The Economic Growth and Tax Relief Reconciliation Act of 2001 and Its Impact on ESOPs and Other Retirement Plans
The Economic Growth and Tax Relief Reconciliation Act of 2001 (which became law on June 7, 2001) (the "Act") will revolutionize the manner in which U.S. employers design, implement, and administer qualified retirement plans for their employees. The Act provides enormous planning opportunities to increase: (1) tax-deductible contributions to such plans by employers; (2) pretax elective contributions to such plans by employees; and (3) future financial security for many Americans. The Act also includes the first expansion of a tax incentive for a C corporation in the past 15 years and solidifies the legislative and regulatory environment for S corporation ESOPs and their sponsors. This article focuses on these two major developments for ESOP companies and summarizes the many qualified retirement plan enhancements that the U.S. Congress created under the Act.
On May 26, 2001, the U.S. Congress approved for President Bush's signature the Economic Growth and Tax Relief Reconciliation Act of 2001 (the "Act"). The President signed the Act into law on June 7, 2001. The Act includes H.R. 10 and S.742, the Portman-Cardin and Grassley-Baucus bills, which many employee stock ownership plan and trust (ESOP) companies and their employees have supported on a grassroots basis, without major changes.
This is landmark legislation for ESOPs and there is literally no prior legislation in U.S. history that is as positive for retirement plans governed by the Employee Retirement Income Security Act of 1974, as amended (ERISA), including ESOPs. The 1984 and 1986 tax bills, under the personal guidance of former Senator Russell Long (the first and possibly the strongest ESOP advocate in Congress since the introduction of the ESOP concept into ERISA), included the most advantageous ESOP-specific legislation that the U.S. Congress ever passed. Those bills, however, included many cutbacks in the retirement plan incentive benefits for defined contribution plans in general.
The Act includes the first expansion of an ESOP tax incentive for a C corporation (the deduction for reinvested dividends paid on company stock held by an ESOP) enacted by Congress in 15 years. The Act also solidifies the legislative environment for S corporation ESOPs and will help to ensure that this significant tax incentive for ESOPs will make such transaction planning structure more attractive to a greater number of companies. This legislation also will make funding defined contribution plans, in general, more flexible and attractive to employers, and also will permit substantially more dollars to be added to average employees' retirement plan accounts.
Anti-Abuse S Corporation Legislation
After more than two years of uncertainty over the survival of S corporation ESOPs since the initial proposal during January of 1999 to virtually eliminate the S corporation ESOP structure, the Act has cleared the air with a resounding "yes" to this effective retirement plan strategy for S corporations. Section 656 of the Act is known as the "Breaux-Ramstad" anti-abuse bill and is designed to preserve the tax benefits (i.e., corporate profits are free from corporate level and shareholder level income taxes to the extent of the percentage of the ESOP's ownership of the S corporation's capital stock) associated with an S corporation's sponsoring employee ownership through an ESOP. Before examining the details of the anti-abuse rules, it is helpful to review the House Ways and Means Committee Report's perspective, which provides in relevant part:
Section 656 of the Act requires that an S corporation ESOP be "broadly based" by subjecting it to a two-part test, which is complicated and may prove difficult to apply. There also are a number of technical difficulties with the anti-abuse S corporation ESOP legislation that may require corrections and/or private letter rulings and other regulatory guidance to rectify. These will become clearer as the ESOP advisory community becomes more familiar with the new legislation.
Prohibited Allocations of Capital Stock
Under the Act, an ESOP that holds shares of capital stock of an S corporation (hereinafter referred to as "shares" or the "shares") is prohibited from allocating any portion of the ESOP's assets that are attributable to the shares to certain persons who are identified as "disqualified persons" during any "non-allocation year."1 The term "non-allocation year" means any plan year in which "disqualified persons own at least 50 percent of the shares of stock in the S corporation" that established the ESOP (the "ESOP sponsor").2 These new prohibitions will appear at new Section 409(p) of the Internal Revenue Code of 1986, as amended (the "Code").
