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2010 IRPAC Report: Employee Benefits and Payroll Subgroup

A. Health Care Valuation on Form W-2

Recommendations

IRPAC makes the following recommendations to assist IRS in developing resolutions to issues related to the new Form W-2, Wage and Tax Statement, health valuation reporting and in communicating information to taxpayers:

  1. IRS should delay the reporting requirement or waive penalties (or at a minimum impose a good faith compliance standard) for employers who are not able to comply with the W-2 health valuation reporting requirements that are effective January 1, 2011.
  2. IRS should resolve as soon as possible the various issues regarding new Form W-2 reporting required by the Patient Protection and Affordable Care Act (PPACA).  IRS should work with stakeholders to ensure that solutions are workable and can be implemented by taxpayers in a compliant manner.  IRS must also communicate instructions timely to stakeholders.  IRPAC is very concerned that all issues related to new Form W-2 heath valuation reporting have not yet been resolved and communicated to the reporting community.  The reporting changes are very significant and the ability for W-2 issuers to comply is seriously jeopardized by the lack of issue resolution and communication.
  3. IRS should continue to communicate to taxpayers that the new Form W-2 health valuation reporting will not result in the taxation of this value.
  4. IRS should engage the self-funded employee benefit plan community in a discussion about the COBRA "applicable premium" with respect to valuing health coverage for self-funded plans before issuing any guidance in this area.   These stakeholders, in particular, require IRS guidance as soon as possible.  
  5. IRS should issue guidance as soon as possible on what types of health coverage must be included in the W-2 health reporting (e.g., what coverage is required to be aggregated beyond major medical, dental and vision and whether administrative costs are included in the reported amount).  
  6. IRS should provide employers and service providers the option of employing a special accounting rule (similar to that allowed for the reporting of certain taxable fringe benefit amounts) so that the W-2 health valuation amounts could be computed in an orderly manner for Form W-2 reporting.
  7. IRS should provide employers and service providers the option to exclude the reporting of health valuation amounts from any W-2 that is issued prior to the January 31 annual deadline.  In this case, the employer could distribute the final W-2 that reports the health valuation amount with the Forms W-2 issued by January 31.
  8. IRS must issue guidance on how plans/employers should prepare Forms W-2 issued to retirees who are covered by health plans but no longer receive Forms W-2, and the impact on W-2 sick pay reporting procedures.

In addition, with respect to provisions that are not immediately effective, IRPAC recommends that the following reporting issues be considered in the near term to provide for a cohesive reporting program for PPACA changes.

  1. IRS should implement a separate form for calendar year 2014 (other than the Form W-2) to report all the information required for large employers and certain employers offering minimum essential coverage.  IRS should also provide for electronic reporting of this information to employees since many employees currently access Form W-2 electronically.
  2. IRS must issue guidance to large employers who incur a coverage penalty (noted as an excise tax) with respect to the payment and reporting mechanism for this penalty.
  3. IRS must issue guidance regarding the Excise Tax on High-Cost Coverage for employers who must report this information to the IRS.  IRS guidance should address the specific reporting format to be used by the employer, electronic filing requirements, and the reporting due date.
  4. IRS must issue guidance on Form W-2 requirements to report the amount of the health FSA benefit (PPACA imposes a $2500 limit in 2013) including if the amount will be in a new box on the Form W-2.  Further guidance will be required regarding the employer reporting of Medicare tax on high earners.
  5. The IRS must issue guidance concerning the notice of coverage to new employees.  This guidance should consider the need to commence this reporting at the beginning of a calendar year.  The IRS guidance should address the fact that the notice may be deemed to be delivered to the employee when it is delivered to the employee electronically or made available electronically.

Discussion

IRPAC's Employee Benefits and Payroll Subgroup (EB&P) met with IRS representatives in June on issues regarding new Form W-2 reporting required by the PPACA.  It is essential that IRS work with stakeholders to ensure that solutions are workable and can be implemented by taxpayers in a compliant manner.  IRS must also communicate instructions timely to stakeholders.  After the June meeting with IRS, IRPAC provided IRS with input on the various open issues consistent with these recommendations, which IRPAC understands the IRS is considering.     

