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Bill Enck, CPA

Common 403(b) Plan Misunderstandings and Realities

William G. Enck

It’s hard to believe that the first wave of new requirements affecting 403(b) plans has passed while some employers are still trying to understand the new rules. By first wave, we’re referring to the effective date of the final regulations and the written plan document requirement. If an employer sponsors an ERISA or non-ERISA 403(b) plan (aka tax sheltered annuity plan), a written plan document that is in compliance with the final regulations had to be in place by the end of 2009.

The second wave of new requirements affects the Form 5500 filed for an ERISA 403(b) plan. Historically, a Form 5500 filed for a 403(b) plan was subject to limited reporting requirements. Most importantly, the Form didn't need to disclose the number of plan participants nor plan financial information, including the requirement to attached audited financial statements. This all changes with plan years beginning on or after January 1, 2009.

Over the course of the last 12-18 months, we’ve received numerous calls related to the new 403(b) plan document and Form 5500 requirements. Here are some of the more common misunderstandings and realities.

Universal Availability:

Employers only need to consider those employees who actually make employee salary deferral contributions and receive any corresponding matching contributions in order to determine the number of participants to report on the Form 5500.

Reality: False. Employers must consider all employees who are eligible to participate in the plan. 403(b) plans have a unique rule (known as Universal Availability) that generally requires that all employees must be eligible to make employee salary deferrals as soon as they are hired. This means that all employees will be considered participants in the plan even if an employee voluntarily chooses not to make employee salary deferral contributions. For example, if an employer who sponsors a 403(b) plan has 150 current employees, then it probably has at least 150 participants in the 403(b) plan.

An employer should also take into account terminated employees who still have a balance in the plan. When terminated employees who still have a balance in the plan are added to the current employees, it may cause the number of participants to rise to the level that requires the plan to attach audited financial statements to the Form 5500.

Two Plans are Better than One Plan:

Employers should have one plan for employee deferrals and another plan for any employer contributions.

Reality: False. We have encountered a number of situations where the employer has one ERISA 403(b) plan that permits only employee salary deferral contributions and another ERISA 403(b) plan (or possibly a 401(a) plan) that only permits employer contributions (or covers employee deferrals up to the matching contribution limit and the corresponding matching contributions). Employees are able to direct the investments of each plan and the same provider handles both plans (e.g., same investment options under each plan). Under this scenario, the employer is sponsoring two retirement plans, each with its own Form 5500 filing requirement and may require the employer to incur costs for two plan audits. If an employer currently has two 403(b) plans, the employer should consider combining the two plans into one plan. An employer doesn’t need to have or incur the costs associated with two plans.

Although it is more difficult to combine plans if an employer has both a 403(b) plan and a 401(a) plan, it can be done and is worth considering as a way to reduce administrative costs.

403(b) versus 401(k):

The employer should terminate its 403(b) plan and establish a 401(k) plan.

Reality: False, in most cases. A 403(b) plan has some significant advantages over a 401(k) plan. For example, a 403(b) is not required to perform the compliance test related to employee salary deferral contributions that can unknowingly limit the salary deferral contributions made by a Highly Compensated Employee in a 401(k) plan. An employer should weigh the options or speak with experts if it intends to adopt a 401(k) plan in place of a 403(b) plan.

ERISA 403(b) Plans:

An employer can have a non-ERISA 403(b) plan for employee deferrals and an ERISA 403(b) plan (or a 401(a) plan) for employer contributions with the same provider.

Reality: Yes, but an employer must proceed with caution. There are rules that an employer must consider and follow in order for it to claim that the 403(b) plan is a non-ERISA plan. If one provider is handling both a non-ERISA and an ERISA 403(b) plan, it may be hard to prove that the non-ERISA plan is truly not an ERISA plan.

The retirement plan professionals at Berry, Dunn, McNeil & Parker can help you navigate through the different plan designs, and their implications and costs associated with the new 403(b) plan requirements.

Please contact Bill Enck at benck@berrydunn.com or Roger Prince at rprince@berrydunn.com if you have any questions or would like more information.