State deferred compensation plan qualified under Section 457(b)

Plain-English summary

A state board adopted a deferred compensation plan for state and local government employees. The plan included automatic enrollment with an opt-out period, standard and catch-up deferral limits, required distributions, emergency withdrawals, rollovers, transfers, and a trust holding assets solely for participants and beneficiaries. It also offered separately accounted deemed traditional and Roth IRAs. The IRS issued six favorable rulings, including that the plan qualified under Section 457(b), the trust was exempt under Section 501(a), eligible rollovers were not currently taxable, and the automatic contribution arrangement did not violate the plan's deferral or distribution rules. It also confirmed that the deemed IRA feature was valid under Section 408(q), while declining to decide whether the plan was a governmental plan under Section 414(d).

Ruling snapshot

• Question: Did the plan satisfy Section 457(b), and were its trust, automatic enrollment, rollover, and deemed IRA features valid?
• Outcome: Approved, with six favorable rulings.
• Key authorities: IRC §§ 408(q), 414(w), and 457; Treas. Reg. §§ 1.401(a)(9), 1.408(q)-1, and 1.457.

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 201817004 Third Party Communication: None
Release Date: 4/27/2018 Date of Communication: Not Applicable
Index Number: 457.00-00, 408.12-00,
414.22-00 Person To Contact:
------------------------------, ID No. ------------
---------------------------------------- -----------------
--------------------------------- Telephone Number:
------------------------------- ----------------------
------------------------- Refer Reply To:
CC:TEGE:EB:QP4
PLR-121649-17
Date:
January 08, 2018

Legend:

Plan = ------------------------------------------------------------------------------------------
State A = --------------
Board B = -------------------------------------------------

Dear -------------:

This letter responds to your authorized representative’s letter dated July 11, 2017, and
subsequent correspondence dated November 20, 2017, requesting a ruling concerning
the Plan, which Board B intends to be an eligible deferred compensation plan under
section 457(b) of the Internal Revenue Code (Code), as amended under the Economic
Growth and Tax Relief Reconciliation Act (EGTRRA) of 2001 and subsequent
legislation, and the regulations thereunder.

The following facts and representations have been submitted under penalties of perjury
in support of your request:

The Plan is a nonqualified deferred compensation plan and related trust adopted by
Board B, for the benefit of the employees of State A or any of its political subdivisions.
It is represented that State A or any of its political subdivisions are eligible employers
within the meaning of section 457(e)(1)(A).

The Plan provides that an employer may elect to establish an eligible automatic
contribution arrangement (EACA), described in section 414(w)(3). Under this provision,
an employee is deemed to have elected to participate in the Plan and consents to the
deferral by the employer of a uniform percentage of compensation specified by Board B
for any payroll period for which a participation agreement is not in effect. A participant
may elect a different deferral amount per payroll period, including zero, by entering into
PLR-121649-17 2

a participation agreement. The opt-out period shall be no less than 30 days and no
more than 90 days.

An employee may also become a participant by executing a participation agreement
under procedures established by the State A Retirement System prior to the beginning
of the month in which the deferral is to become effective.

The Plan provides for a maximum amount that may be deferred by a participant in any
taxable year. It also provides for a catch-up contribution for amounts deferred for one or
more of the participant’s last three taxable years ending before he or she attains normal
retirement age under the Plan. In addition, the Plan provides for age fifty-plus catch-up
contributions described in section 457(e)(18). The amounts that may be deferred under
the annual maximum limitation and the catch-up provisions are within the limitations of
section 457(c).

With certain limitations, a participant or beneficiary may elect the manner in which his or
her deferred amounts will be distributed. The plan provides that the manner and time of
benefit payout must meet the distribution requirements of sections 401(a)(9) and 457(d).