IRPAC is very concerned that all issues related to new Form W-2 health valuation reporting have not yet been resolved and communicated to the reporting community.  The reporting changes are significant and the ability for W-2 issuers to comply is jeopardized by the lack of issue resolution and communication.  As a general rule, a minor change for Form W-2 issuers requires at least six months to design, develop and implement changes to systems, processes and methods.  The Form W-2 changes related to health care are especially complex as the data to be reported is typically not stored in an employer's payroll system or controlled by the same group that controls payroll data for Form W-2 reporting.  Therefore, the heath care data will need to be obtained from a third party and merged with the payroll Form W-2 data.  This will require a much greater lead time for compliant Form W-2 reporting, which is effective January 1, 2011 (which impacts W-2 issued as soon as February 1, 2011).  

The lack of timely resolution and adequate communication of all issues related to this important topic causes serious concern for compliance for 2011, particularly where without guidance employers and health care providers are hesitant to develop software prior to issuance of guidance (as additional cost and redesign risks/delays are inherent with system changes prior to final guidance) or even to build out new systems based on proposed (rather than final) guidance.  

Accordingly, IRPAC strongly recommends that the IRS delay this reporting requirement (e.g., make it optional for a transition period as with Code V and Code Y reporting in box 12 of the Form W-2) or otherwise waive any penalty for noncompliance (or, at a minimum, impose a good faith compliance standard). 

As a first step, IRPAC commends IRS on the messages sent related to the nontaxability of health care valuation reporting.  However, IRS must continue to communicate to taxpayers that the new Form W-2 health valuation reporting will not result in the taxation of this value, and the W-2 instructions should also make this point very clear.  While IRS has posted information on www.IRS.gov that this will not result in the taxation of this value, there continues to be confusion about this point that could be mitigated by enhanced communication by IRS.

IRS should issue guidance as soon as possible on the COBRA "applicable premium" with respect to valuing health coverage.  IRS must begin a discussion with the self-funded employee benefit plan community concerning the methodologies for valuing health coverage.  The statutory language of PPACA references the COBRA applicable premium under section 4980B(f)(4).  The COBRA law gives vague guidance on determining the "applicable premium."  There are two methods: (1) "reasonable estimate" of the cost of providing coverage for similarly situated beneficiaries, taking into account such factors as the Secretary may prescribe; and (2) determination on past costs.  Past cost may not be used when there is a significant change in coverage.  Employers should be provided flexibility in selection of valuation methods and in determining how the selected method is to be calculated.

IRS should also issue guidance on what types of health coverage must be included in the Form W-2 health reporting, whether administrative costs are included in the reported amount, and the impact of coverage of spouses, alternate payee, dependents and domestic partners.  Employers and service providers require clear and detailed specifications and substantial lead time to implement payroll reporting and Form W-2 changes.  Compliance will be difficult, if not impossible, since clear and detailed specifications have not been provided.  The Form W-2 changes related to health care are especially complex as the data to be reported is typically not stored in an employer's payroll system or controlled by the same group that controls payroll data for Form W-2 reporting. 

The group controlling the payroll data will frequently have to coordinate with multiple third parties, as coverage often changes mid-year (e.g., the employer moves from a fully-insured plan to a self-funded plan, or the administrator of the self-funded plan changes).  In addition, if an individual switches from single coverage to family coverage mid-year, or the employer has an open enrollment mid-year (i.e., the plan runs on a fiscal year that is not a calendar year) and employees change coverage options, the payroll group may need to apportion and then aggregate a value to create one number, or provide multiple values based on the different benefit coverages, which would add to the complexities.  Therefore, the heath care data will need to be obtained from a third party and merged with the payroll Form W-2 data.  This will require an even greater lead time for reporting due to these complexities regarding the computation, compilation and coordination of health care amounts.

IRS should provide employers and service providers the option of employing a special accounting rule (similar to that allowed for the reporting of certain taxable fringe benefit amounts) so that the Form W-2 health valuation amounts could be computed in an orderly manner for Form W-2 reporting.  For nearly all employers, the payroll department or payroll services provider is responsible for Form W-2 reporting and distribution; and the health insurance plan administrator is the record keeper for the plan and the party that will provide the heath valuation amounts for Form W-2 reporting.  Time will be required for the health insurance plan administrator to compute the Form W-2 health valuation amounts and to transfer the amounts to the employer's payroll department or payroll services provider for Form W-2 reporting and distribution by January 31 of the year following the calendar year.  Use of a special accounting rule may alleviate some of the timing problems that will result.

