally, determination letter applications filed under the new procedure will be reviewed for compliance with all "form" (i.e., plan language) requirements and certain "nonform" requirements (e.g., the minimum coverage requirements). However, the new procedure allows applicants to elect whether the determination letter will consider certain requirements. Unless the applicant elects otherwise, a plan not intended to satisfy one of the design-based safe harbors will not be reviewed for nondiscrimination in the amount of contributions or benefits under Regs. Sec. 1.401(a)(4)-1(b)(2). Also, unless the applicant elects otherwise, a plan that does not satisfy the ratio percentage test of Sec. 410(b)(1) will not be reviewed for the average benefit test.

Only those "benefits, rights, and features" specified by the applicant will be reviewed for compliance with the current availability requirement of Regs. Sec. 1.401(a)(4)-4(b). In no event will any plan be reviewed for compliance with the effective availability requirement of Regs. Sec. 1.401(a)(4)-4(c).

Rev. Proc. 93-39 generally requires applicants to submit appropriate demonstrations that the above requirements have been satisfied. Guidelines are provided that describe the elements that ordinarily should be addressed in the demonstrations. The IRS strongly encourages applicants to follow the guidelines and to indicate in their demonstrations where each element in the guidelines is addressed. The content of an applicant's demonstration will determine the extent of the reliance provided by the determination letter. Thus, applicants should retain copies of all demonstrations and supporting data.

Rev. Proc. 93-39 also provides for a new graduated user fee schedule that reflects the relative difficulty of review. If the plan is intended to satisfy a design-based or nondesign-based safe harbor, or if the applicant is not electing to receive a determination with respect to any of the general tests and is not electing to receive a determination with respect to the average benefit test, the fees range from $125 for Form 5307, Application for Determination for Adopters of Master or Prototype, Regional Prototype or Volume Submitter Plans, or Form 6406, Short Form Application for Determination for Amendment of Employee Benefit Plan, to $700 for Form 5300, Application for Determination for Employee Benefit Plan, or Form 5303, Application for Determination for Collectively Bargained Plan. If the applicant is electing to receive a determination with respect to the average benefit test or any of the general tests, the fees range from $375 for Form 5310, Application for Determination of Qualification Upon Termination, to $1,250 for Form 5300 or Form 5303. The fees are higher for multiple employer plans.

Rev. Proc. 93-39 provides an extended reliance period for sponsors of certain individually designed plans if the sponsor requested a determination letter before July 1, 1994, and the IRS issues a favorable determination letter that takes into account all of the TRA requirements. Sponsors of these plans will not be required to amend their plans during the extended reliance period to reflect regulations or administrative guidance of general applicability (e.g., revenue rulings) issued after the date of the determination letter. The extended reliance period continues until the earlier of (1) the last day of the last plan year beginning before 1999, or (2) the date set for plan amendment by any legislation that becomes effective after the date of the plan's determination letter.

VCR and Closing Agreement Programs

VCR program

The IRS announced in Rev. Proc. 94-62(2) that it is extending the VCR program indefinitely, and that the program will continue to be administered in the Headquarters Office. Rev. Proc. 94-62 also expands the types of defects that can be corrected under the Standardized VCR Procedure (SVP), modifies VCR eligibility standards, and makes certain other technical and administrative changes.

The VCR program is available only for an individually designed plan (1) with a favorable determination letter, (2) that is an adopter of a master or prototype plan with an opinion letter, or (3) that is an adopter of a regional prototype plan with a notification letter. For VCR requests submitted before 1996, the plan must have received a favorable determination, opinion or notification letter that considered the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA), the Deficit Reduction Act of 1984 (DRA) and the Retirement Equity Act of 1984 (REA). Requests submitted after 1995 must have a letter that considered the TRA '86.

Rev. Proc. 94-62 identifies three types of defects that may affect a plan's qualified status: form defects, such as the failure of a plan provision to satisfy a Sec. 401(a) qualification requirement; demographic defects, such as where a shift in the demographics of the employer's work force results in the plan's failure to satisfy a nondiscrimination requirement; and operational defects, such as a failure to follow the plan terms. The VCR program is available only to correct operational defects.

Rev. Proc. 94-62 makes several changes to the eight VCR "correction principles" outlined in Rev. Proc. 93-36.(3) To the extent possible, the correction should conform the operation of the plan to the actual plan language. Thus, amending the plan to conform the plan document to the way the plan was actually operated is not an acceptable VCR correction. The new procedure also expands on the existing correction principle that the correction method should, if possible, resemble one already provided for in the Code, regulations or other publications, by stating that correction methods making use of the cross-testing provisions in Regs. Sec. 1.401(a)(4)-8 or the restructuring provisions in Regs. Sec. 1.401(a)(4)-9 are not permissible correction methods under the VCR program.

A request for a compliance statement must contain specific information necessary to support a suggested correction method, including the interest rate that will apply to any corrective contributions or distributions. Rev. Proc. 94-62 provides that, for administrative convenience, if a plan permitted directed investments for the years at issue, the plan may use the highest rate earned in the plan for a particular year as the correction rate for that year, provided most of the employees receiving corrective allocations or distributions are nonhighly compensated employees (non-HCEs).

The procedure imposes a two-defect limit under the SVP. Thus, the SVP is not available if the plan sponsor has identified more than two SVP defects in a single SVP request. Further, the IRS has reserved the right to shift an SVP request into the VCR program if the sponsor submits a second SVP request for the same plan while the first request is being considered or within 12 months after the first SVP compliance statement is issued. The IRS also emphasizes that the correction method listed for a particular SVP defect is the only acceptable correction method for that defect under the SVP.

Rev. Proc. 94-62 adds the following to the list of defects that can be corrected under the SVP:

* Failure to timely pay the minimum distribution required under Sec. 401(a)(9): Correction is made by distributing the required amounts and any gains or losses for all prior years, with the employer entering into a standardized closing agreement to pay 100% of the excise tax that would ordinarily apply to the failure to distribute.

* Failure to obtain participant and/or spousal consent for a distribution subject to the participant and spousal consent rules under Secs. 401(a)(11), 411(a)(11) and 417: Correction is made by giving affected employees a choice between providing informed consent for the distribution actually made or receiving a qualified joint and survivor annuity. If participant (or spousal) consent cannot be obtained, the employer must provide a qualified joint and survivor (or survivor) annuity.

* Failure to satisfy the Sec. 415 limits in a defined contribution plan: Correction for amounts other than elective deferrals is achieved by placing the excess annual additions into a suspense account to be used as an employer contribution in succeeding years. Correction for failure to limit annual additions that are elective deferrals is made by distributing the elective deferrals under Regs. Sec. 1.415-6(b)(6)(iv).

The new procedure also makes several changes to the four existing SVP defects:

* In the case...