Lender Beware:  IRS Issue Snapshot on Third Party Loans

The IRS recently published an Issue Snapshot meant to guide examiners who encounter third party loans among the investments of plans they are auditing.   Third party loans occur when a qualified plan trustee elects to loan plan funds to someone other than a plan participant, at a designated rate of return, in exchange for a promissory note, deed of trust, or other form of security. Below I summarize some of the key points in the IRS Snapshot and add some insights gleaned from third party loan issues I have encountered in my practice.   Note: this post is not intended as a “how to” for these risky investments, but as a roadmap for plan sponsors who may have entered into such transactions in the past and could find themselves in an audit setting.

  1. Don’t Assume Your Trust Agreement Permits Third Party Loans.   The Issue Snapshot notes that a plan document may limit the ability of a plan trustee or plan participant to invest in third party loans, and this is absolutely the case.  It is necessary to check plan trust language before making any such investment.   In my examination of plan trust agreements, I have seen language expressly permitting third party loans (e.g., allowing investments in “notes or other property of any kind, real or personal,” and I have seen language that cannot, even in broad “general powers” provisions, be construed to permit third party loans.  A loan made in the absence of plan language permitting the investment is a fiduciary breach.
  2. Avoid Prohibited Transactions.  The third party loan will be a prohibited transaction if the loan is either made directly to a “disqualified person” or indirectly benefits a disqualified person, for instance through rerouting the loan proceeds to them.  A disqualified person includes the employer, fiduciaries, persons providing services to the plan (the IRS gives the example of accountants and attorneys), and persons and corporations who own a 50% or more interest in the employer.   I sometimes see this issue arise in family-owned businesses, where the borrower is a family member who owns more than half of the plan sponsor entity.  The Issue Snapshot encourages auditors to be on the lookout for plan loan terms that disadvantage the plan, such as little or no interest rate or unsecured loans, as indicators that the loan may have been made for the benefit of a disqualified person.  I would add to that list, failure of the plan to enforce timely loan repayment, or frequent re-amortization of the loans on terms that are favorable to the borrower.  Prohibited transactions are subject to excise taxes under Code § 4975(a) and (b).
  3. Avoid Self-Dealing.  Self-dealing by a fiduciary violates the exclusive benefit rule articulated in both the Code and ERISA.   With regard to the Code, the Issue Snapshot notes that others may benefit from a transaction with a plan as long as the “primary purpose” of the investment is to benefit employees or their beneficiaries.  (Citing Shedco Inc. v. Commissioner, T.C. Memo. 1998-295.)  An IRS examiner who concludes that a third party loan fails the primary purpose test must refer the matter to the Department of Labor.  On the Department of Labor side, ERISA Section 406(b) prohibits a plan fiduciary from dealing with the assets of a plan “in their own interest of for their own account.”   In my experience, self-dealing types of third party loans arise more often than direct loans to disqualified persons.  It is not uncommon for there to be a pre-existing relationship between the plan sponsor or trustee, on the one hand, and the borrower, on the other hand, whether that of a business partner, friend, or family member, such that the loan benefits the fiduciary by assisting someone of importance to them.   If identified in an IRS audit and referred to the Department of Labor, or identified in a DOL audit, a loan of this type may result in civil penalties.
  4. Value Your Asset.  The Issue Snapshot cites Revenue Ruling 80-155 as requiring annual valuation of defined contribution plan assets and states that this rule applies to third party loans just like any other plan investment.  It also notes that plan documentation may also expressly mandate annual asset valuations, making failure to obtain them a breach of the plan’s written terms.  The Issue Snapshot does not specify that a professional valuation must be obtained but suggests that a fresh value must be assigned to the loan each year based on a number of factors including the discount/interest rate and the probability of collection.    One thing not to do is to report a static value for the loan across multiple years’ Form 5500 Return/Reports as this will indicate to the Service “that payments under the loan contract are not being made and/or that the true fair market value of the loan is not being appraised or reported.”
  5. Documentation Is Key.  This is not explicitly addressed in the Issue Snapshot but is something I observed in practice.  In one matter I was involved with, the Department of Labor audited a 401(k) plan and observed a portfolio of about a dozen third party loans.  All charged substantial rates of interest, resulting in returns that exceeded those realized by the Plan’s more conventional investments.  All were secured by deeds of trust on real property held by the borrowers.  Third party valuations of the real property parcels had been obtained at the time of the loan, and periodically updated.  Amortization and repayment schedules were up to date on all loans.  The borrowers had no relationship with the business that sponsored the plan or with the fiduciaries themselves.  The Department of Labor scrutinized the loan files and were unable to find any ERISA violations in the loans as an asset class or individually.   The plan sponsor had discontinued the practice of extending new third party loans even in advance of the audit, but by essentially operating with the procedural rigor of a commercial lender, it had maintained third party loans as successful plan investments for a number of years.

The above information is a brief summary of legal developments that is provided for general guidance only and does not create an attorney-client relationship between the author and the reader. Readers are encouraged to seek individualized legal advice in regard to any particular factual situation. © 2022 Christine P. Roberts, all rights reserved.

Photo credit: Evgeniya Litovchenko, Unsplash

    CalSavers Scoops Up Micro-Businesses Effective in 2025

    Coming close on the heels of expansion of the CalSavers program to businesses with 5 or more employees, which went into effect on June 30, 2022, California Governor Gavin Newsom signed into law a further expansion of the CalSavers program on August 26, 2022, in the form of Senate Bill 1126.  Under this new measure, as of December 31, 2025, businesses with one (1) employee or more must either enroll in the CalSavers program, or sponsor a retirement plan.