For mid-year Forms W-2, IRS should provide employers the option of excluding the reporting of health valuation amounts from any Form W-2 that is issued prior to the January 31 deadline.  In this case, the employer could distribute the final Form W-2 that reports the health valuation amount with the Forms W-2 issued by January 31.  If requested, employers must furnish the Form W-2 within 30 days of the request or, if later, within 30 days of the last payment of wages.  Typically, the payroll area is separate from the health plan administrator.  In most cases, it may be difficult (if not impossible) for accurate health valuation amounts to be sent to payroll in advance of the issuance of Forms W-2 by January 31.

Lastly, IRS should issue guidance as soon as possible on a variety of related topics, addressing issues such as (1) reporting to retirees who are covered by health plans but no longer receive Forms W-2; (2) the impact on sick pay reporting process; (3) method to report for calendar year 2014 (other than the Form W-2) all the information required for large employers and certain employers offering minimum essential coverage; (4) method for large employers to report and pay any coverage penalty incurred; (5) method to report any excise tax on High-Cost Coverage; (6) the interplay between reporting under Code section 6055, 6056, and W-2; (7) Form W-2 reporting of the health FSA benefit (PPACA imposes a $2500 limit in 2013), and (8) how the withholding change on additional taxes on high income individuals is implemented and reported.  And with all this guidance, clarification of the applicable reporting penalties that may be imposed (and on who) and the correction process if a reporting error results is critical to the process.  

IRPAC looks forward to assisting IRS in implementing these important PPACA reporting changes. 

B. Tip Reporting Compliance and Enforcement Efforts

Recommendations

IRS should continue its efforts to improve tip income reporting compliance within the Food & Beverage (F&B) Industry.  IRS should also continue its efforts to understand better the operations and practices of non-F&B service industries with employees who customarily receive tip income with the aim of improving tip income compliance in these industries.  IRPAC makes the following recommendations to assist IRS in its efforts to improve compliance:

  1. IRS should continue its efforts aimed at increasing Form 8027, Employer's Annual Information Return of Tip Income and Allocated Tips, compliance by non-filers.  IRS should also continue its tip reporting compliance initiatives with respect to small business and with respect to service sector businesses beyond the F&B industry. 
  2. IRS and Treasury should amend the regulations  to provide employers the option of combining data for all tipping establishments located at a business location in order to simplify the computational requirements related to Form 8027 and allocated tip reporting on Form W-2.     
  3. IRS should simplify the instructions to Form 8027 and Form 4137, Social Security and Medicare Tax on Unreported Tip Income, and put these materials in "plain English" so that they are more understandable to employers and to employees who receive tip income.  IRS should also clarify certain definitions and terms used in tip income reporting compliance in order to improve understandability and, IRPAC hopes, overall levels of compliance.  IRPAC looks forward to partnering with IRS on these efforts.
  4. IRS and Treasury should amend the regulations to provide employers the option (without regard to the number of employees) of using either the Hours Worked Method or the Gross Receipts Method to compute allocated tips at an individual tipping establishment level.  Allowing additional flexibility should improve overall employer compliance and reduce employer burden.
  5. IRS should seek legislative changes needed to allow employers, at their option, to post credit card tips directly to employee payroll records as reported tips subject to tax withholding. 

Discussion

IRPAC's EB&P subgroup met on April 20 and August 17, 2010 with a number of IRS representatives working on a nationwide effort to improve tip income reporting compliance. The IRS' current efforts are aimed at better understanding compliance in the F&B industry as well as in other service industries where employees customarily receive tip income.

With respect to the F&B industry, IRS is seeking to improve the level of tip reporting compliance for those who file Form 8027, and to improve filing and payment compliance with respect to non-filers.  IRS is also working with a variety of stakeholders to understand the level of tip income in non-F&B industries so that appropriate and workable compliance programs can be undertaken.

