The bill would require a defined contribution plan that holds any publicly-traded employer securities to allow a participant (or any beneficiary entitled to exercise a participant's rights) to divest that portion of the account attributable to employee contributions and elective deferrals invested in employer securities and to reinvest an equivalent amount in other investment options.

With respect to the portion of the plan account attributable to employer contributions other than elective deferrals which is invested in employer securities, the bill would require a defined contribution plan to allow each participant who has completed at least three years of service (or is a beneficiary of a such participant or of a deceased participant) to divest any employer securities and to reinvest an equivalent amount in other investment options. If the employer contribution portion of the account consists of employer securities acquired in a plan year beginning before Jan. 1, 2007, the diversification requirement would be phased in over three years (applied separately with respect to each class of securities), but this phase-in would not apply to a participant who has attained age 55 and completed at least three years of service before the first plan year beginning after Dec. 31, 2005.¹

Regarding the reinvestment options for the divested employer securities, the bill would require the plan to offer no fewer than three investment options, other than employer securities, each of which is diversified and has materially different risk and return characteristics.

Under the bill, a plan would not be treated as failing to meet this requirement merely because the plan limits the time for divestment and reinvestment to periodic, reasonable opportunities occurring no less frequently than quarterly. However, under the bill, except as provided in regulations and except for any restrictions or conditions imposed under securities laws, a plan would not meet this requirement if it imposes restrictions or conditions regarding the investment of employer securities that are not imposed on the investment of other plan assets.

Under the bill, the above provisions would not apply to an ESOP if (1) there are no contributions to the plan (or earnings thereunder) held within the plan and subject to code §401(k) or (m), and (2) the plan is a separate plan for purposes of code §414(l) with respect to any other defined benefit plan or defined contribution plan maintained by the same employer or employers. Also, the bill would exclude “one-participant retirement plans,” as defined under the bill, from application of the above provisions.

Increasing Participation Through Automatic Contribution Arrangements.

The bill would allow a “qualified automatic contribution arrangement” to meet the actual deferral percentage requirements of code §401(k)(3)(A)(ii) and the matching contribution percentage requirements of code §401(m)(2). The bill also would exclude such an arrangement from the definition of a top-heavy plan and would amend §514 of ERISA to supersede any law of a state which would directly or indirectly prohibit or restrict the inclusion in any plan of an automatic contribution arrangement.

Under the bill, each employee eligible to participate in the arrangement would be treated as having elected to have the employer make elective contributions in an amount equal to a qualified percentage of compensation. Under the bill, the qualified percentage would be any percentage determined under the arrangement if such percentage is applied uniformly, does not exceed 10 percent, and is at least: (1) 3 percent during the period ending on the last day of the first plan year which begins after the date on which the first elective contribution is made with respect to such employee; (2) 4 percent during the first plan year following that plan year; (3) 5 percent during the second plan year following that plan year; and (4) 6 percent during any subsequent plan year. The bill would provide that the election treated as having been made would cease to apply with respect to any employee who makes an affirmative election to not have such contributions made or to make elective contributions at a level specified in that affirmative election.

Under the bill, the automatic enrollment provision may be applied without taking into account any employee who was eligible to participate in the arrangement (or a predecessor arrangement) immediately before the date on which the arrangement became a qualified automatic contribution arrangement and had an election in effect on such date (either to participate in the arrangement or to not participate in the arrangement).

According to the bill, under the above provision, employers would be required to: (1) make matching contributions on behalf of each employee who is not a highly compensated employee in an amount equal to the sum of 100 percent of the elective contributions of the employee to the extent that such contributions do not exceed one percent of compensation plus 50 percent of so much of such compensation as exceeds one percent but does not exceed six percent of compensation; or, without regard to whether the employee makes an elective contribution or employee contribution, make a contribution to a defined contribution plan on behalf of each employee who is not a highly compensated employee and who is eligible to participate in the arrangement in an amount equal to at least three percent of the employee's compensation.

