Rania V. Sedhom, JD
Rania V. Sedhom, JD, principal, Buck Consultants, an ACS Company, One Pennsylvania Plaza, New York City 10119. Ms. Sedhom specializes in ERISA, employee benefits, and workplace policies.
A profit-sharing, 401(k), defined-benefit, or other qualified retirement plan becomes an “orphan” plan when it no longer has a plan sponsor.
This can occur, for example, because the sole proprietor, who is a sole sponsor, dies… the company goes bankrupt… the fiduciary (person or entity who administers the plan) is removed from the plan by the Department of Labor (DOL) under rules established by federal law… or there is a corporate merger.
This event leaves custodians, such as banks, mutual funds, and insurers, holding assets over which they have no authority. The loss of a sponsor terminates the custodian’s ability to manage the plan or take any action, including making assets available to participants.
Here is what business owners and plan participants can do in the event of a plan becoming orphaned — and even better, how to keep your plan from becoming orphaned in the first place…
According to the IRS and the DOL, an orphaned retirement plan is one in which the sponsor no longer exists, cannot be located, is unable to maintain the plan, or has abandoned the plan, and for which more than 12 months have elapsed since any contributions or distributions have been made.
Unless appropriate action is taken, the plan can lose its “qualified” status. If this happens, assets eventually distributed to participants and beneficiaries would be ineligible for tax-favored treatment (e.g., being rolled over to another qualified plan or IRA). Fixes for an orphan plan…
Get someone to take charge. In order for the plan to remain tax qualified, there needs to be an “eligible party.” Any plan participant should notify the DOL in writing that there is no longer a sponsor. The DOL will then choose someone to act as the plan sponsor. The DOL may try to find an independent fiduciary to manage the plan, or there may be a surviving spouse of the sole owner who can become the sponsor. Clearly, the faster someone takes charge, the better it is for the plan participants.
Bring the plan into compliance. If the plan is not in compliance (e.g., changes need to be made to plan documents to bring them up to date with existing laws), the eligible party must bring it into compliance before taking further action. Depending on the nature and timing of needed changes, compliance is accomplished by applying to the IRS for relief under the Voluntary Correction Program (VCP) or the Audit Closing Agreement Program (Audit CAP), whichever is appropriate. These IRS programs, under the umbrella Employee Plans Compliance Resolution System (EPCRS), give step-by-step guidelines for fixing retirement plan problems.
If, for example, the business is going to close, and the employees have already left, there may be no reason to keep the plan going. The eligible party must then follow government-outlined steps to terminate the plan. These include…
Notifying the DOL’s Employee Benefit Security Administration (EBSA) of an intention to terminate the plan.
Calculating the benefits payable to participants and beneficiaries and notifying them of the termination and their rights and options (e.g., receiving benefits as cash… rolling them into an IRA or other retirement account). A model notice form can be found at the EBSA Web site (www.dol.gov/ebsa) under “Abandoned Plan Program.”
Distributing benefits. If participants can’t be found, benefits can be distributed into IRAs for their benefit or, if less than $1,000 per unfound participant, to a state unclaimed property fund.
Filing a summary terminal report with EBSA. This alerts the DOL that all of the above steps have been completed.
Note: The eligible party does not have to file an annual information return, Form 5500, for the year of termination.
For orphan plans, the IRS has discretion to determine what particular correction is necessary when terminating an orphan plan.
For more guidance on EPCRS, visit the “Abandoned Plan Program” on the EBSA Web site.
Understanding how an orphan plan occurs might help you avoid leaving a plan and its participants adrift.
Problem: A sole owner beneficiary dies, and there’s no surviving spouse to act as an eligible party.
Solution: To avoid this problem, sole owners should name successors in the plan documents, such as the company manager or accountant, to handle the plan. If the business is going to be closing, a successor’s responsibilities can be confined to winding up the business and terminating the plan. If the business will continue to operate, the successor can have full responsibility to administer the plan.
Problem: The business is filing for reorganization under bankruptcy.
Solution: Terminate the plan and distribute the assets to plan participants before filing for bankruptcy, generally in order to distribute the greatest amount possible to plan participants.
Problem: The business is sold or merges or a division is spun off.
Solution: Have the new employer assume sponsorship of the plan. Alternative: Terminate the plan before completing the sale, merger, or spinoff.
Plan participants must be proactive with their 401(k) accounts. One way to protect your account is to be aware of the sponsoring company’s financial condition — be watchful about layoffs and significant cutbacks.
If you suspect that the company is hemorrhaging money, and you’re leaving, do not hesitate to ask questions about your retirement account — such as how much of any matching contributions you might be able to roll over to your IRA.
If management is unable or unwilling to answer your questions, contact the DOL to advise the government that you are under a reasonable belief that the company will be shutting its doors and that you would like to ensure that you can access your retirement money.
When you change jobs and opt to leave your 401(k) account with your former employer, keep track of the account. If you effectively abandon your own account, it will make it harder for you to locate the necessary people when it comes time to start taking distributions. Better way: When leaving a company, roll your 401(k) account to a new employer’s retirement plan or to an IRA.
