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Covid, 401K’s and Cash Flow

Reducing or Suspending 401(k) Safe Harbor Contributions Mid-Year under Notice 2020-52 and some options you might explore on a NQDC basis for potential refunds from the plan.

July 30, 2020

A client recently called and asked the following questions:  “Under what circumstances, if any, can the business that has a standard 401(k) safe harbor plan, reduce or eliminate the company’s mandatory safe harbor contribution during the plan year? Is there any relief granted because of the impact of Covid-19?”   

The following outlines the circumstances under which sponsors of 401(k) [and 403(b)] safe harbor plans may reduce or eliminate employer safe harbor contributions mid-year under normal circumstances, and under the special circumstances outlined in IRS Notice 2020-52 granted as a result of the Covid-19 pandemic.

Under normal circumstances, and according to final Treasury Regulations, a sponsor of a 401(k) safe harbor plan may amend the plan during the current year to reduce or suspend the company’s safe harbor contribution—either the matching or nonelective contribution—under the following limited circumstances.

A removal or reduction of a safe harbor contribution mid-year is permitted if the employer either

  1. Is operating under an economic loss for the year (See Internal Revenue Code Section (IRC 412(c)(2)(A);[1]

or

  1. Included a statement in the safe harbor notice given to participants before the start of the plan year that the employer
  • May reduce or suspend contributions mid-year;
  • Will give participants a supplemental notice (described below) regarding the reduction or suspension; and
  • Will not reduce or suspend employer contributions until at least 30 days after receipt of the supplemental notice.

COVID-19 Relief Any Plan Amended Between March 13, 2020, and August 31, 2020

Any sponsor of a safe harbor plan may amend its plan between March 13, 2020, and August 31, 2020, to reduce or suspend safe harbor contributions (either match or nonelective) without condition. However, special rules related to the supplemental notice apply as explained next.

Supplemental Notice

Typically, if a reduction or suspension of safe harbor contributions will occur, a 30-day advance notice rule applies. This supplemental notice must explain 1) the consequences of the suspension or reduction of contributions; 2) how participants may change their deferral elections as a result; and 3) when the amendment takes effect.

COVID-19 Relief for Supplement Notice for Nonelective Contributions

Sponsors who reduce or suspend 401(k) safe harbor nonelective contributions will satisfy the 30-day supplemental notice requirement, provided the sponsor

  • Gives the notice to employees no later than August 31, 2020, and
  • Adopts the required plan amendment no later than the effective date of the reduction or suspension of safe harbor nonelective contributions.

There is no relief on the timing of the supplemental notice under Notice 2020-52 for sponsors who reduce or suspend safe harbor matching contributions. Sponsors must give 30 days notice via a supplemental notice to participants before the reductions can take place.

Other Procedural Requirements

Typically, an employer that suspends or reduces safe harbor contributions must also

  1. Give participants a reasonable opportunity after they receive the supplemental notice and before the reduction or suspension of employer contributions to change their contribution elections;
  2. Amend the plan to apply the actual deferral percentage (ADP) and/or actual contribution percentage (ACP) Tests for the entire plan year; and
  3. Allocate to the plan any contributions that were promised before the amendment took effect.

Additional Notice 2020-52 Relief: Mid-Year Safe Harbor Contribution Reductions for Highly Compensated Employees

Pursuant to Notice 2020-52, a plan sponsor may choose to reduce or suspend 401(k) safe harbor contributions for highly compensated employees (HCEs) alone. In such cases, the plan sponsor must provide an

  • Updated safe harbor notice and
  • Opportunity for participants to update their elections, determined as of the date of issuance of the updated safe harbor notice.

Conclusion

In the past, the ability of sponsors to amend their 401(k) [or 403(b)] safe harbor plans to reduce or suspend employer matching or nonelective safe harbor contributions mid-year was limited. The IRS expanded those opportunities under IRS Notice 2020-52 in order to provide relief in light of the Covid-19 pandemic.

As part of this change however, you might wish to consider a 409A (discretionary) deferred compensation plan for participants who might be subject to any “refunds” from the plan not meeting the “Top Hat” percentages at the end of the year. If the participants are given the ability to amend their qualified plan contributions as part of the employer reduction, they can redirect those funds that the participants wanted for retirement back into their account and avoid current taxation.