Upon separation from service, a participant’s account will be paid in accordance with
the payment option elected by the participant. Benefits under the Plan will commence
no later than the later of: April 1 of the year following the calendar year in which the
participant attains age 70 ½; or April 1 of the year following the calendar year in which
the participant has a separation from service. The Plan provides that the manner and
time of benefit payout must meet the distribution requirements of section 401(a)(9).

Under the Plan, a participant (upon severance from employment) or beneficiary may
elect to have any portion of benefits deferred under the Plan that constitutes an eligible
rollover distribution described in section 402(c)(4) paid directly to another eligible
retirement plan described in section 402(c)(8)(B), such as an individual retirement
account (IRA), in a direct rollover, with nonspouse beneficiaries subject to certain
limitations set forth in section 402(c)(11).

The Plan provides for a distribution due to an unforeseeable emergency that is a severe
financial hardship resulting from extraordinary and unforeseeable circumstances
beyond the control of the participant under section 457(d)(2) and the regulations
thereunder.

The Plan provides for acceptance of transfers of a participant’s account balance from
another section 457(b) eligible deferred compensation plan. The Plan provides for
permissive plan to plan transfers or rollovers of all or a portion of a participant’s account
to another section 457(b) eligible deferred compensation plan if the participant has
terminated service and is a participant under the other eligible plan. The Plan provides
that amounts of compensation deferred under the Plan are to be promptly remitted to
PLR-121649-17 3

and invested in a trust as described in section 457(g) for the exclusive benefit of the
participants and their beneficiaries.

The plan provides for deemed traditional individual retirement accounts (IRAs) and
deemed Roth IRA accounts. The deemed IRA assets will be held, in trust, separately
from the general trust assets of the Plan. The deemed IRAs will be held in separate
subaccounts for each participant and any deemed IRA contributions, including earnings,
will be separately accounted for by the Plan.

Section 408(q) provides that if a qualified employer plan allows employees to make
voluntary employee contributions to a separate account or annuity under the plan, and
under the terms of such plan, the account or annuity meets the applicable requirements
of section 408 (relating to IRAs) or section 408A (relating to Roth IRAs), then such
separate account or annuity shall be treated the same as an IRA or Roth IRA and not as
a qualified employer plan. Section 408(q)(2) provides that eligible deferred
compensation plans are qualified employer plans. Section 1.408(q)-1(f)(2) provides that
deemed IRAs that are individual retirement accounts may be held in separate individual
trusts, a single trust separate from a trust maintained by the qualified employer plan, or
in a single trust that includes the qualified employer plan.

Section 414(w)(1) provides that if an EACA allows an employee to make permissible
withdrawals, the amount of any such withdrawal is includible in the gross income of the
employee for the taxable year of the employee in which the distribution is made, no tax
will be imposed under section 72(t) with respect to the distribution, and the arrangement
will not be treated as violating any restriction, under the Code, on distributions by
reason of allowing the withdrawal.

Section 414(w)(2) provides that a permissible withdrawal is any withdrawal from an
EACA which is made pursuant to an election by an employee and consists of elective
contributions described in section 414(w)(3)(B) (and earnings attributable thereto).

Section 414(w)(3) provides that an EACA means an arrangement under an applicable
employer plan under which a participant may elect to have the employer make
payments as contributions: (1) 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), and (3) meets the notice requirements of
section 414(w)(4).

Section 414(w)(4) provides that the administrator of a plan that contains an EACA shall,
within a reasonable period before each plan year, give each employee to whom the
PLR-121649-17 4

EACA applies for such plan year notice of the employee’s rights and obligations under
the EACA.

Section 414(w)(5)(C) provides that the term “applicable employer plan” means an
eligible deferred compensation plan described in section 457(b) which is maintained by
an eligible employer described in section 457(e)(1)(A).

Section 457 provides rules for the deferral of compensation by an individual
participating in an eligible deferred compensation plan as defined in section 457(b).