IRPAC commends IRS for its efforts to improve compliance in this area and its work with stakeholder groups to understand the issues involved in compliance.  IRS is expanding its Form 8027 compliance efforts beyond those who are currently filers.  Of the current filers, there are many large employers and chains that may also be on a Tip Reporting Alternative Commitment Agreement (TRAC), Tip Rate Determination Agreement (TRDA), or other similar type arrangement.  IRS is focusing also on non-filers who have, in many cases, not been subject to IRS scrutiny with respect to tip income reporting compliance.  IRS has been working effectively with state agencies and other organizations to identify non-filers.  IRS worked with the State of California Employment Development Department (CA EDD) to identify 4,200 active restaurants. These were matched against Form 941, Employer's Quarterly Federal Tax Return filings in order to identify employers who are Form 8027 non-filers who should, potentially, be filing this form.  Note that not all identified are required to file Form 8027.  The California pilot resulted in IRS's "soft notice campaign" to targeted non-filers requesting that these employers voluntarily file Form 8027 or provide information why the form is not required.  The positive response has been very encouraging and is providing valuable information to IRS that will be useful in future compliance efforts.  The IRS has also used these pilots as opportunities for stakeholders outreach on tip income reporting compliance topics.  IRS is also using Dun & Bradstreet data to expand its non-filer campaign nationwide in order to improve Form 8027 and Form 941 compliance.  These non-filer initiatives appear to be positive steps in improving compliance.  IRPAC recommends that IRS expands and/or continues these programs since improved compliance regarding Form 8027 filing will result in increased compliance by employees with respect to reporting of tip income. 

The current administrative requirements for Form 8027 and Form 4137, Social Security and Medicare Tax on Unreported Tip Income, are complicated and the instructions for completing these forms are difficult to understand.   IRPAC believes that simplification of requirements and the language on forms and instructions will lead to reduced employer burden and improved compliance. 

Related to this, IRPAC recommends that the IRS and Treasury revise the regulations to provide employers the option of combining data for all tipping establishments located at a business location in order to simplify the computational requirements related to Form 8027 and allocated tip reporting on Form W-2.  In many cases, businesses that operate multiple F&B outlets at a given business location (e.g., a hotel with several tipping establishments on the hotel property) incur significant administrative burden keeping all the data required for Form 8027 and Form W-2 reporting separate by individual tipping establishment.  Record-keeping is complicated by the fact that employees at these business locations typically work at multiple tipping outlets within the business location during a given payroll week and even during the same work day.  Permitting businesses the option of aggregating data to a property location level would significantly reduce burden, complexity, and errors related to reported tips, allocated tips, and related sales.  A simpler process would be easier to explain to tipped employees.  Employees will be more compliant with a requirement that is clear and understandable.

IRS and Treasury should amend the regulations to provide employers the option (without regard to the number of employees) of using either the Hours Worked Method or the Gross Receipts Method to compute allocated tips at an individual tipping establishment level.  Allowing additional flexibility should improve employer compliance and reduce employer burden.  Tracking of employee reporting of sales data required by the Gross Receipts Method is very burdensome and prone to error.  The Hours Worked Method relies on data already maintained by most payroll systems and is easier to explain to tipped employees.  

A less burdensome, streamlined, and simpler method would likely prove to yield a higher level of compliance.  IRPAC also proposes the following to improve the current method:  (a) clarify distinctions between directly and indirectly tipped employees; (b) clarify the $20/month minimum threshold for reporting; and (c) or clarify the distinction between direct tips and indirect tips. 

IRS should seek legislative changes needed to allow employers, at their option, to post credit card tips directly to employee payroll records as reported tips subject to tax withholding.  Allowing employers to implement a direct interface from a point-of-sales system to the payroll system would increase compliance and reduce employer burden as it would avoid having to require that the employee report tips to the employer which the employer already has record of via the customer's credit card receipt data.  IRPAC recognizes that such a change would likely require modification of an employer process related to "tip outs" and to the reporting of tips by indirectly tipped employees.  IRS has noted that currently reporting of tips by indirectly tipped employees seems to be low.  IRPAC believes that this change to the posting of credit card tips as reported tips to the employer's payroll system will reduce employer burden and increase the overall total level of tip income reporting compliance.

IRPAC has offered to assist IRS on its efforts to reduce complexity and burden related to these forms and looks forward to contributing in this area.  IRPAC looks forward to working with the IRS on ways it can improve the overall tip income reporting compliance and reduce employer burden related to Form 8027.