The bill would provide that an arrangement would not be treated as meeting the above requirements unless, with respect to employer contributions (including matching contributions) taken into account for this purpose, any employee who has completed at least two years of service has a nonforfeitable right to 100 percent of the employee's accrued benefit derived from such employer contributions and the distribution requirements of §401(k)(2)(B) are met with respect to all such employer contributions.

Under the bill, to be considered a qualified automatic contribution arrangement, within a reasonable period before each plan year, each employee eligible to participate in the arrangement for that year would have to receive an accurate and comprehensive written notice of the employee's rights and obligations under the arrangement written in a manner calculated to be understood by the average employee to whom the arrangement applies. The bill would provide specific timing and content requirements.

The bill would provide the following tax treatment of withdrawals of elective contributions (and related earnings) to an “eligible automatic contribution arrangement” made within 90 days of the date of the first elective contribution: (1) the amount of any such withdrawal would be includible in the employee's gross income for the employee's taxable year in which the distribution is made; (2) no tax would be imposed under §72(t) with respect to the distribution; (3) the arrangement would not be treated as violating any restriction on distributions under the code solely by reason of allowing the withdrawal; and (4) employer matching contributions would be forfeited or subject to such other treatment as the IRS may prescribe.

For these purposes, the bill would define an eligible automatic contribution arrangement as an arrangement under an applicable employer plan: (1) under which a participant may elect to have the employer make payments as contributions under the plan on behalf of the participant, or to the participant directly in cash; (2) under which the participant is treated as having elected to have the employer make such contributions in an amount equal to a uniform percentage of compensation provided under the plan until the participant specifically elects not to have such contributions made (or specifically elects to have such contributions made at a different percentage); (3) under which, in the absence of an investment election by the participant, contributions described in (2) are invested in accordance with regulations prescribed by the Secretary of Labor under ERISA §404(c)(5); and (4) which meets certain notice requirements.

Under the bill, an applicable employer plan would be: (1) an employees' trust under code §401(a) which is exempt from tax under code §501(a); (2) a plan under which amounts are contributed by an individual's employer for an annuity contract described in code §403(b); and (3) an eligible deferred compensation plan described in code §457(b) which is maintained by an eligible governmental employer described in code §457(e)(1)(A).²

Eligible Combined Defined Benefit Plans and Qualified Cash or Deferred Arrangements.

The bill would allow a small employer (i.e., an employer with an average of at least two but not more than 500 employees) to establish a combined defined benefit-§401(k) plan governed by one document and having specific accounting for the defined benefit and defined contribution portions of the trust. Generally, under the bill, the defined benefit rules would apply to the defined benefit portion of the plan, and the defined contribution rules would apply to the defined contribution portion of the plan. The bill would require the defined benefit component to satisfy minimum accrual requirements, and if the defined benefit component is a cash balance plan, the accrual would have to be in the form of minimum pay credits. Under the bill, the §401(k) component would be required to have automatic enrollment (including opt-out, notice and election rights) and meet minimum matching contribution requirements. The bill would require all contributions and benefits under and all rights and features under each plan to be provided uniformly to all participants. Under the bill, a defined benefit plan and applicable defined contribution plan forming part of an eligible combined plan for any plan year would be treated as meeting the top-heavy requirements of code §416 for the plan year, code §414(k) would not apply, and the plan would be treated as a single plan for purposes of the reporting requirements of code §§6058 and 6059.³

Faster Vesting of Employer Nonelective Contributions.

Under current law, there is accelerated vesting in defined contribution plans but only for matching employer contributions. They must be 100 percent vested after three years (three-year cliff vesting) or vest at a rate of 20 percent a year starting with year two (two-to-six-year phased vesting). Employee contributions are always 100 percent vested.

The bill would apply accelerated three-year cliff vesting or two-to-six-year phased vesting to all employer contributions in a defined contribution plan (nonelective employer contributions as well as matching contributions).⁴

Distributions During Working Retirement.

Under current law, defined benefit plans are prohibited from allowing in-service distributions before normal retirement age. The bill would allow in-service distributions once the participant is age 62.⁵

Pension Plans of Indian Tribal Governments.

Under the bill, a governmental plan would include a plan which is established and maintained by an Indian tribal government, a subdivision of an Indian tribal government, or an agency or instrumentality of either, and all of the participants of which are employees of such entity substantially all of whose services as such an employee are in the performance of essential governmental functions but not in the performance of commercial activities (whether or not an essential government function). The bill would further clarify that tribal governments are subject to the same pension plan rules and regulations applied to state and other local governments and their police and firefighters.⁶

TITLE X--Provisions Relating to Spousal Pension Protection.

Domestic Relations Orders.

The bill would require the Secretary of Labor to issue regulations under ERISA §206(d)(3) and code §414(p) not later than one year after the date of the enactment which clarify that: (1) a domestic relations order otherwise meeting the requirements to be a qualified domestic relations order, including the requirements of ERISA §206(d)(3)(D) and code §414(p)(3) will not fail to be treated as a qualified domestic relations order solely because (a) the order is issued after, or revises, another domestic relations order or qualified domestic relations order, or (b) of the time at which it is issued; and (2) any order described in paragraph (1) will be subject to the same requirements and protections which apply to qualified domestic relations orders, including the provisions of ERISA §206(d)(3)(H) and code §414(p)(7).⁷

Divorced Spouses and Railroad Retirement Annuities.

The bill would amend the Railroad Retirement Act to provide for entitlement of a divorced spouse to railroad retirement annuities independent of the actual entitlement of the employee.⁸

Railroad Retirement Benefits to Surviving Former Spouses.

The bill would amend the Railroad Retirement Act to provide that the surviving spouse's annuity under Tier II railroad retirement benefits, which he or she is receiving pursuant to a divorce decree, would not be terminated because of the death of the participant (unless the divorce order so provides).⁹

Requirement for Additional Survivor Annuity Options.

Under the bill, if a pension plan participant elects a waiver of the qualified joint and survivor annuity (QJSA) form of benefit or a qualified preretirement survivor annuity form of benefit, the participant would be able to elect a qualified optional survivor annuity, defined as an annuity: (1) for the life of the participant with a survivor annuity for the life of the spouse which is equal to the applicable percentage of the amount of the annuity which is payable during the joint lives of the participant and the spouse; and (2) which is the actuarial equivalent of a single annuity for the life of the participant. Under the bill, if the survivor annuity percentage is less than 75 percent, the applicable percentage would be 75 percent, and if the survivor annuity percentage is greater than or equal to 75 percent, the applicable percentage would be 50 percent. For these purposes, the bill would define the term “survivor annuity percentage” as the percentage which the survivor annuity under the plan's QJSA bears to the annuity payable during the joint lives of the participant and the spouse. The bill would require the plan to provide a written explanation of the qualified optional survivor annuity in its required notice to participants.¹⁰

TITLE XI--Administrative Provisions.

Employee Plans Compliance Resolution System.

The bill would provide the Secretary of the Treasury with full authority to establish and implement the Employee Plans Compliance Resolution System (EPCRS) or any successor program and any other employee plans correction policies, including the authority to waive income, excise or other taxes to ensure that any tax, penalty or sanction is not excessive and bears a reasonable relationship to the nature, extent and severity of the failure. The bill would direct Treasury to continue to update and improve the EPCRS or any successor program, giving special attention to: (1) increasing the awareness and knowledge of small employers concerning the availability and use of the program; (2) taking into account special concerns and circumstances that small employers face with respect to compliance and correction of compliance failures; (3) extending the duration of the self-correction period under the Self-Correction Program for significant compliance failures; (4) expanding the availability to correct insignificant compliance failures under the Self-Correction Program during audit; and (5) assuring that any tax, penalty or sanction that is imposed by reason of a compliance failure is not excessive and bears a reasonable relationship to the nature, extent and severity of the failure.¹¹

Notice and Consent Period Regarding Distributions.

Generally, under present law, an election of a form other than a joint and survivor annuity must be made no earlier than 90 days before the benefit's annuity starting date. The bill would change the consent period for joint and survivor notices and consents from “no earlier than 90 days” to “no earlier than 180 days” before the benefit's annuity starting date.¹²

Reporting Simplification.

The bill would direct the Secretary of the Treasury modify the requirements for filing annual returns with respect to one-participant retirement plans to ensure that such plans with assets of $250,000 or less as of the close of the plan year need not file a return for that year. For these purposes, the bill would define a “one-participant retirement plan” as a retirement plan with respect to which the following requirements are met: (1) on the first day of the plan year, (a) the plan covered only one individual (or the individual and the individual's spouse) and the individual owned 100 percent of the plan sponsor (whether or not incorporated), or (b) the plan covered only one or more partners (including a two-percent shareholder as defined in code §1372(b) of an S corporation) (or partners and their spouses) in the plan sponsor; (2) the plan meets the minimum coverage requirements of code §410(b) without being combined with any other plan of the business that covers the employees of the business; (3) the plan does not provide benefits to anyone except the individual (and the individual's spouse) or the partners (and their spouses); (4) the plan does not cover a business that is a member of an affiliated service group, a controlled group of corporations, or a group of businesses under common control; and (5) the plan does not cover a business that uses the services of leased employees. The bill also would require the Secretaries of the Treasury and Labor to provide for the filing of a simplified annual return for any retirement plan which covers less than 25 participants on the first day of a plan year and which meets the requirements described in (2), (4) and (5) above.¹³

Local Educational Agencies and Other Entities.

Voluntary Early Retirement Incentive Plans. The bill would provide for treatment of certain voluntary early retirement incentive plans maintained by (1) a local educational agency,¹⁴ or (2) an education association described inI.R.C. §501(c)(5) or (6)¹⁵ which principally represents employees of one or more agencies described in (1) above and is exempt from tax under code §501(a). Under the bill, if (1) such a plan makes payments or supplements as an early retirement benefit, a retirement-type subsidy, or a benefit described in the last sentence of code §411(a)(9),¹⁶ and (2) such payments or supplements are made in coordination with a qualified defined benefit plan and a trust exempt from tax under code §501(a) and which is maintained by an eligible governmental employer or by an education association described above, the plan would be treated as a bona fide severance pay plan not providing for the deferral of compensation with respect to such payments or supplements, to the extent such payments or supplements could otherwise have been provided under the defined benefit plan (determined as if code §411 applied to the defined benefit plan). The bill would provide an exemption from the age discrimination provisions of the Age Discrimination in Employment Act of 67 (ADEA) for voluntary early retirement incentive plans described above.

Employment Retention Plans. The bill would also create an exception to the rules governing ineligible plans under code §457(f) for that portion of any applicable employment retention plan with respect to any participant, i.e., that portion of the plan which provides benefits payable to the participant not in excess of twice the applicable dollar limit determined under code §457(e)(15). Also, under the bill, a plan would not be treated under the code as providing for the deferral of compensation for any year with respect to that portion of the plan. The bill would define an applicable employment retention plan as an employment retention plan maintained by (1) a local educational agency, or (2) an education association which principally represents employees of one or more such agencies and which is described in code §501(c)(5) or (6) and exempt from taxation under code §501(a). The bill would define an employment retention plan as a plan to pay, upon termination of employment, compensation to an employee of a local educational agency or education association for purposes of retaining the employee's services or rewarding such an employee for the employee's service with one or more such agencies or associations.

Under the bill, applicable voluntary early retirement incentive plans and applicable employment retention plans described above would be treated under ERISA as welfare plans (and not pension plans) with respect to such payments and supplements.¹⁷

No Reduction in Unemployment Compensation as a Result of Pension Rollovers.

The bill would prohibit states from reducing unemployment compensation for any pension, retirement or retired pay, annuity or similar payment that was rolled over and, thus, is not includible in gross income.¹⁸

Revocation of Election Relating to Treatment as Multiemployer Plan.

The bill would allow a plan to revoke its election relating to treatment as a multiemployer plan within one year after the enactment of the bill. More specifically, the bill would allow a plan to revoke an election to not be treated as a multiemployer plan pursuant to procedures prescribed by the Pension Benefit Guaranty Corporation if, for each of the three plan years before the date of the enactment, the plan would have been a multiemployer plan but for the election. The bill also would allow a plan that meets the statutory multiemployer plan criteria (or a plan that was established in Chicago, Illinois, on Aug. 12, 1881, and sponsored by an organization described in code §501(c)(5) and exempt from tax under code §501(a)) to elect, pursuant to procedures prescribed by the PBGC, to be a multiemployer plan, if (1) for each of the three plan years immediately before the date of enactment of the bill, the plan met those criteria or is so described; (2) substantially all of the plan's employer contributions for each of those plan years were made or required to be made by organizations that were exempt from tax under code §501; and (3) the plan was established before Sept. 2, 1974.¹⁹

Provisions Relating to Plan Amendments.

Under the bill, with respect to any amendment to any pension plan or annuity contract which is made (1) pursuant to any provision under the bill or any regulation issued by the Secretaries of the Treasury or Labor under the bill, and (2) on or before the last day of the first plan year beginning on or after Jan. 1, 2009 (Jan. 1, 2011, for governmental plans as defined in code §414(d)), such pension plan or contract would be treated as being operated in accordance with the terms of the plan during the period described below, and except as provided by the Secretary of the Treasury, the plan would not fail to meet the requirements of code §411(d)(6) and ERISA §204(g) by reason of such amendment.

The bill would provide that this section would not apply to any amendment unless: (1) during the period (a) beginning on the date the legislative or regulatory amendment takes effect (or in the case of a plan or contract amendment not required by such legislative or regulatory amendment, the effective date specified by the plan), and (b) ending on or before the last day of the first plan year beginning on or after Jan. 1, 2009 (Jan. 1, 2011, for governmental plans as defined in code §414(d)) (or, if earlier, the date the plan or contract amendment is adopted), the plan or contract is operated as if the plan or contract amendment were in effect; and (2) the plan or contract amendment applies retroactively for such period.²⁰

By BNA Tax Management Staff

¹ Bill §901; ERISA §204;I.R.C. §401. Generally effective for plan years beginning after Dec. 31, 2006. For plans under collective bargaining agreements ratified on or before the date of enactment, the effective date would be the earlier of: (1) the later of (a) Dec. 31, 2007, or (b) the date on which the last collective bargaining agreement terminates (determined without regard to any extension thereof after the date of enactment); or (2) Dec. 31, 2008. A special effective date rule would apply for certain employer securities held in an employee stock ownership plan (ESOP).

² Bill §902; ERISA §514;I.R.C. §§401, 414, 416, 4979. Effective for plan years beginning after Dec. 31, 2007, except that the ERISA preemption provisions would take effect on the date of enactment.

³ Bill §903; ERISA §210;I.R.C. §414. Effective for plan years beginning after Dec. 31, 2009.

⁴ Bill §904; ERISA §203;I.R.C. §411. Generally, effective for plan years beginning after 2006, and not applicable to any employee before the date that the employee has one hour of service under such plan in any plan year to which the amendments apply. For plans under collective bargaining agreements ratified on or before the date of enactment, the amendments would not apply to contributions on behalf of employees covered by any such agreement for plan years beginning before the earlier of: (1) the later of (a) the date on which the last of such collective bargaining agreements terminates (determined without regard to any extension thereof on or after the date of the enactment), or (b) Jan. 1, 2007; or (2) Jan. 1, 2009. For an employee stock ownership plan which had outstanding on Sept. 26, 2005, a loan incurred for the purpose of acquiring qualifying employer securities, the amendments would not apply to any plan year beginning before the earlier of: (1) the date on which the loan is fully repaid; or (2) the date on which the loan was, as of Sept. 26, 2005, scheduled to be fully repaid.

⁵ Bill §905; ERISA §3(2);I.R.C. §401. Effective for distributions in plan years beginning after Dec. 31, 2006.

⁶ Bill §906; ERISA §§3(32) and 402;I.R.C. §§414, 415. Effective for years beginning on or after the date of enactment.

⁷ Bill §1001.

⁸ Bill §1002; Railroad Retirement Act §2 (45 U.S.C. §231(a)). Effective one year after the date of enactment.

⁹ Bill §1003; Railroad Retirement Act §5 (45 U.S.C. §231(d)). Effective one year after the date of enactment.

¹⁰ Bill §1004; ERISA §205;I.R.C. §417. Generally effective for plan years beginning after Dec. 31, 2007. For collectively-bargained plans, the amendments would not apply to plan years beginning before the earlier of: (1) the later of (a) Jan. 1, 2008, or (b) the date on which the last collective bargaining agreement related to the plan terminates (determined without regard to any extension thereof after the date of enactment); or (2) Jan. 1, 2009.

¹¹ Bill §1101. No specific effective date is given.

¹² Bill §1102; ERISA §205;I.R.C. §417. Generally effective for plan years beginning after Dec. 31, 2006. The bill also would direct the Secretary of the Treasury to substitute “180 days” for “90 days” each place it appears in Regs. §§1.402(f)-1, 1.411(a)-11(c), and 1.417(e)-1(b) and under the regulations under Part 2 of Subtitle B of Title I of ERISA relating to ERISA §§203(e) and 205. The bill also would direct the Secretary of the Treasury to modify the regulations under code §411(a)(11) and ERISA §205 to provide that the description of a participant's right, if any, to defer receipt of a distribution will also describe the consequences of failing to defer such receipt, and these modifications would apply to years beginning after 2006. Further, under the bill, a plan would not be treated as failing to meet the requirements of code §411(a)(11) or ERISA §205 with respect to any description of these consequences made within 90 days after the Secretary of the Treasury issues the required modifications if the plan administrator makes a reasonable attempt to comply with such requirements.

¹³ Bill §1103. For owners and their spouses, effective for plan years beginning on or after Jan. 1, 2007. For plans with less than 25 participants, effective for plan years beginning after Dec. 31, 2006.

¹⁴ As defined in §9101 of the Elementary and Secondary Education Act of 65 (20 U.S.C. §7801).

¹⁵ I.R.C. §501(c)(5) includes labor, agricultural or horticultural organizations.I.R.C. §501(c)(6) includes business leagues, chambers of commerce, real estate boards, boards of trade, or professional football leagues not organized for profit and no part of the net earnings of which inures to the b enefit of any private shareholder or individual.

¹⁶ The last sentence ofI.R.C. §411(a)(9) provides: “[f]or purposes of this paragraph, the early retirement benefit under a plan shall be determined without regard to any benefits commencing before benefits payable under title II of the Social Security Act become payable which--(i) do not exceed such social security benefits, and (ii) terminate when such social security benefits commence.”

¹⁷ Bill §1104; ERISA §3(2);I.R.C. §457; ADEA § 4(29 U.S.C. §623). Generally effective on the date of enactment. The amendments to the code would apply to taxable years ending after the date of enactment. The ERISA amendment would apply to plan years ending after the date of enactment.

¹⁸ Bill §1105;I.R.C. §3304. Effective for weeks beginning on or after the date of enactment.

¹⁹ Bill §1106; ERISA §3(37);I.R.C. §414.

²⁰ Bill §1107.