Section 457(a)(1)(A) provides that in the case of a participant in an eligible
governmental deferred compensation plan, any amount of compensation deferred under
the plan and any income attributable to the amounts so deferred shall be includible in
gross income only for the taxable year in which such compensation or other income is
paid to the participant or beneficiary. Section 457(b) provides that the term “eligible
deferred compensation plan” means a plan established and maintained by an eligible
employer in which only individuals who perform service for the employer may be
participants and which meet the deferral limitations described in section 457(c); which
meets the distribution requirements described in section 457(d); which provides for
deferral elections described in section 457(b)(4); and, in the case of a governmental
plan, which requires the plan assets and income to be held in trust for the exclusive
benefit of participants and beneficiaries as described in section 457(g).

Section 457(b)(2) provides the basic limits on the amount of eligible annual deferrals.
However, a catch-up amount described in section 457(b)(3) may be added to this
amount for participants that are within three years of the normal retirement age or, for
participants age 50 or older, a catch-up amount may be added as described in section
457(e)(18). A participant eligible for both catch-up provisions is entitled to use the
higher limit of the two. The total annual eligible deferral amount is limited by
section 457(c). Coordination of the basic limits and the catch-up limits is described in
section 1.457-4(c).

Section 457(b)(4) provides that compensation will be deferred for any calendar month
only if an agreement providing for such deferral has been entered into before the
beginning of such month. An eligible plan may provide that if a participant enters into
an agreement providing for deferral by salary reduction under the plan, the agreement
will remain in effect until the participant revokes or alters the terms of the agreement.

Section 1.457-4(c)(3)(v)(A) provides that a plan may define the normal retirement age
for purposes of the last-three-years catch-up provision as any age that is on or after the
earlier of age 65 or the age at which participants have the right to retire and receive,
under the basic defined benefit pension plan of the State or tax-exempt entity (or a
money purchase pension plan in which the participant also participates if the participant
is not eligible to participate in a defined benefit plan), immediate retirement benefits
PLR-121649-17 5

without actuarial or similar reduction because of retirement before some later specified
age, and that is not later than age 70 ½. Alternatively, a plan may provide that a
participant is allowed to designate a normal retirement age within these ages. For
purposes of the three-year catch-up provision an entity sponsoring more than one
eligible plan may not permit a participant to have more than one normal retirement age
under the eligible plans it sponsors.

Section 1.457-5 provides that the eligible deferral amount limitation of section 457(c) is
applied to all eligible plans in which a participant participates in a tax year and is
determined on an aggregate basis. If a participant has annual deferrals under more
than one eligible plan and the applicable catch-up amount is not the same for each such
eligible plan for the taxable year, section 457(c) is applied using the catch-up amount
under whichever plan has the largest catch-up amount applicable to the participant. To
the extent that the combined annual deferral amount exceeds the maximum deferral
limitation, the amount is treated as an excess deferral under section 1.457-4(e). For
purposes of determining whether there is an excess deferral resulting from a failure of a
plan to apply the deferral limitations, all plans under which an individual participates by
virtue of his or her relationship with a single employer are treated as a single plan
(without regard to any differences in funding).

Section 457(d)(1)(A) provides that amounts distributed under an eligible plan will not be
made available to participants or beneficiaries earlier than (i) the calendar year in which
the participant attains age 70 ½, (ii) when the participant has a severance from
employment with the employer, or (iii) when the participant is faced with an
unforeseeable emergency.

Section 1.457-6(c)(2) provides the requirements for an unforeseeable emergency
distribution. An unforeseeable emergency must be defined in the plan as a severe
financial hardship of the participant or beneficiary resulting from an illness or accident of
the participant or beneficiary, the participant’s or beneficiary’s spouse, or the
participant’s or beneficiary’s dependent; loss of the participant’s or beneficiary’s
property due to casualty (including the need to rebuild a home following damage to a
home not otherwise covered by homeowner’s insurance, e.g., as a result of a natural
disaster); or other similar extraordinary and unforeseeable circumstances arising as a
result of events beyond the control of the participant or the beneficiary.