    This sweeps into the CalSavers regime even micro-businesses like home-based Etsy shops, food trucks, and the like.  Expressly excluded from the expansion are sole proprietorships, self-employed individuals, or other business entities that do not employ any individuals other than owners of the business (a company that employs two spouses, who each own half of the company’s stock, would be one example).

    For these very small businesses, enrolling in CalSavers may be preferable to establishing even the simplest format retirement plan, due to the complexities of administering these plans, and the very inflexible rules for the IRA-based retirement plans (SIMPLE and SEP arrangements).  We covered some of the potential pitfalls of setting up a plan in our earlier post. 

    That said, the financial services industry is increasingly reaching out to smaller employers with app-based service packages that allow a business owner to establish a 401(k) plan online, with “just a few clicks.”  No matter how easy it is to establish, a 401(k) plan is still a 50+ page written contract that is governed by two federal agencies (Department of Labor and Internal Revenue Service) and caution is advised.  With the proper prior planning, a SIMPLE, SEP, or 401(k) plan can be a powerful means of attracting and retaining employees and a good strategic move for even the smallest business.  But knowing what you are getting into, is key.   The persons vending the plan services may not be your best source of knowledge as to what can go wrong.  Stay on the safe side and check with an expert – either a CPA with retirement plan experience, a 401(k) plan third party administrator, or an ERISA attorney, before you sign plan documentation. 

    Finally, classifying someone as an independent contractor to avoid the 1-employee threshold is not a good idea in California, where the criteria for independent contractor are quite narrow.  If you have questions in that regard, check with the California Department of Industrial Relations, or with a qualified employment law attorney.

    The above information is a brief summary of legal developments that is provided for general guidance only and does not create an attorney-client relationship between the author and the reader. Readers are encouraged to seek individualized legal advice in regard to any particular factual situation. © 2022 Christine P. Roberts, all rights reserved.

    Photo credit: Anthony Persegol, Unsplash

    Will New IRS Funding Increase Plan Audits?

    The Inflation Reduction Act, H.R. 5376 stands poised for passage in the House and includes almost $80 billion in new funding for the Internal Revenue Service, of which almost $46 billion is allocated to “enforcement,” including determination and collection of taxes, legal and litigation support. What is not clear at this juncture is how much of that massive amount of new funding will trickle down to the Tax Exempt and Government Entities Division, which has oversight over retirement plans, the employers that sponsor retirement plans, and IRAs. IRS Commissioner Chuck Rettig has stated in letters to both houses of Congress that the rates of auditing households making under $400,000 per year will not increase despite the new funding, but that the resources will enable “meaningful, impactful examinations of large corporate and high-net-worth taxpayers.” Whether this includes examinations of large corporate and high-net-worth taxpayer retirement plans and IRAs is uncertain.

    A breakdown of the new IRS funding, which is set forth in Title I, Subtitle A, Part 3 of the Act, is set forth below.

    Section 10301. Enhancement of Internal Revenue Service Resources.

    It seems hard to imagine that some portion of the enforcement budget won’t ultimately increase plan audit activity. The IRS only recently announced a new plan enforcement initiative in the form of a 90-day Pre-Examination Compliance Pilot program (click on June 3, 2022 to display the program announcement). Under this new program, IRS will send a letter to a plan sponsor notifying them that their retirement plan has been selected for an examination. The letter gives the plan sponsor a 90-day window of time to review their plan’s documentation, and operations, for compliance with applicable law. If errors are noted, they may be eligible for self-correction under the terms of Revenue Procedure 2021-30. Errors that are not eligible for self-correction can be corrected under a closing agreement, with the Voluntary Correction Program fee structure forming a basis to determine the sanction amount that the IRS will impose. If the plan sponsor fails to respond to the IRS within 90 days of the letter, the IRS will contact the sponsor to schedule an exam. Since this audit initiative starts with a simple letter, there would now seem to be ample funds at IRS to pursue this agenda – in fact, postage is one of the expressly sanctioned expenses under Operations Support. Even without a specific funding line-item for TE/GE, plan sponsors should be on their guard in this new era of IRS funding.

    The author thanks Peter Gulia, Fiduciary Guidance Counsel, and other colleagues at the Benefitslink Message Boards for sharing their thoughts about the new IRS funding.

    The above information is a brief summary of legal developments that is provided for general guidance only and does not create an attorney-client relationship between the author and the reader. Readers are encouraged to seek individualized legal advice in regard to any particular factual situation. © 2022 Christine P. Roberts, all rights reserved.

    Photo credit:  Mathieu Stern, Unsplash

    Who Should Be Trustee of Your 401(k) Plan?

    When a company establishes a 401(k) plan it is necessary to name a trustee of the plan. This is a very important decision that is not always given the careful deliberation that it deserves. This post covers why it is such a crucial decision and outlines some of the options for naming a plan trustee.

    Why it Matters

    The trustee is responsible for the plan assets. Every 401(k) plan involves a tax-qualified trust established under Section 401(a) of the Internal Revenue Code and all plan assets are nominally held in that trust, so the trustee of that trust is in charge of all plan assets. That includes collection of contributions, their investment while held by the trust, and their ultimate disbursement to plan participants and beneficiaries. In most 401(k) plans, even though participants take on responsibility for choosing among plan investment options under Section 404(c) of the Employee Retirement Income Security Act of 1974 (ERISA), the plan trustee is responsible for selecting the menu of options from which participants choose. If problems are identified with plan investment performance, or with the amounts paid to plan service providers, the plan trustee may be called to answer in court.

