403(b) Outlook: Contribution Aggregation Under 415(c)

September 25, 2008

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What is the rule? We know that all 403(b) plans of related employers must be aggregated for certain purposes. The one that interests us here is the 415(c) plan limits. 415(c) requires that a participant’s annual additions not exceed the lesser of $40,000 (as indexed – $46,000 for 2008) or 100% of compensation. Each participant’s annual additions are the sum of the employer contributions, employee contributions (both pre- and post-tax), and forfeitures allocated to his account for a limitation year. Typically, the limitation year is the calendar year.

The regulations under 415 provide that a participant in a 403(b) plan is considered to maintain an annuity contract — not the plan sponsor. Because of this provision, contributions to 403(b) annuity contracts are not typically aggregated with contributions to qualified plans for purposes of applying the 415 limit.

That’s the general rule. In 2007, the Internal Revenue Service issued final regulations under 415 that indicate that a 403(b) plan sponsor and a participant in a 403(b) plan may both be deemed to maintain an annuity contract. In this situation and as part of its annual compliance testing, the 403(b) plan sponsor is required to collect contribution, and possibly compensation, information from its plan’s participants who also participate in other qualified defined contribution plans sponsored by an employer in which a participant has a controlling ownership interest. This information is then aggregated with annual additions information from the 403(b) plan to determine if the 415(c) limit is satisfied for the participant. Because the participant is deemed to maintain the 403(b) contracts for purposes of the 415 limit, all contributions to all 403(b) contracts in a limitation year (whether or not issued under plans of separate employers) are aggregated when applying the 415 limit.

What has changed? The required aggregation is not new. What is new is the administrative burden placed on the 403(b) plan sponsor. If there is a 415(c) violation because of the required aggregation, correction of the violation falls upon the 403(b) plan. If the participant who participates in both a qualified plan1 sponsored by an employer in which he has controlling interest and a 403(b) plan exceeds the 415 limit, the excess contribution is attributed first to the testing 403(b) plan. The excess is includable in the gross income of the participant for the taxable year within which the 415 limitation year ends. If the excess is not distributed to the participant, both the final 403(b) regulations and the 415 regulations provide it must be maintained in a separate account by the issuer of the 403(b) annuity contract.

Example: Employee A is employed by a hospital, Employer M, which purchases an annuity contract described in 403(b) on Employee A’s behalf for the current limitation year. Employee A is also the 100% owner of a professional corporation, Employer Z, which maintains a qualified plan1 in which Employee A participates. Employer M and Employee A are both considered to maintain the 403(b) annuity contract. Because Employee A owns a controlling interest in Employer Z, the sum of the annual additions under the qualified plan maintained by Employer Z and the annuity contract in the 403(b) plan must be aggregated to for purposed of applying the 415(c) limits.

What do I need to I do? You must start thinking about how to gather the necessary information to determine if the 415(c) limitations are satisfied. We have developed a spreadsheet tool to aid you in gathering information.

What’s the effective date? These regulations were effective with their publication (April 5, 2007) and apply for limitation years beginning on or after July 1, 2007.

Next week’s issue: Catch-up contributions

1 Includes 401(a) and 403(a) plans as well as simplified employee pensions (SEPs) and Keogh plans.

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