Whether a participant or beneficiary is faced with an unforeseeable emergency is
determined based on the relevant facts and circumstances of each case. However, a
distribution on account of unforeseeable emergency may not be made to the extent that
such emergency is or may be relieved through reimbursement or compensation from
insurance or otherwise, by liquidation of the participant’s assets, to the extent the
liquidation of such assets would not itself cause severe financial hardship, or by
cessation of deferrals under the plan. Further, distributions because of an
unforeseeable emergency must be limited to the amount reasonably necessary to
PLR-121649-17 6

satisfy the emergency need (which may include any amounts necessary to pay any
federal, state, or local income taxes or penalties reasonably anticipated to result from
the distribution).

Section 457(d)(2) requires a plan to meet the minimum distribution requirements of
section 401(a)(9). These requirements are described in sections 1.401(a)(9)-1 through
1.401(a)(9)-9.

Section 457(d)(3) provides that a governmental plan will not fail to meet the distribution
requirements if it provides for in-service distributions of a limited-dollar amount which
meet requirements of section 457(e)(9)(A) and section 1.457-6(e). Section 1.457-6(e) is
satisfied if the participant’s total amount deferred (the participant’s total account
balance) which is not attributable to rollover contributions is not in excess of the dollar
limit under section 411(a)(11)(A) (i.e., $5,000 adjusted for inflation), no amount has
been deferred under the plan by or for the participant during the two-year period ending
on the date of the distribution, and there has been no prior distribution under the plan to
the participant of this kind.

Section 457(e)(1) provides that the term “eligible employer” means a State, political
subdivision of a State, and any agency or instrumentality of a State or political
subdivision of a State, and any other organization (other than a governmental unit)
exempt from income tax.

Section 457(e)(10) provides that a participant shall not be required to include in gross
income any portion of the entire amount payable to such participant solely by reason of
the transfer of such portion from one section 457(b) eligible deferred compensation plan
to another section 457(b) eligible deferred compensation plan. Section 1.457-10(b)(1)
provides that an eligible government plan may transfer amounts to, and receive
amounts from, an eligible government plan if certain conditions are met.

With regard to transfers from an eligible governmental plan to another eligible
governmental plan of the same employer, section 1.457-10(b)(4) provides that a
transfer from an eligible governmental plan to another eligible governmental plan is
permitted if the following conditions are met: (i) the transfer is from an eligible
governmental plan to another eligible governmental plan of the same employer; (ii) the
transferor plan provides for transfers; (iii) the receiving plan provides for the receipt of
transfers; (iv) the participant or beneficiary whose amounts deferred are being
transferred will have an amount deferred immediately after the transfer at least equal to
the amount deferred with respect to that participant or beneficiary immediately before
the transfer; and (v) the participant or beneficiary whose deferred amounts are being
transferred is not eligible for additional annual deferrals in the receiving plan unless the
participant or beneficiary is performing services for the entity maintaining the receiving
plan.
PLR-121649-17 7

Section 457(e)(16) provides that with respect to an eligible retirement plan established
and maintained by a governmental employer, if (i) any portion of the balance to the
credit of an employee in the plan is paid to him/her in an eligible rollover distribution
within the meaning of section 402(c)(4), (ii) the employee transfers any portion of the
property received in such distribution to an eligible retirement plan described in section
402(c)(8)(B), and (iii) in the case of a distribution of property other than money, the
amount so transferred consists of the property distributed, then such distribution (to the
extent so transferred) shall not be includible in gross income for the taxable year in
which paid. Section 402(c)(11) provides that nonspousal beneficiaries may elect to
have an eligible rollover distribution paid directly to an inherited IRA.

Under section 1.457-10(e), an eligible governmental plan that permits eligible rollover
distributions made from another eligible retirement plan to be paid into the eligible
governmental plan is required to provide that it will separately account for any eligible
rollover distributions it receives. Amounts contributed to an eligible governmental plan
as eligible rollover distributions are not taken into account for purposes of the annual
limit on annual deferrals by a participant but are otherwise treated in the same manner
as amounts deferred under the plan.