    The standard of care is one of the most stringent known under law. A plan trustee is a fiduciary under ERISA. The fiduciary standard of care, often referred to as the “prudent expert” standard, is set forth under ERISA § 404(a)(1). It requires that plan trustees consistently do all of the following:

    • Act solely in the interest of plan participants and their beneficiaries and with the exclusive purpose of providing benefits to them;
    • Carry out their duties prudently;
    • Follow the terms of the plan documents (unless doing so is inconsistent with ERISA);
    • Diversify plan investments; and
    • Pay only reasonable plan expenses to service providers, with “reasonableness” being measured in light of the services provided to the plan.

    More information about fiduciary duties under ERISA is set forth in a booklet titled “Meeting Your Fiduciary Responsibilities” that is published by the Department of Labor, Employee Benefits Security Administration. Every person who is serving as an ERISA plan fiduciary or who is in a position to appoint a plan fiduciary should familiarize themselves with the contents of the booklet and should seek out qualified ERISA counsel to assist in applying the concepts in the booklet to their particular factual situation.

    At this juncture it is appropriate to discuss specialized types of ERISA fiduciaries who can be engaged to assist plan trustees in various ways. Perhaps the most prevalent is the ERISA 3(21) fiduciary, a paid investment advisor that assists the plan trustee in selecting plan investments, reviewing investment performance, and providing recommendations about investments to the plan fiduciary. They bear fiduciary liability, but the plan trustee carries ultimate liability for acting, or not acting, on the 3(21) fiduciary’s recommendations. An ERISA 3(38) investment manager, rather than merely making recommendations, directly selects and monitors the plan’s investment option menu, changing out funds and providers as it finds appropriate. The plan trustee is regularly advised about the investment manager’s decisions and retains fiduciary liability over the selection and monitoring of the 3(38) investment manager. An ERISA 3(16) fiduciary primarily has an administrative role, rather than having to do with plan investments. They can take over responsibility for signing and filing Form 5500 return/reports and other tasks that plan trustees would otherwise have to fulfill. (This is just a very brief overview of these various roles; there is more information about these three types of fiduciaries here and here.) Each of these types of fiduciary will charge fees for their services; selection of any of them is itself a fiduciary act and their fees must be reasonable in light of the services provided.

    401(k) litigation continues apace. Litigation against 401(k) plan trustees and other fiduciaries have been trending for almost 20 years. The lawsuits, most of which have been brought in class action format and have settled out of court, generally allege that plan fiduciaries have selected overly expensive investments or and/or are overpaying service providers such as investment managers, record keepers and third-party administrators. A recent Supreme Court opinion did not, as had been hoped, articulate a pleading standard that would have made it easier to eliminate an excessive fee lawsuit at the pleading stage. Although generally the lawsuits are directed at 401(k) plans with hundreds of millions of dollars in assets, there is nothing preventing class action counsel from targeting smaller plans.

    Who to Name as Plan Trustee

    Against that background, exercising extreme care in choosing a plan trustee is essential. There are two main options, and the sub-options within those two main categories.

    The first consideration is whether or not to choose an institutional or third-party trustee such as a bank or trust company. An institutional or “corporate” trustee will have fiduciary liability for plan assets under investment, but they often serve as “directed” trustees who take investment direction from the plan sponsor or from an ERISA 3(38) investment manager, rather than as discretionary trustees who call the investment shots themselves. It is also possible to name a discretionary corporate trustee. Corporate trustees of either variety charge fees, usually in the form of a small percentage of plan assets, with a minimum fee for start-up plans. The fees must be reasonable in light of the services performed, and as with the choice of a fiduciary advisor or manger, selection of a corporate trustee is itself a fiduciary act.

    Start-up and smaller plans often select an individual who is an executive or owner of the company sponsoring the plan to serve as plan trustee. That individual will potentially be personally liable for plan losses that are the result of their negligence or malfeasance. It is important that the individual named as a plan trustee be aware of this fact. It is also not uncommon for the company that sponsors the plan, to be named as the plan trustee. In this instance the company can only act by and through its board of directors, managers or partners (if an LLC or partnership), so if the company is named it is recommended that the board (or managers, or partners) form a plan committee to fulfill plan trustee duties. The committee should be comprised of individuals who have experience with investments and financial matters and who would be equipped to interview, select among, and monitor the performance of plan service providers such as ERISA 3(21) fiduciaries, 3(38) investment managers, record keepers, and third party administrators. Any individual serving as a plan trustee should also be comfortable performing those duties.

    Whether an individual or board committee carries out plan trustee functions, the individual(s) serving in this role should commit to introductory and ongoing fiduciary training. This would include information about the standard of care applicable to, and duties of, an ERISA fiduciary and would break down how those duties translate into tasks such as regular meetings to review plan investment performance, protocol for documenting decisions made during such meetings (e.g., minutes and resolutions), selection and monitoring of plan service providers, and the like. In addition to undergoing training, individual fiduciary(ies) will need to be diligent in fulfilling their appointed tasks.