Disqualified Persons
A person is a "disqualified person" if either (1) the person is deemed to own 10% or more of the shares that are treated as "deemed-owned" under the Act or (2) the aggregate number of shares deemed to be owned by the person, together with the shares deemed to be owned by members of the person's family, is at least 20% of the total shares that are treated as "deemed-owned" under the Act.3
Deemed-Owned Shares
This concept of shares that are "deemed-owned" is new to the body of ESOP law and is a broadened version of the attribution rules such as those contained in Section 318 of the Code, which previously applied and continue to apply to ESOPs in many respects. A participant in an S corporation ESOP is deemed to own the shares that are allocated to his or her ESOP stock account and a portion of the shares that are held in the ESOP loan suspense account and have not yet been allocated to ESOP participants' stock accounts.4 Under Section 318(a)(2)(B)(i) of the Code, the "employee trust exception," these shares would not normally be counted, but this exception does not apply for purposes of the new S corporation anti-abuse rules.5 An ESOP participant's share of unallocated shares is the amount of such shares that would have been allocated to the participant's ESOP stock account if the unallocated shares were allocated to all ESOP participants in the same proportion as the "most recent share allocation under the (ESOP).6 It appears that this "phantom allocation" process requires the unallocated shares to be allocated (and treated as "deemed-owned") in a pro rata manner based upon the shares that were allocated to ESOP participants' stock accounts in the most recent allocation.
Synthetic Equity
Another new concept for ESOPs under the anti-abuse S corporation provisions of the Act is that of "synthetic equity." An individual who owns "synthetic equity" in an S corporation will be deemed to own an equivalent number of the shares of capital stock of the S corporation on which the synthetic equity is based if this will result in the treatment of any person as a disqualified person or in the treatment of any plan year as a non-allocation year.7 In other words, "synthetic equity" will be treated as shares of the S corporation's issued and outstanding capital stock and as deemed-owned shares only if such treatment results in a triggering of the substantial excise taxes and adverse income taxes that are the deterrents provided for under the new law.
"Synthetic equity" is defined very broadly under the Act and includes any "stock option, warrant, restricted stock, deferred issuance stock right, or similar interest or right that gives the holder the right to acquire or receive stock of the S corporation in the future."8 Except to the extent that Treasury regulations to be issued in the future may provide otherwise, the term "synthetic equity" also includes stock appreciation rights, phantom stock or performance share units, and similar rights to future cash payments based on the value of the S corporation's capital stock or growth in the value of such capital stock.9
Consequences of Disqualified Persons Who Own 50% or More of the S Corporation's Shares
If individuals determined to be "disqualified persons" own at least 50% of the shares, then the S corporation has a non-allocation year, which triggers, among other things, (1) substantial excise taxes (i.e., 50% of the fair market value of the shares "deemed owned" by such disqualified persons) and (2) income tax consequences for the disqualified persons‹they are treated as if they received a distribution of the "amount allocated to the account of such person in violation of (Code § 409(p)(1))" for income tax purposes.10 In the first non-allocation year of an S corporation's failure to pass the 10%/20% and 50% tests, these adverse tax consequences occur even if there is no allocation in fact.11 In other words, the S corporation and the ESOP are deemed to have made a prohibited allocation to the disqualified persons.
In determining whether disqualified persons own at least 50% or more of the shares, the following shares must be counted: (1) shares that the disqualified persons actually own and (2) shares that the disqualified persons are considered to own for federal income tax purposes under the Code's attribution-of-ownership rules (including "synthetic equity" and deemed-owned shares under the ESOP). Under these rules, an individual is considered as owning shares that are held by his or her spouse and by his or her children, grandchildren, and parents.12 Moreover, for purposes of the new S corporation anti-abuse rules, an individual also will be considered to own shares held by any of his or her brothers or sisters, or brothers-in-law or sisters-in-law, or by any children or grandchildren of any brother or sister or brother-in-law or sister-in-law, which inclusion is not normally required under Section 318 of the Code.13 Individuals also are considered to own shares that are held in partnerships, estates, trusts and corporations that they control.
