Now that Treasury and Internal Revenue Service have released guidance for notices on diversification rights for plan participants, as directed by provisions enacted in the Pension Protection Act (Pub.L. No. 109-280), officials are turning their attention to regulatory interpretations for plan funding rules and the treatment of cash balance plans within the first quarter of calendar year 2007. Issuing related proposed guidance is “going to be a very high priority of ours,” one official told BNA.

Treasury and IRS are scrambling to wrap up final versions of pending proposed rules and to release time-sensitive new guidance needed by employers and practitioners after a double hit from enactment of both the PPA and the Health, Opportunity Patient Empowerment Act (HOPE), which was an outcrop of the Tax Relief and Health Care Act. IRS is also attempting to meet the twin goals of ramping up its plan audit presence while improving and modernizing its internal plan compliance processes.

A “steady stream” of employee benefit guidance is expected to spring forth over the course of calendar year 2007, IRS Employee Plans Director Joseph H. Grant told BNA in a Dec. 21 interview. He said that issuing guidance related to the PPA presents an enormous challenge and has prompted meetings with benefits groups to help officials map their lists by priority.

A “really high priority” for the Employee Plans Division, Grant said, will be guidance on the PPA's funding rules. Among its 2006 Cumulative List of Changes in Plan Qualification Requirements (Notice 2007-3) (239 PBD, 12/15/06; 33 BPR 2905, 12/19/06), IRS listed upcoming guidance projects--many on the treatment of distributions, such as:

• Section 401(k) relating to hardship distributions that treat a participant's beneficiary under a plan the same as a spouse or dependent, PPA Section 826;

• additions to Section 402(c)(11) that allows nonspouse beneficiaries to roll over distributions from a qualified plan to an individual retirement account, PPA Section 829(a)(1) ;

• rules under Section 411 relating to defined benefit cash balance plans and other hybrids of defined benefit plans, PPA Section 701;

• amendments to Section 411(a) that allows faster vesting of employer nonelective contributions, PPA Section 904;

• final rules on amendments to Section 415(b)(2)(E)(ii) regarding the interest rate assumption for applying benefit limitations to lump-sum distributions, PPA Section 303;

• provisions that removed from Section 415(b)(11) the 100 percent compensation limitation for church plan participants, who have never been highly compensated employees, PPA Section 867(a); and

• notice requirements under Sections 402(f), 411(a)(11), or 417, PPA Section 1102(a).

Asked about the upcoming guidance--set to be released in a question and answer format--and plan diversification requirements, Grant would only predict that they would be released “soon.”

But as the guidance writing is taking place, Grant is simultaneously pushing to improve the quality and internal efficiency of the services IRS already provides--an effort he called “hugely important.”

Grant explained his motivation this way: “I can't think of anything that requires greater trust for people, who have been saving for retirement throughout their lives, than having the confidence that the [retirement] funds are being appropriately handled,” he said.

Practitioners can expect to continue to be asked throughout the year to weigh in, as barometers of the community, on various benefits projects before they are made permanent. For example, in October, Grant participated in a panel discussion, led by Martha L. Hutzelman of the McLean, Va., office of the firm Kruchko and Fries, on the status of a proposal to streamline IRS's Employee Plans Team Audit program using electronic employee plan records (204 PBD, 10/24/06; 33 BPR 2574, 10/31/06).

If adopted, the proposed program would create a matrix for auditing plan electronic records and systems, which officials think has the potential to serve the dual purpose of being a standardized “playbook” for IRS auditors, while informing plan sponsors on what to expect during an exam. But it is just as likely to face resistance, especially from human resource and software vendors that would need to modify their software to make it work.

Cash Balance Plans.

Officials also are expected to focus much of their post-PPA attention on issuing proposed regulations related to defined benefit cash balance plans. Recent guidance related to defined benefit plans that have been converted into defined benefit cash balance plans is expected to greatly help IRS officials reduce the caseload of submissions that have languished in “cash balance plan jail” since 1999 (244 PBD, 12/22/06; 34 BPR 5, 1/2/07) .

The remaining affected plans will likely be taken care of through the regulations process, a Treasury official told BNA through Jennifer Zuccarelli, a Treasury Department spokeswoman, told BNA on Jan. 2. The official added that Treasury would likely receive lots of comments on a new proposal set to be issued this year--and which is expected to be finalized by the end of the calendar year. Whether the proposal is finalized in 2007, however, will depend greatly on when the proposed rules are actually released, the official said.