Lastly, IRPAC recommends that IRS continue its tip income reporting compliance efforts and expand efforts to service industries other than F&B in which there could be substantial underreporting of tip income.  

C. EINs for Qualified Plans/Trusts 

Recommendations

Based on the lack of clear guidance on the need and the proper procedure for obtaining employer identification numbers (EINs) for qualified plans/trusts, IRPAC strongly recommends changes to Forms 5500, Annual Return/Report of Employee Benefit Plan, and SS-4, Application for Employer Identification Number, (and related instructions) to clarify these rules and encourage plan sponsors to obtain a trust EIN for qualified plans/trusts.  More specifically, to address the instructions for obtaining an EIN for qualified plans/trusts, which are outdated, confusing, and difficult to find, IRPAC recommends that these instructions be updated (as described below), and cross-referenced on the Employee Plans (EP) website, and further develop specific instructions and guidance on the EP website on the need for, and process to obtain an EIN, and recommend that the plan/trust EIN be added as an optional box on Form 5500. 

Discussion

EIN Application Process for Employee Benefit Plans

The SS-4 online application process is very robust with many helpful tools and aids, but the application process for qualified plans is less than clear.  Therefore, IRPAC recommends an alert on the landing page of the SS-4 online application to briefly describe the process for a qualified plan, with a link to the EP website for more details.  Moreover, IRPAC recommends that the EIN application and maintenance process for employee benefit plans be referenced (to the extent possible) on the employee plans part of the IRS website.  With all the different options available for business entities, it is not easy to discern what may be relevant for employee benefit plans. Unless otherwise specified, the references below are to Publication 1635, Understanding Your EIN.

  1. Under the question Do you need an EIN the only reference is to a Keogh plan; whereas this should be referencing an employee benefit plan, including pension and profit sharing plans.
  2. Under the question Do you need a New EIN, there is no reference for spin-off plans, mergers or other events that plans may survive through – leaving questions as to when, if ever, a new EIN should be obtained and how to ensure that its use will be properly reported on all reporting and disclosure form.
  3. IRPAC recommends that an electronic application process be also available for when a Third Party Designee is the individual obtaining the EIN.  To be required to mail or fax an application solely because there is a Third Party Designee is not efficient and causes delays.
  4. After the section on Misplaced EINs, there should be a section on de/reactivation of the EIN that was issued in the past.
  5. How EINs are assigned.  It used to be that a suffix was assigned – usually a P or numeric sequence at the end of the EIN to identify it as an employee benefit program.  IRPAC believes that it would be most efficient to continue in some way with that practice, as it would readily identify the number as relates to an employee benefit plan  which helps plan sponsors and third party administrators/trustees identify the appropriate tax obligations. 
  6. Canceling an EIN.  The information provided in this help booklet says that IRS can not cancel an EIN but IRPAC knows this has happened via deactivation.  This may be a good place to explain this issue and how it has been resolved. Ideally, there would be a section on Deactivation, but if that is not possible, then a paragraph in this section would be beneficial.  Along those lines, anywhere the deactivation is discussed, there should be an explanation about how to reactivate, including how a Third Party Designee may do so on behalf of the Plan Sponsor or Plan Administrator. 
  7. Updating Incorrect Business Entity Information.  This information is not well-known and should be emphasized on the SS-4 application itself if IRS wants to mandate it, but understand that the SS-4 is viewed as a one-time use form that is not suitable for ongoing taxpayer review and update. 
  8. Publication 1635 – general comments.  This publication is a great resource but much of it does not apply to employee benefit plans. IRPAC recommends that the requirements for obtaining an EIN for employee benefit plans be positioned in the EP part of the IRS website.  Some of the information in the publication is outdated – such as the reference to an alpha or numeric following the assigned EIN as stated in the paragraph What is an EIN on page 2.  Also the reference to Form 5500-C/R on page 9 and Form 941 on page 24 – the instructions for Line 14 should be modified.

EIN Application Process Placed on EP Website

In order to encourage plan administrators and plan sponsors to obtain an EIN for the plan, it is ideal to have guidance and instructions on the EP website.  The EP website has become quite the place for instruction and education and not having guidance about this process leads one to believe that there is no need for a plan to obtain an EIN. Many plan sponsors do not believe they need to obtain an EIN for the plan – especially because there is no place to report the number once it is obtained, unless there has been a distribution from the plan, requiring the information returns that may (or may not – as it is not required) use that number.

In particular, the information that is published should include specifics regarding what to do in the event of a plan merger, acquisition, etc.  The website should include specific instructions and guidance.

Deactivation of Employer Identification Numbers

IRPAC members have experienced situations where the EIN for the plan or for the Plan Administrator has been deactivated after a period of nonuse.  This has been especially noted when filing Form 8802, Application for U.S. Residency Certification.  Because the EIN was deactivated, IRS would not process Form 8802.  In order to request Form 6166, Foreign Certification Program status, Form 8802 must be processed and many Form 6166 requests have been denied.  IRS personnel communicated to IRPAC that as of December 2009 this process to deactivate was ceased and IRS provided communication that announced the deactivation was no longer in use.  However, plan administrators will continue to encounter this issue until the deactivation process is more broadly communicated so plan administrators can rectify the situation by reactivating the EIN before any form needs to be filed.

To avoid situations where a form can not be processed because plan administrators did not know about the EIN deactivation process, IRPAC members believe that information about the past deactivation process should be contained in the SS-4 instructions as well as on the EP Website with helpful tips for plan administrators to properly complete form SS-4 and reactivate any EINs that have been deactivated.  All of the main concerns with transparency, deactivation, proper completion and how to reissue or reapply for the EIN in anticipation of or as a result of certain events are also appropriate for the EP website.  Moreover, IRPAC recommends that a process that permits plan administrators to check on whether or not an EIN is active be considered.

Lastly, IRPAC recommends that any Frequently Asked Questions (FAQ) on the website provide a place or person to send problems to should any be encountered in the EIN process.

D. TIN Masking on Payee 1099s

Recommendation

IRS should continue the Tax Information Number (TIN) Masking pilot and resolve any issues to make the program permanent for tax year 2011.

Discussion

IRPAC commends IRS for their efforts over the past year regarding TIN Masking.  In December of 2009, IRS created a pilot program for the truncation of Taxpayer Identification Numbers on certain Forms 1099 and on paper payee statements in the Form 1098 series and the Form 5498 series.  That program has been widely praised by the industry and is a very positive step in protecting the identity of the American taxpayer.

Following the initiation of the TIN Masking pilot, IRPAC provided comments to IRS.  The primary proposals were:

  1. IRS should allow for the truncation of EINs in addition to SSNs as many institutions do not have the ability to distinguish between the two Taxpayer identification numbers.
  2. IRS should allow the truncation to apply to electronic delivery as well as paper delivery.  Some providers are attempting to assist IRS in the conversion to an electronic format, but as the pilot program is limited to paper filers, those firms are not permitted to participate in the program.
  3. IRS should consider extending the pilot an additional year.  Due to the late announcement of the pilot, some firms were not able to participate in the pilot.  That timing issue will limit IRS pilot data to one complete tax season.

IRPAC's correspondence regarding the pilot is in Appendix A.

IRPAC met with staff from the Privacy office and the office of Chief Counsel at its August meeting.  IRPAC learned that IRS was still in the process of receiving input into the pilot process.  IRPAC also understands that the overall response to the pilot has been favorable.

In light of the success of the TIN Masking pilot program with minimal issues, IRPAC believes that IRS should continue the program with the intent of transitioning to a permanent production program.  IRS should also consider the expansion to other form types.

E. Transparency for Abusive Use of Multiple EINs – to Establish Multiple Tax-Favored Benefit Plans

Recommendations

To help identify abusive use of EINs where an employer establishes multiple plans (without complying with the Code's coverage and non-discrimination provisions), IRPAC recommends that a change be made to the annual entity's tax return (e.g., Form 1120 series, U.S. Corporation Income Tax Return), 1065 (U.S. Return of Partnership Income, 990, Return of Organization Exempt from Income Tax, 1040, Schedule C, Individual Income Tax Return and this same provision can also be added to the Form 5500 series (annual return).  A question should be added to the above returns that would provide the information requested by the IRS.  For example, the following question could be added: 

Do you or any related entity (in accordance with Code section 414 and including the use of a leasing agency) maintain a qualified plan (Code section 401(a), 403(b), 457(b)), a SEP or SIMPLE IRA:  [ ] yes  [ ] no.  If yes (and there is 5 or fewer related entities), list the following: (1) name of the plan sponsor, (2) name of the plan/trust, (3) plan number (if any), and (4) EIN of the plan/trust (or plan sponsor, if none). 

To the extent that there are similar concerns outside the qualified plan context in identifying multiple ownership arrangements, IRPAC similarly recommends adding a question to the entity's annual tax return (and not Form SS-4).

Discussion

The IRS requested IRPAC to consider ways to increase ownership transparency by improving the EIN Application Process and updating Form SS-4.   

IRS initially proposed that IRPAC consider if the Form SS-4 was a proper form to gather ownership and qualified plan information.  IRPAC strongly believes that the use of the Form SS-4 for this purpose is not appropriate, as the entity may not have yet adopted any retirement plans nor organized any related companies at the time the SS-4 is filed with the IRS.  Moreover, this form is viewed as a one-time form to obtain an EIN and not a form that gathers ongoing information.  Rather, an ongoing annually filed return, which is filed under penalties of perjury, is more appropriate.

Because the concern appears to be limited to small entities, limiting the transparency related inquiry to those entities noted above (5 or fewer entities in the controlled group) should be sufficient to assist in the effort to identify potentially abusive entities, while not including large national entities.  

F. 2009 Form 5500/5330 Automatic Extension for Calendar Year Plans

Recommendations

IRPAC first recommended an automatic extension of the filing deadline for 2009 Forms 5500/5330, Application for Determination for Employee Benefit Plan, (without the need to file Form 5558, Application for Extension of Time to File Certain Employee Plan Returns) for calendar year plans to October 15, 2010 to be able to comply with EFAST2.   As that extension was not granted (but the need remains), IRPAC further recommends that the 2009 Forms 5500/5330 deadline for all calendar plans be extended to December 31, 2010 (or otherwise waive penalties for late filers through such date), without regard to whether or not an extension request was filed. 

Discussion

IRPAC initially requested that an automatic extension be given for the 2009 Form 5500 for the reasons provided below.  As that request was denied, but the need for additional time to process these forms remain, IRPAC recommends that an automatic extension be provided from the October 15, 2010 extended due date for the 2009 calendar year filers until December 31, 2010.  IRPAC believes this extension will greatly enhance the accurate reporting and accurate transmittal under the new process and procedures.  The extension of time will also increase plan sponsor recognition and comfort in its new role and responsibility for electronic filing of the 2009 Form 5500.

IRPAC asks that in its deliberations, the IRS consider in particular the small business plan sponsor.  Many small business plan sponsors have not previously filed electronically, do not use the Internet, and do not have the resources to use an independent service provider.  In these situations, the Form 5500 is completed with little or no external assistance.  With the new form and procedures, even tax professionals are grappling with issues related to the delayed issuance of the software, new processing requirements, and glitches in the software – all in combination with questions that need time to research regarding all of these new features.

IRPAC anticipates that the IRS received more extensions of Form 5500 than in prior years due to the new form and filing process.  Moreover, there will likely be more delinquent 2009 filers as a result of not understanding the new procedures.  More importantly, IRPAC anticipates that the accuracy of the returns may also be affected by the lack of understanding of the new form provisions and the new filing process.  The new schedules, the new process, the new regulations relating to certain information disclosures were issued during the busiest time of year, with the Economic Growth and Tax Relief Reconciliation Act of 2001 plan document adoption deadline of April 30, 2010 within the same timeframe.

Many plan sponsors have concerns about not only the new filing process but that obtaining signing credentials involves more internal security than previously necessary because of the PIN procedures.  Plan sponsors need more time to be acclimated to this new process and the decision to have their signature on the Internet if they allow their service provider to transmit the filing as many service providers have done in the past.

Form 5330 is requested as part of this automatic extension. If the Form 5500 requires extension because it has not been processed and accepted, often there is no way to determine whether a return needs to be made for the transactions reported on Form 5330. In these situations, Form 5558 is used to request this extension.