Excise and Income Taxes Imposed on Prohibited Allocations
If a non-allocation year occurs, no shares may be allocated to the accounts of any disqualified persons (and no other assets may be allocated to their accounts in lieu of shares either under the ESOP or under any other tax-qualified plan that the S corporation maintains). This concept (which already appears in a different form under Section 409(n) of the Code with respect to prohibited allocations of qualified securities acquired in a transaction to which Section 1042 of the Code applies) is referred to as "prohibited allocations" under the new law.14 The ESOP sponsor and the S corporation (if different) also must pay an excise tax equal to 50% of the amount of prohibited allocations to the disqualified persons' ESOP stock accounts for any non-allocation year.15 Furthermore, the value of the shares allocated to the disqualified persons' ESOP accounts will be treated as income upon which the disqualified persons will be subject to tax, even though they do not receive any distributions from the ESOP, in a non-allocation year.16 The ESOP sponsor and the S corporation (if different) also must pay a 50% excise tax with respect to any synthetic equity owned by any disqualified person in any non-allocation year, and the excise tax is imposed on the value of the shares on which the synthetic equity is based.17
Contrast and Comparison of Section 409(n) of the Code to New Section 409(p) of the Code
It is important to understand the distinction between prohibited allocations of qualified securities under Section 409(n) of the Code in a C corporation ESOP context as compared to the similar concept under Section 409(p) of the Code in an S corporation ESOP context. In a C corporation ESOP context, prohibited allocations occur only in connection with the election by a selling shareholder to defer his or her capital gains under Section 1042 of the Code. Under new Section 409(p) of the Code, prohibited allocations can occur in an S corporation ESOP context without regard to whether a selling shareholder has ever elected to defer capital gains under Section 1042 of the Code. Furthermore, a shareholder can qualify as a "disqualified person" under new Section 409(p) of the Code and trigger the application of the prohibited allocation rules and substantial excise and income taxes even if the person is not a participant in the ESOP.
General Avoidance or Evasion of Tax Restriction
The Act includes a provision which was not in either the House or Senate versions of the Breaux-Ramstad proposed legislation. This new provision provides that the Secretary of the U.S. Department of Treasury, by regulation, or other guidance of general applicability, may provide that a non-allocation year (which triggers the prohibited allocation and adverse excise and income tax consequences discussed above) occurs in any case in which the principal purpose of the ownership structure of an S corporation constitutes an avoidance or evasion of the Act's provisions.18 This may be helpful in eliminating S corporation ESOPs that have no real substance and are implemented primarily to benefit the selling shareholder(s) and founders. It also may have some unintended results.
The Conference Committee report, however, states that an example of an avoidance or evasion of tax that would be stopped under this new provision is a situation where more than ten independent businesses are combined in an S corporation owned by an ESOP and the businesses were combined in order to take advantage of the income tax treatment of S corporations owned by ESOPs. This is somewhat troublesome in that a number of S corporation ESOPs that provide broad-based employee ownership to a substantial number of employee owners also are used to acquire independent businesses. Hopefully, the U.S. Department of Treasury and the Internal Revenue Service (IRS) will not apply this provision in such a manner as to eliminate legitimate, broad-based S corporation ESOP companies that are actively involved in mergers and acquisitions activity.
Effective Date
The new law generally is effective for plan years beginning after December 31, 2004.19 The new law will apply, however, for plan years ending after March 14, 2001, in the case of any ESOP established after that date or in the case of any ESOP established on or before that date if the plan sponsor did not have an S corporation election in effect on that date.20 There is no "grandfather rule"; in other words, all S corporation ESOPs will eventually have to comply with the Act.