Section 457(g) provides that a plan maintained by an eligible governmental employer
shall not be treated as an eligible deferred compensation plan unless all assets and
rights purchased with such deferred compensation amounts and all income attributable
to such amounts, property, or rights of the plan are held in trust for the exclusive benefit
of participants and their beneficiaries. Section 457(g)(2)(A) provides that a trust
described in section 457(g)(1) shall be treated as an organization exempt from tax
under section 501(a).

Based on the information submitted and the representations made, we conclude as
follows:

1. The Plan is an eligible deferred compensation plan as defined in section 457(b)
   and the regulations thereunder.

2. Amounts of compensation deferred in accordance with the Plan, including any
   income attributable to the deferred compensation, will be includible under section
   457(a)(1)(A) in the recipient’s gross income for the taxable year or years in which
   amounts are paid to a participant or beneficiary in accordance with the terms of
   the Plan.

3. Amounts distributed from the Plan in an eligible rollover distribution (within the
   meaning of section 402(c)(4)), shall not be includible in gross income for the
   taxable year in which paid to an eligible retirement plan (within the meaning of
   section 402(c)(8)(B)), as provided in section 457(e)(16).
   PLR-121649-17 8

4. The trust established as part of the Plan meets the requirements of section
   457(g)(1) and will be treated as an organization exempt from tax under section
   501(a).

5. Maintaining an EACA (within the meaning of section 414(w)(3)) through the Plan,
   under which the participant is treated as having elected to have the employer
   make contributions in an amount equal to a uniform percentage of compensation
   provided under the Plan until the participant specifically elects not to have
   contributions made (or specifically elects to have contributions made at a
   different percentage), does not cause the Plan to fail to satisfy section 457(b)(4)
   and section 1.457-4(b). Permissible withdrawals (within the meaning of section
   414(w)(2)) made from the Plan are includible in the gross income of the
   employee for the taxable year of the employee in which the distribution is made.
   Permissible withdrawals from the Plan do not violate the distribution restrictions
   of sections 457(b)(5) and 457(d)(1)(A).

6. The deemed IRA under the Plan constitutes a valid deemed IRA program in
   accordance with section 408(q), including the provisions related to a deemed
   Roth IRA.

Except as expressly provided herein, no opinion is expressed or implied concerning the
federal tax consequences of any aspect of any transaction or item discussed or
referenced in this letter or whether the Plan is a governmental plan within the meaning
of section 414(d). If the Plan is significantly modified, this ruling will not necessarily
remain applicable.

The rulings contained in this letter are based upon information and representations
submitted by the taxpayer and accompanied by a penalty of perjury statement executed
by an appropriate party, as specified in Rev. Proc. 2018-1, 2018-1 I.R.B. 1,
section 7.01(16)(b). This office has not verified any of the material submitted in support
of the request for ruling, and such material is subject to verification on examination. The
Associate office will revoke or modify a letter ruling and apply the revocation
retroactively if there has been a misstatement or omission of controlling facts; the facts
at the time of the transaction are materially different from the controlling facts on which
the ruling was based; or, in the case of a transaction involving a continuing action or
series of actions, the controlling facts change during the course of the transaction. See
Rev. Proc. 2018-1, section 11.05.

This letter ruling is directed only to the taxpayer who requested it. Section 6110(k)(3) of
the Code provides that it may not be used or cited as precedent.
PLR-121649-17 9

In accordance with the Power of Attorney on file with this office, a copy of this letter is
being sent to your authorized representative.

                                       Sincerely,



                                       Cheryl E. Press
                                       Senior Counsel
                                       Qualified Plans Branch 4
                                       (Employee Benefits)
                                       (Tax Exempt & Government Entities)

cc: