401(K)
Distribution Events
Atlanta, Georgia
Code Section 401(k)(2) previously prohibited 401(k) plans from
distributing elective deferrals before stated events such as the employee's
separation from service or a transaction described in Code Section
401(k)(10). Code Section 401(k)(10)
referred to the disposition by a corporation of substantially all of the assets
used by the corporation in a trade or business of such corporation, and the
disposition by a corporation of such corporation's interest in a
subsidiary. Furthermore, distributions
could be made in connection with a sale of assets or interest in a subsidiary
only with respect to an employee who continued employment with the corporation
acquiring the assets or with the subsidiary and only if the seller continued to
maintain the plan.
EGTRRA amended Code Section 401(k)(2) by replacing
"separation from service" with "severance from
employment." EGTRRA also amended
Code Section 401(k)(10) to delete references to the disposition of a
corporation of substantially all the assets and the disposition of a
corporation’s entire interest in a subsidiary.
The combination of these two changes resulted in elimination of the
“same desk” rule, which previously precluded distribution of elective deferrals
to participants who continued to work at the same job (the same desk) following
certain corporate transactions regardless of a change in employer.
Under the new rules, a distribution event on account of severance
from employment generally will occur whenever the identity of the employee’s
employer changes. However, in Notice
2002-4, the IRS clarified that a severance from employment does not occur if
the employee's new employer maintains the 401(k) plan with respect to the
employee by assuming sponsorship or a transfer of assets and liabilities. Thus, a transaction in which a subsidiary
leaves a controlled group constitutes a severance from employment for the
subsidiary's employees if there is no assumption of plan sponsorship and no
plan assets are transferred from the former corporation’s plan. In that case, the subsidiary’s employees
will be able to receive distributions of their elective deferrals held under
the former corporation’s 401(k) plan.
A
plan sponsor may apply the new rules to distributions
made after December 31, 2001. To do so,
the plan sponsor must amend its plan by the
end of the plan year in which the rule is first effective. A plan sponsor also may amend its plan to
allow distributions to be made after December 31, 2001 on account of a
severance from employment that occurred before January 1, 2002. Notice 2001-57 includes a model amendment
that a plan sponsor may use to make these changes.
These
changes are discretionary. A 401(k)
plan will not fail to comply with Code Section 401(k)(2) if it does not provide
for distributions following a severance from employment in some or all
instances. A
plan may continue to limit distributions to situations in which a participant
has a separation from service or following a disposition of assets or
disposition of a subsidiary. The
important thing for plan sponsors to remember is that distributions of
elective deferrals can occur only to the extent permitted by the terms of the
plan.