Example of the New Anti-Abuse S Corporation ESOP Law's Reach and Scope
The new anti-abuse S corporation provisions may have a greater reach and scope than the U.S. Congress intended, and could provide an expensive trap that can occur (even in a year in which no prohibited allocations occur), as the following examples demonstrate:
Hypothetical 1: A hypothetical S corporation is owned by the following shareholders:
| Shareholder | Percent |
| A | 10% |
| B | 41% |
| ESOP | 49% |
The corporation elects S corporation status effective as of January 1, 2002, and, therefore, the new anti-abuse S corporation rules apply to the S corporation immediately. The corporation thereafter grants to Shareholders A and B an incentive stock option to acquire an additional 7% of the S corporation's issued and outstanding shares on April 1, 2002. The ESOP provides that no allocation of shares shall be made to disqualified persons' ESOP stock accounts. For the plan year ending December 31, 2002, substantial allocations of unallocated ESOP loan suspense account shares are made within the S corporation ESOP, but no prohibited allocations of such shares are made to A's or B's ESOP stock accounts and there are no disqualified persons other than A and B. A and B are disqualified persons by virtue of their "deemed ownership" of 10% or more of the shares; they each are treated as owning more than 11% of the "deemed owned" shares (this percentage is obtained by adding the options to purchase shares, which are treated as "synthetic equity," to the number of shares held by the ESOP and dividing the options to purchase shares held by each shareholder by the total). Given the incentive stock options to purchase the S corporation's shares, and the fact that disqualified persons (Shareholders A and B) own at least 50% of the S corporation's shares, the S corporation will be liable for an excise tax equal to 50% of the value of A's incentive stock option shares. (In general, in determining whether someone is a disqualified person, only deemed-owned shares, including synthetic equity, are counted, whereas in determining whether a non-allocation year has occurred, actual share ownership is counted in addition to deemed-owned shares and synthetic equity.) The enterprise fair market value of 100% of the S corporation's shares as of December 31, 2002, is $20 million. Consequently, the S corporation will owe an excise tax of $1 million (50% _ 10% _ $20 million). Please note that the minority interest value and the lack of marketability for the incentive stock option shares may provide an approach for limiting the amount of the excise tax. Please also note, however, that there will be a 50% excise tax on the value of the shares subject to the incentive stock options each year unless the ownership percentages change, because every year will be a non-allocation year under these ownership circumstances. There does not seem to be a materiality issue with respect to the ESOP's share ownership, and there also does not seem to be a cutoff of the number of years of imposition of the excise tax on synthetic equity under the new law.
Hypothetical 2: A hypothetical S corporation is owned by the following shareholder:
| Shareholder | Percent |
| ESOP21 | 100% |
The corporation elects S corporation status effective as of January 1, 2002, and, therefore, the new anti-abuse S corporation rules apply to the S corporation immediately. The ESOP fails to provide that no allocation of shares (actual or deemed) shall be made to disqualified persons' ESOP stock accounts. For the plan year ending December 31, 2002, substantial allocations of unallocated ESOP loan suspense account shares are made within the S corporation ESOP. After the allocations that occur as of December 31, 2002, ESOP participant A has an aggregate of 30% of the S corporation's shares allocated to her ESOP stock account, ESOP participant B has 10% of the S corporation's shares allocated to his ESOP stock account, and ESOP participant C has 8% of the S corporation's shares allocated to her ESOP stock account. After the allocation of the deemed-owned shares in the unallocated ESOP loan suspense account to the ESOP participants' stock accounts for the plan year ending December 31, 2002 (as required by Code Section 409(p)(4)(C)(i)(II)), ESOP participant A is deemed to have an aggregate of 35% of the S corporation's shares allocated to her ESOP stock account, ESOP participant B is deemed to have an aggregate of 12% of the S corporation's shares allocated to his ESOP stock account, and ESOP participant C is deemed to have an aggregate of 10% of the S corporation's shares allocated to her ESOP stock accounts. ESOP participants A, B, and C are, therefore, treated as disqualified persons by virtue of their deemed ownership of 10% or more of the shares, and the plan year ending December 31, 2002, is treated as a non-allocation year. For this reason, no shares may be allocated to the accounts of ESOP participants A, B, and C for such plan year (and no other assets may be allocated to their accounts in lieu of shares either under the ESOP or under any other tax-qualified plan that the S corporation maintains). Because the ESOP already made the prohibited allocations to the accounts of ESOP participants A, B, and C, the S corporation must pay an excise tax equal to 50% of the amount of the prohibited allocations to such disqualified persons' ESOP stock accounts for the 2002 non-allocation year. Furthermore, the value of the shares allocated to the disqualified persons' ESOP accounts will be treated as income upon which the disqualified persons will be subject to tax, even though they do not receive any distributions from the ESOP, in such non-allocation year.