The “perfect” plan

Ever wanted the “perfect” plan where the company gets a current deduction when the money is paid into the plan, the cash grows tax deferred, and then the participant get the money “tax free”? Well look no further. There is a plan like that available. You just have to be willing to discriminate.

It’s called a Restricted Executive Bonus plan and combines to different benefits in one. It has to be done carefully to meet IRS guidelines, but is 100% legal. Nice thing is, it’s not carrier or product specific, and has the flexibility as to what type of asset you want in the plan.

To learn more, give us a call or check out our Executive Bonus material. We’d be happy to design a sample for you so that you keep your best people.

Retain your Key People with “Ownership” Like Benefits

Have you had trouble and need to retain you key people? Did they want to feel like they had ownership but you don’t want to give up a minority interest in your company? Well, you can design a benefit for your “key” employees, that makes your best people feel like they are an owner so that they never want to leave, and you never give up control until the day that you decide to.

For more, check out our Phantom Stock articles

NQDC (409A) – Deferred Compensation – A Short Overview – You Tube

Watch this video and learn about the NQDC (409A) – Deferred Compensation Plans and how you can implement one easily

IRS Guidance Regarding the Section 4960 Excise Tax Is (Somewhat) Helpful

http://www.employeebenefitsupdate.com/benefits-law-update/2019/3/26/irs-guidance-regarding-the-section-4960-excise-tax-is-somewh.html

Tuesday, March 26, 2019 at 6:23PM

IRS Guidance Regarding the Section 4960 Excise Tax Is (Somewhat) Helpful

http://www.employeebenefitsupdate.com/benefits-law-update/author/eda

IRS Notice 2019-09 provides guidance intended to help “applicable tax-exempt employers” determine whether compensation paid to their most highly compensated employees will be subject to the 21 percent excise tax imposed under Code Section 4960.  Notice 2019-09 is indeed helpful to those of us who have to interpret the provisions of Code Section 4960.  But tax-exempt employers subject to Code Section 4960 have serious work to do in order to comply with these relatively new rules, and some tax-exempt employers will be disappointed in the results.  (In general, compensation paid by a Section 501(c)(3) organization will be subject to the requirements of Code Section 4960, so we will simply reference tax-exempt employers for these purposes.)

Excise Tax Under Code Section 4960

Enacted as part of the 2017 Tax Cuts and Jobs Act, Code Section 4960 imposes a 21 percent excise tax on: (1) compensation paid by a tax-exempt employer to a “covered employee” in excess of $1 million in any year; and (2) “excess parachute payments” paid by a tax-exempt employer to a covered employee.  A Section 4960 excess parachute payment is a payment made contingent upon a termination of employment, if the payment amount equals or exceeds the terminating employee’s average annual taxable compensation over the preceding five years.  The tax on an excess parachute payment is due on the portion of the payment that exceeds the covered employee’s average annual compensation (not just the portion in excess of $1 million).  

Covered Employees and Related Organizations

The identification of covered employees is a major topic addressed by Notice 2019-09.  In general, a covered employee is an individual who is one of the five highest paid employees of the exempt organization in any taxable year beginning after December 31, 2016.  There is no minimum compensation threshold that applies in determining covered employee status.  And, perhaps most important, once an individual is identified as a covered employee she will remain a covered employee – forever.  This means that a tax-exempt employer must identify its covered employees every year and keep track of them on an ongoing basis. 

A tax-exempt employer must identify its covered employees based not only on remuneration paid by that employer, but also taking into account remuneration for services performed by the individual as an employee of any “related organization” of the employer.  Under Notice 2019-09, a related organization is any entity that is under common control with a tax-exempt employer using a more-than-50 percent control test.  This approach may create headaches for many tax-exempt employers, who are used to the 80 percent control test that generally applies in determining the members of a controlled group of exempt organizations.  So a tax-exempt employer within an integrated health system, for example, must determine the extent to which remuneration must be imputed to an employee for services from a related organization that may only be 50 percent owned by the employer in determining covered employee status.  Moreover, an individual can be deemed to be an employee of more than one tax-exempt employer.  Therefore, it is possible that a single employee could be a covered employee with respect to more than one tax-exempt employer within a system.  Finally, given the “forever” status of covered employees, the recordkeeping headaches will multiply when, for example, two health systems merge.

Compensation Is Considered Paid When Vested and on a Calendar Year Basis

Code Section 4960 states that compensation will count toward the $1,000,000 threshold when it ceases to be subject to a substantial risk of forfeiture (i.e., when it vests), rather than when it is paid.  But Notice 2019-09 includes a helpful grandfathering rule.  Specifically, amounts that were earned and vested prior to the employer’s taxable year beginning in 2018 do not count toward the threshold.

Notice 2019-09 also clarifies that the excise tax is determined on a calendar year basis, not based on the taxable year of the employer.  This should reduce the administrative burden that might otherwise arise if employers were required to allocate compensation paid during a single calendar year to multiple fiscal years. 

Severance Pay Below $1 million Can Be Subject to the Excise Tax

Excess parachute payments paid to a covered employee can be subject to the 21 percent excise tax even if those payments amount to less than $1 million.  While conceptually similar to the “golden parachute” concept under Code Section 280G, which applies where a payment is made in connection with a change in control of a for-profit company, Notice 2019-09 takes an expansive view as to what is an excess parachute payment under Section 4960.  Subject to only a few exceptions, most types of compensation triggered by an involuntary separation can potentially be considered a parachute payment.  For example, payments made contingent upon complying with a non-compete are included, as is the value of benefits where vesting is accelerated, even if no actual payment is made.  An involuntary separation from service for this purpose generally includes an employee’s termination of employment without cause, an employee’s failure to renew a contract, and a termination of employment by an employee for good reason.  There are also special provisions defining separation from service broadly to include certain changes to the service relationship, even if an employee is still employed by the tax-exempt employer.  The total payments in the nature of compensation that are contingent upon an involuntary separation from service will only be parachute payments if they are three or more times the employee’s base amount (which is the measure of taxable compensation applied under Code Section 280G).  Excess parachute payments equal the portion of the parachute payments that exceeds the base amount.

Multiple Employers Within a Tax-Exempt Controlled Group Can Each Be Subject to Tax 

Notice 2019-09 confirms that separate tax-exempt members of a controlled group can each be subject to the excise tax.  (Think of a health system made up of multiple hospitals and other institutional health care providers.)  This means that each tax-exempt employer must separately determine which of its employees are covered employees rather than determining the five highest paid employees across the entire integrated health system.  So a controlled group of tax-exempt employers could potentially have several employers with dozens of employees earning compensation that triggers the excise tax.  Consistent with this idea, the Notice includes rules for allocating the excise tax among a tax-exempt employer and related organizations.  A careful application of these rules will be particularly important in a health system with covered employees who provide services to, and receive compensation from, more than one related organization. 

The Good News?

The IRS expects to issue further guidance regarding the application of Code Section 4960.  In the meantime, tax-exempt employers may determine the applicability of the excise tax based on a “good faith, reasonable interpretation” of Code Section 4960, informed by Notice 2019-09.  Accordingly, tax-exempt employers who are subject to Code Section 4960 should adopt consistent and reasonable approaches to the application of the excise tax based on all of the facts and circumstances.  For tax-exempt employers that are part of a large group, we suggest a coordinated strategy starting at the parent entity and working down from there.

Author

Eric D. Altholz | 

Matthew E. Schiff, CLU, ChFC Named to American College Alumni Board of Directors

Also from this source

You just read:

The American College of Financial Services Announces New Leadership for Alumni Board of Advisors

Jayne Schiff Inducted into American College Hall of Fame.

Congratulations to our very own Jayne N. Schiff, MSFS, CLU, ChFC, CAP, REBC, MPS for being inducted into the American College of Financial Services Alumni Hall of Fame.  Clink on the link below for the official press release.

https://www.prnewswire.com/news-releases/jayne-schiff-inducted-into-the-american-college-of-financial-services-alumni-hall-of-fame-300559015.html

The Future of Life Insurance

Micki Hoesly, CLU, ChFC,
entered the financial services business 34 years ago with Mutual of New York, which is now part of AXA Advisors. In 1983, Micki began her own company, Capital Resources, specializing in pensions. Micki is also principal of Resource 1, a registered investment advisory firm. She is a 32-year Qualifying and Life member of the Million Dollar Round Table (MDRT) with three Court of the Table and eight Top of the Table qualifications. She also currently serves as the association’s second vice president. (Investment advice through Resource 1 Inc. Securities offered through Ceros Financial Services Inc. — not affiliated with Resource 1 Inc. Member FINRA/SIPC.)

Stephen O. Rothschild, CLU, ChFC, CRC, RFC,
is president and owner of M21 Consulting in Scottsdale, Ariz. His organization works exclusively through and with the high-net-worth and business clients of independent registered investment advisors, independent broker dealers and a few other financial professionals. M21 Consulting does not solicit clients directly. Stephen also has a long history of industry leadership. He is a Life and Qualifying Member of the MDRT and holds numerous Top of the Table and Court of the Table qualifications. He served as MDRT president in 2006-2007. Stephen also has served on the board of directors with both the International Forum and the AALU.

Matthew E. Schiff, CLU,
is the president of Schiff Benefits Group, specializing in the design, implementation, financing and ongoing administrative support of supplemental executive benefits programs. With more than 20 years of experience in the financial services industry, he is recognized as a leader in the deferred compensation field. Matthew is a Lifetime Member of the MDRT, with nine consecutive Top of the Table distinctions.

 

I’ve been a part of the life insurance business for the past 30 years, and like a lot of industry veterans, I’ve seen my share of change. A lot of the more experienced agents back in the early 1980s used to tell me — a newcomer at the time — that the business had shuffled along at a fairly slow pace until universal life burst on the scene. That single product brought an era of change and challenges, and although UL is now viewed as a traditional product, it seems like the business is still living in that era of rapid change.

At the risk of stating the obvious, though change is often difficult, it’s clearly not all bad. Whether change is good or bad for producers depends much upon how the producer integrates new developments into his or her business, and how willing he or she is to look beyond the immediate challenges toward a more successful future.

The best producers do just that, and for this month’s roundtable, we are asking some of the most talented, most forward-thinking and most articulate producers around to share their thoughts on the future of our business. No doubt we face some real challenges. But the future also provides some tremendous opportunity, and we’ve asked the following panel to share their thoughts on just what lies in store: Micki Hoesly, CLU, ChFC; Stephen O. Rothschild, CLU, ChFC, CRC, RFC; and Matthew E. Schiff, CLU.

Question 1

Charles K. Hirsch, CLU: There continues to be a tremendous focus in the life insurance business on the boomer market. That seems sensible when you consider the financial needs of the large number of people in that age group. But it also makes one wonder whether the business may be neglecting the needs of other demographic groups — like Generations X and Y. What are your thoughts on that?

Micki Hoesly, CLU, ChFC: There seem to be several logical reasons for the current focus on boomers. First, the boomers are now in the pre-retirement and early retirement years, which are critical times in their financial lives. Additionally, the average age of advisors has been getting much older, meaning that many of the advisors are also boomers.

It wouldn’t be surprising for their focus to be on people of their own demographic. There is also the wealth of the boomers’ parents’ generation, which is beginning to transfer, prompting an even greater need for financial advice.

But I don’t believe that Generations X and Y are being ignored. Every professional meeting I attend has information-packed sessions about how advisors can meet, communicate with and serve the X and Y generations. There are also sessions on how Gen X and Y advisors can meet, communicate with and serve other generations as well. I believe that advising Gen X and Y offers a great opportunity for advisors to build multigenerational practices so that the wealth built by each previous generation is preserved through their children and their grandchildren.

We can do that by either strategically making multigenerational planning with specialized products and services for each generation, or we can do that by apprenticing X and Y generation agents with our boomer agents to create multigenerational practices serving multigenerational families.

Stephen O. Rothschild, CLU, ChFC, CRC, RFC: Our industry has aged, and it is only natural to work with prospects close to your age. I worked with boomers before the name existed. Sadly, we do not have enough younger agents to work with their own age group, like Generations X and Y. Thus, it is not neglect but lack of younger entrants in our industry. As Generations X and Y age, they will get more attention paid to them as they will earn more and inherit more. They are also being addressed in some non-traditional ways. They are more likely to buy over the Internet, through worksite marketing, and through agents who have set seminar methodologies that address their market and needs.

Matthew E. Schiff, CLU: The insurance industry, as well as the professionals in it, has always looked at the demographics of a population and tried to focus its energy on the largest population. In this case, the baby boomers have been, and probably will be, the industry’s focus for the continued future because it’s the largest demographic. This does leave the under-45 market underserved, and I believe that the best way to help those in this market is by fostering the hiring of financial advisors under that age who can relate to their peers.

Question 2

Hirsch: Some companies and some producers are doing a lot of work in various ethnic markets. Is this a trend that makes sense to you, and do you see it continuing? Where do you believe we are headed in the area of serving the financial needs of specific ethnic groups?