    One further consideration is the purchase of fiduciary liability insurance. This is specialized liability coverage that is separate and different from the fiduciary bond required under ERISA Section 412(a). Fiduciary liability coverage acts like errors and omissions coverage, but with respect to a company or individual’s role as a fiduciary under an ERISA plan. 401(k) plan fee litigation has impacted the fiduciary liability insurance market, but coverage remains affordable and should be evaluated by individuals and board committees serving as plan trustees.

    The above information is a brief summary of legal developments that is provided for general guidance only and does not create an attorney-client relationship between the author and the reader. Readers are encouraged to seek individualized legal advice in regard to any particular factual situation. © 2022 Christine P. Roberts, all rights reserved.

    Photo credit: Joshua Hoehne, Unsplash

    The Dobbs Decision: Client Talking Points for Brokers and Advisors


    The decision of the United States Supreme Court on June 24, 2022 in Dobbs v. Jackson Women’s Health Organization means that, for the first time in almost 50 years, employers that sponsor group health plans are subject to state-level regulation of abortion access. Employers will naturally turn to their group health brokers and advisors for initial guidance. Below are some talking points for brokers and advisors, including tips on when legal guidance from ERISA counsel may be required.

    1. First, be aware that there will be no one-size-fits all approach. Each client’s path forward will vary depending upon whether their group health plan is self-insured, or insured, what states they operate and have employees in, and on whether they offer additional benefits such as health flexible spending accounts (health FSAs), health reimbursement arrangements (HRAs), or Health Savings Accounts (HSAs).
    2. With that in mind, you can start by cataloguing the plans each client has in place, and the states in which they have group health insurance policies in place and employ personnel. Remote work in the post-COVID environment may make it challenging to identify all states in which employees perform services for your client.
      a. If, for instance, a client has a fully insured group health plan under a policy issued in a state that has a trigger law, such as Kentucky, then abortions will likely become unavailable under the insured plan. (A discussion of state trigger laws prepared for the American Society for Reproductive Medicine is found here.) You will want to work with the carrier and the client to communicate potential changes to the policy and coverage around abortion services.
      b. If, for instance, your client has a self-insured group health plan, it is not directly impacted by state laws prohibiting abortion due to ERISA preemption. However, state criminal laws of general application are not preempted by ERISA. Employers with self-insured group health plans with employees in states that make abortion a crime may need to address potential liability and ERISA preemption issues with legal counsel.
    3. Medical travel benefits are trending as an area of interest for clients with insured plans in states that prohibit abortion, and for all clients with employees living in those states that may need to travel for abortion services. There are a variety of ways to provide medical travel benefits and a whole host of potential compliance issues that arise. You may not be in a position to advise on all of the issues, some of which cross over into legal advice, but you should be familiar with key points, as follows:
      a. Whether to offer the benefit pre-or post-tax – medical travel reimbursements are fairly limited under the tax code and fairly low dollar limits apply under health FSAs ($2,850) and Excepted Benefit HRAs ($1,800). An integrated HRA or a post-tax arrangement can be in an amount the employer chooses.
      b. ERISA compliance – a medical travel reimbursement arrangement will be subject to ERISA disclosure requirements and ERISA reporting requirements depending upon the number of participants eligible under the arrangement.
      c. Mental Health and Addiction Equity Act and HIPAA Privacy issues – if the arrangement covers medical travel only for abortion services, parity for mental health benefits is a problem. For this reason, it may be preferable to offer benefits for all types of medical travel. Processing reimbursements for such plans will involve review of protected health information and trigger HIPAA compliance if the arrangement covers 50 or more participants or is an arrangement of any size that is administered by a third party. For this latter reason some employers are offering generalized travel reimbursement plans that do not require proof of medical treatment. Note that such arrangements would not be subject to ERISA (and ERISA preemption would not apply to any aiding and abetting laws asserted against employers offering them). Such arrangements would also potentially trigger wide uptake among employees and considerable employer expense.
      d. Medical travel reimbursement arrangements will need to be coordinated with other arrangements such as health FSAs and eligibility under a medical travel arrangement will impact HSA eligibility. A careful survey of clients’ benefit landscape is necessary before implementing a medical travel reimbursement arrangement.
      e. States such as Texas and Oklahoma have laws that prohibit “aiding and abetting” abortion – including through provision of insurance and reimbursements – which could be directed at employers offering these benefits. Further, a group of Texas legislators (the “Texas Freedom Caucus”) has threatened criminal prosecution of at least one employer that offers travel benefits for those seeking abortion services. The ultimate enforceability of these provisions against employers will need to be determined through litigation, which may take years to unfold. In the meantime, clients contemplating medical travel benefits for abortion services will need competent legal counsel on potential liability and ERISA preemption issues that are raised.
    4. Be mindful of stop-loss coverage and the need to involve the stop-loss carrier in discussions of any change in self-insured plan design, around abortion services.
    5. Be aware that the compliance landscape is shifting constantly and that it is important to closely monitor your sources for benefits news. Even as this post was being finished, it was announced that the Dick’s Sporting Goods chain, which had offered a $4,000 travel benefit to employees seeking out-of-state abortions, was sued by “America First Legal,” a conservative group, on the grounds that the travel benefit violated Title VII of the Civil Rights Act by discriminating against female employees who choose to give birth. As many of the key issues in this area will be litigated, fast answers are not available. The safest strategy for the foreseeable future is to stay informed and proceed with caution. The above information is a brief summary of legal developments that is provided for general guidance only and does not create an attorney-client relationship between the author and the reader. Readers are encouraged to seek individualized legal advice in regard to any particular factual situation. © 2022 Christine P. Roberts, all rights reserved.

    Photo credit: Cody Engel, Unsplash

    Is EEOC Wellness Guidance Coming Out of the Deep Freeze?

    Currently, guidance on permissible incentives (whether in the form of a reward or penalty) to participate in a wellness program is in a state of flux, but some clarity may be forthcoming sometime after July 1, 2022.

    That is the date on which one of the five seats on the Equal Employment Opportunity Commission (EEOC), currently held by Republican Janet Dhillon, becomes available for President Biden to fill.  The Commission’s current roster of three Republicans and two Democrats has been blamed for delays, including two consecutive failures, in the fall of 2020 and spring of 2021, to publish the Commission’s regulatory agenda. President Biden’s pick for the slot, Cohen Milstein, et al. attorney Kalpana Kotagal, failed to secure confirmation upon initially appearing before the Senate in May of this year.  However Senate Majority Leader Chuck Schumer may bring Ms. Kotagal’s nomination to a full Senate Floor vote under rules that apply when there is no majority for either party in that house of Congress.

    By way of background, the EEOC issued proposed regulations in January of 2021 that would have required that, to be considered “voluntary,” incentives for “participatory” wellness programs must be “de minimis,” such as a water bottle or t-shirt.  Voluntariness is a requirement under the Americans with Disabilities Act whenever an employer performs a medical examination – which would include biometric testing under a wellness program – or makes a disability-related inquiry, which could be part of a Health Risk Assessment under a wellness program.  Both biometric testing and HRAs are examples of participatory wellness programs in that they do not require any physical activity or health outcome, and these types of wellness programs are in wide use across the country.   (For more background information on the EEOC and wellness incentives, including removal of incentive provisions under 2016 EEOC regulations, check out our earlier post.) 

    The Biden Administration required the EEOC to withdraw the 2021 wellness regulations before they were published in the Federal Register, as part of a regulatory freeze pending review.  It is possible that, if Biden’s nominee to the EEOC secures confirmation, the proposed regulations containing the de minimis rule may be revived in their original or a modified form.  Below is a brief summary of existing wellness incentive rules and some thoughts on what a de minimis incentive rule might look like, if enforced. 

    • If we ignore the EEOC withdrawn proposed regulations, what are the rules on wellness incentives?

    Keep in mind that withdrawal of the 2021 EEOC proposed regulations followed withdrawal of the incentive provisions of 2016 EEOC final wellness regulations, which would have capped incentives even for participatory programs at 30% of the cost of self-only coverage if the program involved a physical examination or asked disability-related questions. Many employers are still using the 30% cap even for participatory wellness programs that involve biometric testing or HRAs.

    In the absence of both sets of withdrawn EEOC guidance, the rules are set forth in HIPAA regulations and are as follows:

    Participatory wellness programs (require no physical activity or health outcome) do not have any limit on incentives.

    Health-contingent programs (require physical activity or health outcome) have a maximum incentive that is an amount equal to 30% of the individual premium under the most affordable group health plan option, or 50% if the program is designed to reduce or stop tobacco use.

    Important Note:  the cap on financial incentives is just one aspect of wellness compliance; there are also design parameters, notification duties, and other criteria that apply under HIPAA wellness regulations.  One example of a required design criteria for a health-contingent wellness program is that an alternative means of earning a wellness incentive be made available to persons who are prevented from meeting (or attempting to meet) the original criteria due to medical conditions or issues.  Another is that a participatory wellness program be made available to all similarly situated individuals. 

    • If the de minimis incentive rule is revived, for participatory wellness programs that include physical exams/disability-related questions, what type of incentive might qualify as de minimis?

    The withdrawn regulations give the example of a water bottle or gift card of modest value and indicate that premium surcharges of $50 per month ($600 per year), an annual gym membership, or airline tickets would be more than de minimis.  If a water bottle suffices, presumably other low-cost items – such as a t-shirt, towel, or stress ball – would also work.  “Modest value” gift cards probably mean $10 or $15 or less.  Note that these items may be taxable compensation.  Any gift card would be, but a water bottle, t-shirt or other small item may qualify as an excludible de minimis fringe benefit under Internal Revenue Code Section 132(a)(4).

    Clearly, there is a good bit of daylight between the HIPAA rules for participatory programs (unlimited incentive) and the de minimum rule under withdrawn EEOC guidance.  And the voluntariness of incentives to take part in biometric testing is still being challenged in the courts, as evidenced by a recent court case from the Northern District of Illinois.  Hopefully changes in the EEOC will be followed by guidance that brings some clarity to an area that has been frustratingly confusing for employers for a number of years.

    The above information is a brief summary of legal developments that is provided for general guidance only and does not create an attorney-client relationship between the author and the reader. Readers are encouraged to seek individualized legal advice in regard to any particular factual situation. © 2022 Christine P. Roberts, all rights reserved.

    Photo credit:  Dev Benjamin, Unsplash

    The Slippery Slope of SEP and SIMPLE Notification Duties

    As the June 30, 2022 CalSavers deadline bears down on employers with five or more California employees, many small employers may be giving thought to adopting a simplified retirement plan, whether a SEP or SIMPLE IRA.  Establishment of one of these types of plans is a permissible alternative to participating in CalSavers.  There are circumstances where these types of plans are a good fit.  However, each of these types of plans imposes participation notification duties that employers often overlook, and noncompliance can put the tax-sanctioned status of the whole arrangement at risk. Below we summarize the relevant rules.

    Simplified Employee Pension (SEP) Notification Duties

    IRS Form 5305 is often used to establish a SEP.  A plan set up via Form 5305 is considered adopted when eligible employees have been provided with:

    • a copy of the completed, signed, and dated Form 5305-SEP, including the Instructions to Employer and Information to Employee sections;
    • a statement to the effect that IRAs other than the IRA(s) into which employer contributions will be made may yield different rates of return and may have different terms concerning, among other things, transfers and withdrawals of funds from the IRA;
    • a statement that notice of any amendment to the SEP, a copy of the amendment and a written explanation of its effects, will be provided within 30 days of the effective date of any such amendment; and
    • a statement that the employer will provide written notice of contributions made to the plan, by the later of (a) January 31 of the year following the year in which the contribution is made, or (b) the date that is 30 days after the date the contribution is made.  This notice duty may be met by reporting the SEP contribution on eligible employees’ Form W-2 for a given year.  Failure to provide the notice of contribution may subject the employer to a $50 penalty per failure unless the failure is due to reasonable cause. 

    This information must be provided thereafter to each new employee who becomes eligible under the SEP.

    Additional disclosure duties apply if you are using a prototype SEP arrangement, rather than Form 5305-SEP, including special disclosures for plans under which contributions are integrated with Social Security.  Providing eligible employees with a copy of the SEP agreement will meet many of the disclosure requirements, but employers should check with the prototype SEP sponsor to confirm that they will timely supply your business with all necessary additional disclosures.  Annual contribution reporting through Form W-2 is the same. 

    Savings Incentive Match Plan for Employees (SIMPLE IRAs)

    Notification duties under a SIMPLE plan are more complicated than under a SEP due to the employee elective deferral feature.  Also, there are two model SIMPLE forms in use, Form 5304-SIMPLE and Form 5305-SIMPLEForm 5304-SIMPLE is used when all IRAs are established with a single designated financial institution, and Form 5305-SIMPLE is used when participants select their own IRA provider.

    For an existing SIMPLE IRA plan, eligible employees must receive a Summary Description and Notification to Eligible Employees before the start of a 60-day election period.  Since all SIMPLE plans must be on a calendar plan year, including those set up using Forms 5304- or 5305-SIMPLE, the plan year must be the calendar year.  Therefore the 60-day election period runs from November 2 through December 31, and the notice must be provided before November 2 each year.   Provision of a current copy of the completed Form 5304-SIMPLE or 5305-SIMPLE, with instructions, will satisfy both disclosure duties if Article VI – Procedures for Withdrawals, is completed.  When Form 5304-SIMPLE is in use, the custodian or trustee may provide the Article VI information directly to the employees; employers should confirm that the custodian/trustee is timely meeting this disclosure duty, however. 

    For a new SIMPLE IRA plan or for a new hire who becomes eligible, the Model Salary Reduction Agreement that comprises part of Forms 5304- and 5305-SIMPLE must be provided prior to the 60-day period that includes either the date the employee becomes eligible or the day before.  The employee must be able to commence elective deferrals as soon as they become eligible, regardless of whether the 60-day period has ended, but no earlier than the plan’s effective date.  Certain special notification and election period rules apply when an employee becomes an eligible employee other than at the beginning of a calendar year, including when an employee is rehired during a plan year. 

    How to Deal with SEP and SIMPLE Mishaps

    If you have not timely met your SEP notification duties as outlined above, you should consult an ERISA attorney.

    If you have not timely met your SIMPLE-IRA plan notification duties as outlined above, you can fix the problem by following the steps outlined in the SIMPLE IRA Plan Fix-It Guide.  Self-correction may be an option if you had practices and procedures in place to timely provide the notice but failed to follow them, and other pre-requisites to self-correction have been met.  Otherwise, you may need to use the Voluntary Correction Program to fix the problem.  This will generally require the involvement of an ERISA attorney.

    In addition to notification duties, SIMPLE plans are subject to rules regarding timing of deposit of employees’ elective deferrals.  Elective deferrals must be deposited with the IRA custodian or trustee within the 30-day period following the last day of the month in which the amounts otherwise would have been payable in cash to employees.

    If elective deferrals are not timely deposited, the Department of Labor (DOL) may have to be contacted to correct the problem.  Why is this necessary?   To avoid potential employer liability for civil penalties, and in some cases involving missed or late elective deferrals, criminal penalties. 

    Special rules, not addressed above, may apply to plan documents not established using the IRS forms mentioned in this post.

    The above information is a brief summary of legal developments that is provided for general guidance only and does not create an attorney-client relationship between the author and the reader. Readers are encouraged to seek individualized legal advice in regard to any particular factual situation. © 2022 Christine P. Roberts, all rights reserved.

    Photo credit:  Nico Smit, Unsplash

    Just Adopted a New 401(k) Plan?  Beware These Common Pitfalls

    By June 30, 2022, businesses with 5 or more California employees must either enroll in CalSavers, a state-managed system of Roth IRA accounts, or establish their exemption from CalSavers by adopting 401(k) or other retirement plans of their own.  Other states have implemented or are rolling out similar auto-IRA programs.  Below are some potential pitfalls for new plan adopters that business owners should be aware of, and, where possible, take steps to avoid. 

    1. Immediate top-heavy status.  The “top-heavy” rules compare the combined plan account balances of certain owners and officers, called “key employees,” with the plan account balances of all other plan participants (non-key employees).  If the key employee account balances make up 60% or more of the combined plan account balances of all participants, the plan is top-heavy and the plan sponsor is required to make minimum contributions (generally equal to 3% of compensation) to the accounts of all non-key employees.  A plan can be top-heavy in its first year of operation, although it is more commonly a result of large account balances accumulated over time by long-term key employees, versus smaller accounts held by high-turnover, lower paid employees.   Top-heavy status is particularly likely to arise in a family-owned business, as family members of owners count as key employees, but the problem is not limited to this scenario.  Businesses that anticipate a potential top-heavy problem should consider adopting safe-harbor 401(k) plan designs, as a basic safe-harbor matching or non-elective contribution will satisfy minimum top-heavy contribution requirements.  A SIMPLE-IRA plan is also exempt from top-heavy requirements, provided you have 100 or fewer employees.
    2. ADP/ACP testing failure.     A similar and more common problem, failure of the Actual Deferral Percentage or ADP test, occurs when the average rate of elective deferrals made by Highly Compensated Employees exceeds the average rate of elective deferrals made by non-Highly Compensated Employees by more than a permitted amount.  (A related test, the Actual Contribution Percentage test, applies to matching contributions.)  Highly Compensated Employees (HCEs) are persons who own more than 5% of the company sponsoring the plan at any time during the current or prior year, or who, for the prior year, earned above a set dollar amount.  (For 2022, the amount is $135,000 and applies to 2021 earnings.)  Correcting testing failures will involve refunding amounts to HCEs, or making additional contributions to non-HCEs.  Fortunately there are a number of preventive measures to take, including using a safe harbor contribution formula, using a “top 20%” election to define HCEs, using automatic enrollment at a meaningful percentage of compensation (such as 5% or higher), and robust enrollment meetings and tools to engage employees with savings potentials under the plan. 
    3. Late deposit of elective deferrals.  When you run payroll and pull employee elective deferrals from pay, you have a deadline within which to invest them under your 401(k) plan, which is the point at which they are considered to be “plan assets” under ERISA.  Investment is generally is denoted as a “trade date” by your plan’s recordkeeper, whether Fidelity, Vanguard, or the like.   If you have under 100 participants as of the beginning of your plan year (counting those who are eligible to participate even if they don’t actively do so) you have seven business days to get from pay date, to trade date.  For larger plans, the normal deadline to invest is as soon as elective deferrals can reasonably be segregated from your general assets.  (An outside deadline of 15 business days after the end of the month following the month in which the elective deferrals would have been payable in cash applies in the event of extraordinary circumstances interrupting normal payroll functioning.)  If you fail to meet the seven business-day or “as soon as” deposit deadline, your retention of employee funds constitutes a “prohibited transaction” and an excise tax is payable to the IRS. Additionally, the Department of Labor views it as a fiduciary breach.  It is possible to seek relief from the excise tax and from potential fiduciary liability by participating in the Department of Labor’s Voluntary Fiduciary Compliance Program or VFCP.  Late deposits of employee elective deferrals (and loan repayments) must be disclosed each year on your Form 5500 Return/Report, which in turn could trigger further inquiry, so compliance with your applicable deposit deadline is important.
    4. Plan audit requirementAs we covered in an earlier post, a business sponsoring a brand new 401(k) plan may be required to obtain an audit report on the plan’s operations and finances, prepared by an independent qualified public accountant or IQPA, at an annual expense of $5,000 – $15,000 or more.  These reports generally are required for plans with 100 or more participants as of the first day of the plan year, counting those who are eligible to participate whether or not they actually do so.  Proposed regulations for Form 5500 might change that rule, to count only those with plan account balances, but they have yet to be finalized and put into effect.  Until that time, businesses sponsoring new plans that will cover 100 or more eligible participants need to prepare for the audit process, both in terms of budgeting dollars for the cost, and time to gather responses to the auditor’s questionnaires.  New auditing standards going into effect this year put increased responsibilities on plan sponsors to account for plan operations and documentation.

    The above information is a brief summary of legal developments that is provided for general guidance only and does not create an attorney-client relationship between the author and the reader. Readers are encouraged to seek individualized legal advice in regard to any particular factual situation. © 2022 Christine P. Roberts, all rights reserved.

    Photo credit:  Goh Rhy Yan, Unsplash

    How to Prepare Business Owners for the Approaching CalSavers Deadline

    CalSavers is a state-run retirement program that applies to employers who do not already sponsor their own retirement plan.  It automatically enrolls eligible employees in a state-managed system of Roth IRA accounts. It has been in place since September 30, 2020 for employers with more than 100 employees and since June 30, 2021 for employers with more than 50 employees.  On June 31, 2022, it goes into effect for employers with 5 or more employees.  Below we cover key aspects of the CalSavers program, focusing on the types of issues that California business owners might bring to their benefits advisor for further clarification. A version of this post was published in the March 2022 issue of Santa Barbara Lawyer magazine.

    Q.1:  What is CalSavers?

    A.1:  CalSavers is the byproduct of California Senate Bill 1234, which Governor Brown signed into law in 2016. It is codified in Title 21 of the California Government Code and in applicable regulations. It creates a state board tasked with developing a workplace retirement savings program for private for-profit and non-profit employers with at least 5 employees that do not sponsor their own retirement plans (“Eligible Employers”).  Specifically, CalSavers calls for employees aged at least 18, and who receive a Form W-2 from an eligible employer, to be automatically enrolled in the CalSavers program after a 30-day period, during which they may either opt out, or customize their contribution level and investment choices.   The default is an employee contribution of 5% of their wages subject to income tax withholding, automatically increasing each year by 1% to a maximum contribution level of 8%. Employer contributions currently are prohibited, but they may be allowed at a later date.