Simplification of Deduction for Dividends Paid on ESOP-Held Company Stock
The Act also expanded the deduction under Section 404(k) of the Internal Revenue Code of 1986, as amended (the "Code"), that C corporations are entitled to take in connection with dividends paid on company stock held by an ESOP.
The IRS has issued many Private Letter Rulings (PLRs) since 1995 in which it has addressed the deductibility of dividends paid on company stock held by a company's ESOP when participants are provided the opportunity to defer the amount of such dividends as salary reduction contributions under Section 401(k) of the Code. This procedure is often referred to as a "dividend switchback." The IRS has ruled in many PLRs that the deduction for the pass-through of ESOP dividends is available even when participants elect to defer, either affirmatively or by a "deemed" (automatic or "negative") election, such cash dividends as Code Section 401(k) salary reduction contributions. (See, e.g., PLRs 9812064 (February 26, 1998), 199921056 (March 31, 1999) and 199938040 (June 28, 1999).) (A "negative" election is one in which the ESOP provides that the participants will receive dividends unless they elect not to receive them and that they will be deemed to have increased their Code Section 401(k) salary reduction contributions (subject to the limits imposed by the plan and Code Sections 402(g) and 415) to the 401(k) plan or the 401(k) portion of the ESOP by the amount of the dividends paid on the company stock held by the ESOP unless they elect otherwise.)
Under current law, however, as provided under the PLRs, a company must use a 401(k) plan (or add such feature to an existing ESOP), with its applicable limits on salary reduction contributions, in order to take advantage of the dividend switchback technique. Those 401(k) plan participants who already have contributed the maximum amount under the 401(k) plan cannot take advantage of the dividend switchback. This same 401(k) plan salary reduction limitation will not apply to dividends that ESOP participants voluntarily elect to reinvest in company stock under Section 662 of the Act. The dividend switchback as provided for under the PLRs also is somewhat administratively complex, while the direct reinvestment and deduction feature under Section 662 of the Act will be very simple and straightforward to apply. Furthermore, the PLRs that the IRS has issued may not be used or cited as precedence to the IRS (and relied upon) by anyone other than the taxpayer who received the PLRs. Employers who desire to take advantage of the dividend reinvestment and deduction feature of Section 662 of the Act will not have to incur the expense and expend the time necessary to obtain a PLR to back up the action that they take in order to achieve the deduction and reinvest dividends in company stock.
Under the prior law, a deduction was allowed under Section 404(k) of the Code with respect to dividends that (1) were paid in cash directly to the ESOP participants or their beneficiaries, (2) were paid to the ESOP and then distributed to the ESOP participants or their beneficiaries in cash within 90 days after the close of the plan year in which the dividends were received by the ESOP, or (3) were used to make payments on ESOP loans. The dividend switchback technique used provisions (1) and (2) in connection with the deferral of the dividends back into a 401(k) plan or a 401(k) feature of an ESOP in order to achieve a deduction for the C corporation. Section 662 of the Act retains all of these provisions and expands the dividend deduction to include dividends that, at the election of ESOP participants or their beneficiaries, are paid to the ESOP and reinvested in company stock.22 This new provision is effective for taxable years beginning after December 31, 2001.23
Closely held companies should note that the new law does not eliminate the securities law disclosure and registration/qualification requirements that probably will apply in most cases. Care should be taken to identify these requirements and ensure compliance, given that ESOP participants of all levels of compensation and financial sophistication will effectively be deciding to invest dividends that are paid to the ESOP in company stock. Closely held companies should focus on effective employee communications to properly explain the dividend reinvestment decision.
