Publications: Code Section 415 Technical Amendment Required

All tax-qualified retirement plans and Code Section 403(b) plans must be amended by the end of their 2008 plan year (i.e. by December 31, 2008 for calendar year plans) to comply with recently finalized IRS regulations under Section 415 of the Internal Revenue Code. Code Section 415 generally limits the annual amount that may be contributed or accrued under a plan on behalf of each participant, as follows:

401(k), 403(b) and Other Defined Contribution Plans

Contributions and forfeitures allocated on behalf of any participant for any year cannot exceed the lesser of (i) 100% of annual compensation (as defined in the Section 415 regulations), or (ii) $46,000 (as adjusted for inflation). The new regulations make several technical changes to these rules. The most important changes relate to the definition of “Section 415 compensation.” The new regulations clarify that a participant’s Section 415 compensation includes regular salary or wages, overtime, commissions, bonuses and similar payments paid within 2½ months after the participant terminates employment (or, if later, by the end of the plan year in which the termination occurred), as long as the compensation would have been paid to the participant if his employment had continued. The most common example of this would be a final paycheck received by a terminated participant after he leaves. In addition, employers are now permitted (but not required) to include post-termination payments for bonafide sick leave, vacation or other leave in Section 415 compensation, but only if such amounts are paid within the time period described above and would have been included in the plan’s definition of Section 415 compensation if paid prior to termination. Most other types of post-termination payments, including severance pay, are excluded from the definition of Section 415 compensation.

These minor changes to the definition of Section 415 compensation will have relatively little impact on the annual Section 415 compliance test. However, for plans that use Section 415 compensation to allocate contributions to participants, these changes may affect the amount allocated to participants who have terminated employment.

Defined Benefit Plans

For defined benefit plans, Code Section 415 limits the total annual benefit that may be paid to a participant to the lesser of (i) 100% of the participant’s average compensation for his “high-3” years of service, or (ii) $185,000 (as adjusted for inflation). A significant change under the new regulations is that a benefit accrual for any year must be reduced if it would produce an annual benefit in excess of the Section 415 limits. The new regulations also make numerous technical changes to the defined benefit plan rules, including the changes to the definition of Section 415 compensation described above. Several of the changes involve modifications to the interest rate and mortality assumptions used to measure actuarial equivalence under Section 415 for benefits paid in a non-annuity form of payment or commencing other than at normal retirement age.

Action Steps

1. If you have a “custom” plan document that we have prepared, we will contact you to discuss the required amendment to your plan.
2. If you have a prototype or other “pre-approved” plan, your plan vendor or recordkeeper may already have sent you a Section 415 compliance amendment for your plan. If so, you should send a copy to us for a brief review, to ensure that any elections made in the amendment are appropriate for your plan. If you have not received a Section 415 compliance amendment, you should contact your plan vendor or recordkeeper as soon as possible to find out when it will be provided. We recommend that you send a copy of the amendment to us for a brief review before you adopt it.
3. Plan sponsors should review the plan’s definition of Section 415 compensation with their recordkeeper to ensure that the employer is providing the appropriate compensation data to the recordkeeper for Section 415 testing purposes, and that the plan is complying operationally with the plan’s definition.
4. Section 415 amendments for defined benefit plans should also be reviewed by the plan’s actuary.

If you have any questions, please do not hesitate to contact any member of our employee benefits team.