Rothschild: Those addressing the various ethnic markets are simply following demographics. Population trends and birthrates show the ethnic markets are growing at a faster rate than the non-ethnic markets. The same logic applies to entrants into our business, as new insurance agents will often address their own ethnic market.

Schiff: This is not a new trend. New York Life prides itself in its ethnic marketing and has for many years. Their company, like many others, is focused on diverse markets. It’s just that, to be effective in those markets, just like any specialty, it takes time to establish a reputation and a presence in the specific market.

As for where we’re headed, the industry as a whole in the United States has to hire more diverse agents. Carriers that develop career agents understand that. But because of the drop in new agents over the years, it may be difficult to have a large impact in ethnic markets.

Hoesly: Many top-producing advisors have built practices that strategically focus on one market or one client demographic. Narrowing the focus allows the advisor to completely understand the needs of that market and become a recognized expert. With the United States becoming increasingly diverse, it makes sense to serve the needs of a defined demographic and provide specialized services that are specific to that market. This could be based on ethnicity, on age, on the type of business or those who need a certain type of service.

Question 3

Hirsch: When you look around at the competition these days, it seems there are more sales coming from or through non-traditional sources — like banks, the Internet, etc. Is this type of competition something that producers should fear? Or are there good ways to partner with these non-traditional sources to benefit everyone? And looking even further ahead, what type of competition do you believe has the potential to negatively impact the producer’s business to a significant degree?

Schiff: No. “Insurance is a product that is sold, not bought” is a well-known anonymous quote that describes our product. If agents get concerned that the commodity portion of our products are being sold through different channels, then we as agents have brought no value to our clients.

To partner with the non-traditional channels, you need to be a specialist at what you do, like a doctor (OB/GYN, orthopedist, family doctor, etc.). This brings value to them where they don’t normally have the expertise. But in my 21 years in the insurance industry, the only thing that can negatively impact the potential sales of life insurance is not competition, but rather legislation.

Hoesly: There is more need for life insurance and financial advice than our current advisors have been able to reach. Offering good products and services and reaching more people and encouraging them to take hold of their financial lives makes us all better. I don’t believe that producers should fear alternative distribution as long as it is reputable and builds on the good character and values of putting clients’ needs first.

The risk I see is competition that is deceptive, products that are financially unsupportable, or companies that put the guarantees of the industry in question. I think the greater risk today is the onerous disclosures and restrictions on advice that make it difficult for clients to understand their options and sift through the complex array of products and strategies. It seems backwards to me that the more licenses one holds, the more the advisor is restricted in how he or she can communicate and advise clients. Often, procedures appear to be primarily driven by the need to defend and not by the need to inform.

If we lose sight of our primary purpose — helping the client do what is in his or her best interest — then our service loses its value.

So where do I see future competition? I see it coming from the bold firms that believe clients need advice and that are not fearful of having that advice subject to fiduciary standards. I see it coming from advisors who understand that clients are overwhelmed with too much information and that a valuable service we provide is helping them find which information is significant and meaningful to them.

Rothschild: Producers who have not grown or changed should have great fear. Competition is coming from banks, registered investment advisors, broker-dealers, casualty brokers, accountants and a few attorneys. Many life producers have entered some of the competitors’ arenas as well, particularly in the investment arena. The key is your ability to differentiate yourself.

Frankly, most life producers are being commoditized, just like the insurance carriers. If you hold up two ledger statements from two different carriers, they look the same. Unfortunately, the prospect will determine value by looking at the premium and as we all know…

This analogy applies to the producer as well. Being a trusted advisor is no big deal. Rather, it is just table stakes. Is a prospect going to work with someone they don’t trust? Becoming the most-valued advisor is what is important. How is the advisor bringing value to the prospect? Are you leaving it up to the prospect to determine the parameters of value? Or are you helping them determine these parameters?

At our firm, M21 Consulting in Scottsdale, Ariz., we work primarily with independent registered investment advisors and independent broker-dealers. We do not go after the retail market directly. We bring our expertise to those who want to deepen their client relationships and diversify and increase their revenue. Their high-net-worth clients are our target.

Other producers can partner in other ways, or others can partner with life producers. It depends on who is doing the marketing. I am never concerned about a negative impact on the producer’s business, as there are still way too many prospects who are never called on or do not have a life insurance advisor. Again, those who don’t make changes to their practice will find themselves out of the business.