It also is noteworthy that the Conference Report regarding this new law instructs the Secretary of the U.S. Treasury to disallow any dividend deduction if its purpose is "in substance an avoidance or evasion of taxation."24 In an apparent attempt to define what types of dividends are "reasonable" and deductible under the new law, the Conference Report indicates that dividends paid on the common stock of publicly traded C corporations and dividends paid on the capital stock of closely held C corporations that are in the range of dividends that are paid on the capital stock of comparable (i.e., similar size, line of business, dividend history, etc.) publicly traded C corporations are presumptively treated as "reasonable" under the new law. This will probably re-energize the debate and discussion regarding what amounts and types of dividends are "reasonable" and, therefore, deductible under the new law.
New General Retirement Plan Legislation
The Act also includes several other beneficial provisions for ESOPs, other defined contribution plans, and IRAs, a brief summary of which are discussed in the remainder of this article.
Deduction Limits
The Act increases the plan sponsor's deduction limit for stock bonus and profit sharing plans from 15% to 25% of covered compensation.25 This provision will be especially attractive to S corporations that desire to engage in leveraged ESOP transactions because it will increase the deduction limit for amortizing internal ESOP loans without having to add a money purchase pension feature to the ESOP in order to contribute up to 25% of covered compensation.
Annual Additions to Participants' Accounts
Under current law, the amount of "annual additions" that may be allocated to a participant's defined contribution plan account is limited to 25% of that person's "covered compensation," up to $35,000 per year. The Act repeals the 25% limit and effectively makes it 100% for plan years beginning after December 31, 2001, subject to the aggregate limitations on annual additions to participants' accounts.26 The Act also raises the $35,000 limitation to $40,000 for plan years beginning after December 31, 2001.27
Covered Compensation
The Act increases the "covered compensation" limitation for allocation purposes to $200,000 for plan years beginning after December 31, 2001, and indexes this amount in $5,000 increments after that.28 This means that for plan years beginning after December 31, 2001, the annual addition limit is 20% for participants with compensation of $200,000 or more.
Elective Deferrals Not Taken into Account
Elective deferrals by a participant to a 401(k) plan and a 403(b) plan also are not taken into account under the Act for purposes of any limitation contained in paragraphs (3), (7), or (9) of Section 404(a) of the Code, and such elective deferrals shall not be taken into account in applying any such limitation to any other contributions and calculating the ceilings that limit how much can be deducted by employers for contributions to employer plans on behalf of employees beginning for plan years after December 31, 2001.29
Faster Vesting
From the perspective of less flexibility and greater retirement plan cost, the Act will make the required vesting schedule faster for employer matching contributions to a 401(k) plan.30 Employer matching contributions will now vest using either a three-year cliff vesting schedule or a two- to six-year incremental vesting schedule.31 This change does not apply, however, to non-deferral plans, such as a stock bonus plan or an ESOP where the employer contributions do not constitute matching contributions.
Increase in Elective Deferral Limitations
The elective deferral limit for 401(k) plans and 403(b) plans will increase from $10,500 in 2001 to $15,000 in 2006.32 The limit for Section 457 plans will increase from $8,500 in 2001 to $15,000 in 2006.33 These increases will take place according to the following schedule:
| Year | Limit |
| 2002 | $11,000 |
| 2003 | $12,000 |
| 2004 | $13,000 |
| 2005 | $14,000 |
| 2006 | $15,000 |
Future cost of living increases will be rounded up in multiples of $500.
