The ERISA consultants at the Columbia Management Retirement Learning Center Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs and qualified retirement plans. A recent call with a financial advisor in Alabama is representative of a common inquiry involving the use of plan forfeitures. The advisor asked:
“How and when should a 401(k) plan sponsor use plan forfeitures?”
Highlights of Recommendations
• The answer to this two-prong question will depend on the forfeiture language in the plan document.
• Regarding “how” plan forfeitures should be used: The governing plan document will specify in what way the forfeitures may be used. Permissible options include: (1) reducing future employer contribution obligations to the plan; (2) reallocating among the accounts of active plan participants; or (3) paying plan expenses.
• Regarding “when” plan forfeitures should be used: The general rule is that dollars in a plan’s forfeiture account should be used or allocated in the plan year incurred; they should not be allowed to accumulate from plan year to plan year.
• The IRS addresses improper forfeiture suspense accounts in its "Fixing Common Plan Mistakes" online publication: “Forfeitures must be used or allocated in the plan year incurred. The Code does not authorize forfeiture suspense accounts to hold unallocated monies beyond the plan year in which they arise.” This would preclude a plan from carrying over plan forfeitures to subsequent plan years (see also IRS Revenue Rulings 80-155 and 84-156).
• However, the Spring 2010 issue of Retirement News for Employers provides a limited exception to the general rule discussed above. The publication states: “For those plans that use forfeitures to reduce plan expenses or employer contributions there should be plan language and administrative procedures to ensure that current year forfeitures will be used up promptly in the year in which they occurred or in appropriate situations no later than the immediately succeeding plan year (emphasis added). The IRS has not provided what would constitute an “appropriate situation,” however.
Conclusion
Plan forfeitures can trip up unsuspecting plan sponsors. Having knowledge of how the IRS expects such amounts to be used and within what timeframe can set a financial advisor apart from the competition and better position him or her to support plan sponsor clients. The Columbia Management Learning Center is available to provide further insight into this and other retirement plan topics.
The Columbia Management Retirement Learning Center Resource Desk is staffed by the Retirement Learning Center, LLC, a third-party industry consultant that is not affiliated with Columbia Management. For informational purposes only. Please consult a tax advisor or attorney for specific tax or legal needs. © 2013 Columbia Management Investment Advisers, LLC. Used with permission.