To summarize, IRPAC requests a narrow extension of time for 2009 calendar year plans to file the 2009 Form 5500 and Form 5330 for the following reasons:

  • The late issuance of the 5500 Form
  • The delay in vendor software 
  • The time needed to assess which vendor software a service provider may consider using
  • The new process for a plan sponsor to determine whether to obtain signing credentials or provide signature to the Form 5500
  • The time to educate plan sponsors and their tax advisors
  • The time to assist plan sponsors to obtain signing credentials
  • The time for service providers to learn the new form, new software and create procedures to prepare plan sponsors for understanding and executing their responsibility.

G. Basis Allocation for Direct Rollovers 

Recommendations

IRPAC strongly recommends that the IRS permit plan sponsors to follow the long-standing interpretation of IRC Section 402(c)(2) and treat a partial or split direct rollover as a single distribution for basis allocation purposes, which would continue to allow after-tax contributions to be distributed to the participant in cash and the remainder of the account rolled to an IRA or qualified plan.  This approach is consistent with legislative history, and provides for consistent treatment between direct and indirect rollovers.
However, in the event that a partial or split rollover is to be viewed as two separate distributions, IRPAC strongly recommends that this position be taken prospectively only, with generous transition relief to allow for system changes (which will be time consuming and costly).  Otherwise, this view will result in unintended adverse tax consequences for plan sponsors and participants, including reporting and withholding and plan qualification concerns.

Discussion

EGTRRA expanded the rollover provisions to permit the rollover of after-tax amounts (directly and indirectly), and expressly provided in the flush language of IRC Section 402(c)(2) that the amount transferred shall be treated as consisting first of "the portion of such distribution that is includible in gross income."  The legislative history similarly stated that "if a distribution includes both pretax and after-tax amounts, the portion of the distribution that is rolled over is treated as consisting first of pretax amounts."  Accordingly, plan sponsors and third party administrators have historically permitted a participant to directly or indirectly roll over the entire pre-tax amount first.  For example, if the participant took a full distribution of $10,000 of his account, which had $2,000 of after-tax contributions and the remainder as pre-tax amounts, the participant could elect to rollover the entire $8,000 pre-tax amount to a traditional IRA and the remaining $2,000 to be paid in cash (or beginning in 2008, rolled to a Roth IRA) to the participant tax-free.   

An updated model 402(f) (rollover notice) was issued in late 2009 (Notice 2009-68, Safe Harbor Explanation — Eligible Rollover Distributions) that challenged this approach.  The Notice states that if the distributee elects to rollover only a portion of the distribution in a direct rollover, an allocable portion of any after-tax contributions are considered rolled over. 

IRPAC understands that each rollover/cashout is being treated as a separate distribution (which is prior, under the IRS’s analysis, to the annuity starting date) and therefore subject to IRC Section 72(e)(8), which requires this pro rata allocation approach. 

This approach appears to mirror the approach taken for Roth contributions under Treas. Reg. § 1.402A-1, Q&A-5, where (1) the regulations expressly limit the special ordering rule to indirect rollovers -- the part that is rolled over is deemed to consist first of the portion of the distribution that is attributable to income under section 72(e)(8), and (2) following the Preamble to TD 9324, treat the portion of the distribution that is rolled over as a separate distribution for purposes of applying Code section 402(c)(2).  However, Roth accounts are different from after-tax amounts because Roth accounts are generally treated as a "separate account" for section 72 purposes, which would prohibit commingling earnings on Roth contributions with other taxable amounts.

Moreover, the clear language of IRC Section 402(c)(2), which expressly applies to direct rollovers, appears to trump the pro rata allocation rules, and the fact that a separate Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc. may need to be filed for the rollover and the cashout (or for split distributions between IRAs), due to the box 7 coding provisions, should not alter this result.  The legislative history, as noted above, also does not make this pro rata allocation point clear.  And, there is no policy reason for providing for a different result depending solely on whether the amount is directly or indirectly rolled over, or whether the distribution is split between multiple IRAs.

Importantly, if the pro rata allocation method is required, Form 1099-R reporting and withholding violations and related penalties (and interest) may result in numerous cases.  Moreover, this may result in improper rollover of after-tax amounts to qualified plans (either because the law prohibited roll over of after-tax amounts (pre-PPA, only certain defined contribution plans were permitted to accept them) or because the plan terms prohibited acceptance of such amount), which will require corrective distributions from the impacted plans to preserve the tax-qualified status of the plans. 

Page Last Reviewed or Updated: 19-May-2014