"Roth" 401(k) and 403(b) Plans
Participants may designate all or a portion of their 401(k) or 403(b) contribution as "Roth" contributions.34 Roth 401(k) and 403(b) plans will be modeled after Roth individual retirement arrangements (IRAs): contributions will be taxable but qualified distributions (including earnings) will be excluded from income. Except for the tax treatment, Roth contributions will be treated like elective deferrals. Roth accounts require separate accounting and record-keeping.
Catch-Up Retirement Plan Contributions
Participants who are aged 50 and older at the end of the plan year may contribute an additional $5,000 per year to their defined contribution plan.35 The $5,000 annual limitation will be phased in according to the following schedule:
| Year | Additional Contribution |
| 2002 | $1,000 |
| 2003 | $2,000 |
| 2004 | $3,000 |
| 2005 | $4,000 |
| 2006 | $5,000 |
After 2006, increases in the catch-up limit will be indexed in $500 increments.
Catch-up contributions will not be subject to any otherwise applicable limitation of Code Sections 402(g), 402(h)(2), 404(a), 404(h), 415, or 457.36 Catch-up contributions will not be subject to nondiscrimination testing, except that a plan will fail the nondiscrimination test with respect to the plan's benefits, rights, and features unless all employees eligible to make catch-up contributions are permitted to do so on the same basis.37 Employer matching contributions based upon catch-up contributions are permitted and are subject to the rules that normally apply to catch-up contributions.
Tax Credit for Low-Income and Middle-Income Savers
Taxpayers with incomes up to $50,000 may receive a tax credit of up to $1,000 for their retirement savings contributions. The specific credit will depend on the taxpayer's income. The maximum credit will match up to 50% of the first $2,000 contributed to a 401(k) plan, 403(b) plan, 457 plan, SIMPLE or SEP plan, IRA, Roth IRA, voluntary after-tax employee contributions to a qualified retirement plan, or other retirement savings vehicle. The credit is in addition to any deduction or exclusion that otherwise applies to the contribution.
Rollovers of Retirement Plan and IRA Distributions
Eligible rollover distributions from qualified retirement plans, 403(b) plans, and governmental 457 plans may be rolled over into any qualified retirement plan, 403(b) plan, or governmental 457 plan. Similarly, distributions from an IRA may be rolled over into a qualified retirement plan, 403(b) plan, or governmental 457 plan. Qualified retirement plans, 403(b) plans, and governmental 457 plans are not required to accept rollovers. Special rules apply in certain cases.38
Employee after-tax contributions may be rolled over into another qualified retirement plan or a traditional IRA if the qualified retirement plan provides separate accounting for such rollovers and attributable earnings.39
Surviving spouses also may roll over distributions to a qualified retirement plan, 403(b) plan, or governmental 457 plan in which the spouse participates.
Plan Loans for S Corporation Shareholders and Sole Proprietors
The prohibited transaction rules are amended to allow plan loans for S corporation shareholders and sole proprietors.40
Tax Credits for Administrative/Education Expenses Incurred in Creating New Retirement Plans
Employers with fewer than 100 employees that adopt a new qualified retirement plan may receive a nonrefundable income tax credit for 50% of the first $1,000 in administrative and retirement plan education costs.41 The credit applies for each of the first three plan years.42 The expenses offset by the tax credit are not deductible.
IRS User Fees for Determination Letter Requests
In general, an employer that adopts a "new" qualified retirement plan will not have to pay an IRS user fee when requesting a determination letter regarding the retirement plan's qualified status for the period starting with the date of the plan's creation and ending on the date that is the later of (1) the fifth plan year the plan is in existence or (2) the end of any remedial amendment period with respect to the plan beginning within the first five plan years.43
Conclusion
This article lays the basic groundwork for further education regarding the extensive retirement planning alternatives that the U.S. Congress created under the Act. Over the next few years, employers and their advisors will learn much more about the parameters of the new retirement plan legislation. This journal will include follow-up articles over the next few years that will shed greater light on the planning opportunities that are available under the Act and that have been the focal point of this article.
Notes