Health Savings Accounts.

Employers can expect guidance on a fresh set of provisions enacted in the HOPE Act, the Treasury official said that there were “a lot of people asking a lot of questions that we need to answer.”

The biggest challenge officials are working through is the feasibility of transferring flexible spending account funds into health savings accounts. Officials believe they have an idea of what Congress intended, but logistically the mechanics are proving to be awkward, the Treasury official said.

One issue, for example, is the inability of workers to have an HSA if they are already in an FSA. The question that naturally follows, is “So how can you transfer your FSA money into your HSA?” Nevertheless, mechanics like those must somehow be worked out, the Treasury official said, because the transfers were the biggest aspect of the statute that Treasury expects to deal with in 2007.

Issues such as the treatment of FSA/HSA transfers are added to projects that were already in progress, such as an upcoming question and answer-style guidance project that has been dubbed the HSA “grab bag” of scattershot advice, which was already pretty far along when the tax extenders and HOPE bills were passed. That guidance project will be resumed once officials address more immediate transition issues related to several changes to existing rules made necessary by provisions in the new laws.

Executive Compensation.

Issuing final regulations under tax code Section 409A remains a “very, very high priority,” which the Treasury official predicted would occur probably within the first quarter of the calendar year. Officials are trying to release it as quickly as they can, the official said.

The Treasury official advised sponsors to watch for long-awaited final regulations under Sections 415, 403(b) and for Roth 401(k) plans. A notice (but not final rules) on wide-ranging guidance for the distribution rules enacted in the PPA, will likely come in the very near term, the official said.

Meanwhile, officials are working on automatic enrollment guidance in anticipation of a PPA provision with a 2008 effective date, the Treasury official said.

Phased Retirement.

Treasury and IRS have issued a notice of intent to propose new regulations related to phased retirement programs, and specifically will issue guidance on the early retirement age 62 distribution issue, the Treasury official said.

A broad set of previously proposed phased retirement regulations (217 PBD, 11/10/04; 31 BPR 2538, 11/16/04) were largely mooted by the PPA, the official said, but the issue of early normal retirement age is one segment of those prior proposed rules that officials expect to finalize.

Advisory Opinions, Determination Letters.

Officials are continuing to work on the determination letter program to make sure the staggered amendment process goes as planned, which is an outcome that has been quite important to IRS. Cycle A opened Feb. 1, 2006, for individually designed plans and will close Jan. 31, 2007. There has not been as many people are coming in as officials would have liked, which creates what Grant described as a “mini backlog” as the final deadline approaches. IRS continues to encourage sponsors to come in early to avoid longer processing times caused by the sudden surge in the volume of submissions later.

Amending for PPA.

Grant seemed concerned that even under the relatively new staggered amendment cycle process, plan sponsors are still waiting nearly until the end of their cycle's submissions deadline. For Cycle A individually designed plans, that deadline is Jan. 31, 2007.

Grant was asked whether he thought the rate of submissions was affected by sponsor delays caused by uncertainty over whether the PPA would pass. It should not have been affecting the decisions to come in, Grant said.

“I don't want to be a Pollyanna about it,” he said, but of the kinds of things that officials are watching for as they examine Cycle A applications was out a year ago. “In my mind that shouldn't be affecting people's decisions to come in,” he said. Although he added, “I understand that it probably did.”

As the Cycle A deadline looms forward and Cycle B is set to begin on Feb. 1, Grant said that he will continue communications aimed at encouraging the benefits community to look at the cumulative list and required interim amendments that were issued. “You'll know what those are about this time of year and then you have a whole year to come in,” he said. There is no particular reason for people to wait until right at the end, he insisted.

Prior to the opening of the staggered determination letter process, Grant said, newly enacted legislation at that time created big spikes from sponsors waiting to submit their plans and then everyone would submit their plans all at the same time. “That caused us to pull people off of exams to try to deal with the backlog. That causes audit coverage rates to go down lower than is healthy for the program and for everyone involved,” and still people were waiting a long time to get their determination letters done, he said.

Partly for those reasons, the previous plan amendment process was viewed as administratively inefficient. Programmatically, it was deemed not all that useful from the standpoint of encouraging compliance and processing delays inadvertently created uncertainty on the timing of the process for plan sponsors and pension professionals who were working in it.

The idea under the staggered system was to give sponsors determination letters on a more predictable schedule. Officials are making good progress on continuing to stay on schedule with pre-approved plans that came in fiscal year 2006. Those determination letters are scheduled to be sent out in 2008 and they are still on schedule, he said.

Compliance Programs.

A two-fold process is in place that officials hope will help with the continued reduction of IRS EP's backlogged compliance inventory and reducing the time it takes to reach resolution for plans that come in under either the Employee Plans Compliance Resolution System or the Voluntary Correction Program, according to Grant.

First, attempts are being made to further streamline the administrative process for plans brought into the EPCRS, which is viewed as a continually evolving program.

Second, Joyce Kahn, IRS manager of voluntary compliance programs, and Martin L. Pippins, IRS manager of technical guidance and quality assurance, have been tasked with releasing a revenue procedure that--while not expected to be as comprehensive as the previous guidance for the EPCRS (88 PBD, 5/8/06; 33 BPR 1141, 5/9/06) and is expected to have a lower-keyed focus on abusive tax avoidance transactions. It is expected to include add-on amendments aimed at further making the existing system more user-friendly, both internally and externally.

The revenue procedure could come out as early as in the Spring, Grant said, but advised that Kahn and Pippins were driving the timeline for release.

In addition, officials from the determination letter program and EP technical are continuing to lend their support with helping to close out the VCP caseload. So, if all goes as planned, the overall level of the end-of-the-fiscal-year caseload, in September 2007, should be several hundred cases less than it was at the end of FY 2006. The goal is to have an inventory level that will be reduced from the current amount, which roughly equals what is normally processed within a year, down to a six-month caseload level by September 2007.

Grant said that officials have been making steady progress on reducing the inventory since the start of the first quarter of fiscal year 2007 and that he anticipates that pace will continue. What that should ultimately mean for the public at large, he said, is a reduction in the time between when applications come in and when officials are ready to make decisions.

In the past, Grant said, sponsors have submitted plan applications relying on the theory that they probably would not be contacted by officials who were ready to work on the case for several months. But now those cases are being assigned much more quickly, so subsequently, Grant is advising sponsors to “be ready to move” now when they submit an application. “Because we will be getting back in touch with you ever more quickly,” he said

Examinations.

Grant said that there is a real commitment within IRS toward increasing the compliance presence, “So that the public can be confident that we are, in fact, trying to protect their interests.”

That is the reason, he said, it is so important that IRS EP's staggered determination process work and that its internal efficiency be increased.

“We are doing a fair amount of work here in establishing information technology systems, so that our agents and tax law specialists have the tools to move as quickly and sufficiently as possible. We will continue to push for that,” Grant said.

So, officials seeking to curb abusive tax avoidance transactions (ATAT) are bringing to resolution cases in their global strategic initiative (GSI), which evaluates plans that have the potential for abuse. By end of the calendar year the EP examiners will have resolved nearly all of their portion of the cases that were conducted with officials from the IRS Small Business & Self Employed Division. The follow up from EP will soon take the form of officials contacting employers that did not voluntarily come into the GSI program, by opening several hundred additional ATAT cases throughout the year.

Moreover, officials are already tracking trends they hope will lead to uncovering “the next big scheme or case.” Officials have begun to identify new areas they think might merit a similar approach to that taken with the previous GSI cases. “I'm just not ready to announce and discuss what those are yet. But I expect to do that as the year goes by,” Grant said. Exam officials are conducting due diligence on the potential new cases “before we get out there,” he said, so the timeframe is not certain at this point.

Soft Contacts.

IRS's Employee Plans Compliance Unit will be rolling out new “soft contact” mass mailings to plan sponsors in 2007 and is in the process of resolving or following up on correspondence files that were sent out in 2006, according Grant. “So yes, you'll see increased activity within the EPCU this [fiscal] year,” he said.

In particular, Grant reported that in FY 2006, IRS sent out up to 190,000 to 200,000 reminders on required amendments that were needed by the end of 2006 for SIMPLE individual retirement accounts, due to effective dates for provisions in the Economic Growth and Tax Relief Reconciliation Act. Once that deadline is passed, unamended plans must come into the VCP or risk audit.

The importance of the soft contact approach, Grant said, is that it provides an opportunity for people to “do the right thing and we know that many do.” That is a good thing, but, he added, “We also want to follow up on them in case they haven't.”

By Sheila R. Cherry