    Q.2:  If a business wants to comply with CalSavers, what does it need to do?

    A.2:  The steps are as follows:

    • Prior to their mandatory participation date – which as mentioned is June 30, 2022 for employers with 5 or more employees, Eligible Employers will receive a notice from the CalSavers program containing an access code, and a written notice that may be forwarded to employees. Eligible Employers must log on to the CalSavers site to either register online, or certify their exemption from Calsavers by stating that their business already maintains a retirement plan. The link to do so is here. To do either, the employer will need its federal Employer Identification Number or Tax Identification Number, as well as the access code provided in the CalSavers notice. 
    • Eligible Employers who enroll in CalSavers will provide some basic employee roster information to CalSavers. CalSavers will then contact employees directly to notify them of the program and to instruct them about how to enroll or opt-out online. Those who enroll will have an online account which they can access in order to change their contribution levels or investment selections.
    • Once an Eligible Employer has enrolled in CalSavers, their subsequent obligations are limited to deducting and remitting each enrolled employee’s contributions each pay period, and to adding new eligible employees within 30 days of hire (or of attaining eligibility by turning age 18, if later).
    • Eligible Employers may delegate their third-party payroll provider to fulfill these functions, if the payroll provider agrees and is equipped to do so.  CalSavers provides information on adding payroll representatives once a business registers.

    Q.3:  How does a business prove it is exempt from CalSavers?

    A.3:  There are several steps:

    • First, it must have a retirement plan in place as of the mandatory participation date.  This may mean a 401(k) plan, a 403(b) plan, a SEP or SIMPLE plan, or a multiple employer (union) plan. 
    • Employers with plans in place must still register with CalSavers to certify their exemption.  The link is at https://employer.calsavers.com (Select “I need to exempt my business” from the pull-down menu.)  They will need their federal Employer Identification Number or Tax Identification Number and an access code that is provided on a notice they should have received from CalSavers.  If they can’t find their notice, they can call (855) 650-6916.  

    Q.4:     How does a business count employees, for the 5 or more threshold?

    A.4: To count employees for purposes of the 5 or more threshold, a business takes the average number of employees that it reported to the California Environmental Development Department (EDD) for the previous calendar year.  This is done by counting the employees reported to the EDD on Form DE 9C, “Quarterly Contribution Return and Report of Wages (Continuation)” for the quarter ending December 31 and the previous three quarters, counting full- and part-time employees.   So, for example, if a business reported over 5 employees to EDD for the quarter ending December 31, 2021 and the previous three quarters, combined, and it did not maintain a retirement plan, it would need to register with CalSavers by June 30, 2022.  If a business uses staffing agencies or a payroll company, or a professional employer organization, this will impact its employee headcount. The business should seek legal counsel as the applicable regulations are somewhat complex.

    Q.5: What are the consequences of noncompliance with CalSavers requirements?

    A.5:  There are monetary penalties for noncompliance, imposed on the Eligible Employer by CalSavers working together with the Franchise Tax Board. The penalty is $250 per eligible employee for failure to comply after 90 days of receiving the CalSavers notification, and $500 per eligible employee if noncompliance extends to 180 days or more after the notice.  CalSavers has begun enforcing compliance with the program in early 2022, for employers with more than 100 employees who were required to enroll by the September 30, 2020 deadline.   

    Q.6:  Are there any legal challenges to CalSavers?

    A.6:  Yes, but the main suit challenging the program has exhausted all appeals, without success. A bit of background information is necessary to understand the legal challenge to CalSavers. The Employee Retirement Income Security Act of 1974 (ERISA) generally preempts state laws relating to benefits, but a Department of Labor “safe harbor” dating back to 1975 excludes from the definition of an ERISA plan certain “completely voluntary” programs with limited employer involvement. 29 C.F.R. § 2510.3-2(d).  The Obama administration finalized regulations in 2016 that would have expressly classified state programs like CalSavers, as exempt from ERISA coverage, and thus permissible for states to impose. However, Congress passed legislation in 2017 that repealed those regulations, such that the 1975 safe harbor remains applicable. Arguing that the autoenrollment feature of CalSavers program makes CalSavers not completely voluntary and thus takes it out of the 1975 regulatory safe harbor, a California taxpayer association argued that ERISA preempts CalSavers.   On March 29, 2019, a federal court judge concluded that ERISA did not prevent operation of the CalSavers program, because the program only applies to employers who do not have retirement plans governed by ERISA.  The Ninth Circuit affirmed.  In late February 2022, the Supreme Court of the United States declined to review the case. Meanwhile, state-operated IRA savings programs are underway in a number of other states, including Oregon, Illinois and New York, and in the formation stages in yet others. 

    Q.7:  Does CalSavers apply to out-of-state employers? 

    A.7:  It can.  An employer’s eligibility is based on the number of California employees it employs, as reported to EDD. Eligible employees are any individuals who have the status of an employee under California law, who receive wages subject to California taxes, and who are at least 18 years old. If an out-of-state employer has more than 5 employees meeting that description, as measured in the manner described in Q&A 4, then as of June 30, 2022 it would need to either sponsor a retirement plan, or register for CalSavers.

    Q.8.  Does CalSavers apply to businesses located in California, with workers who perform services out of state? 

    A.8:  Yes, if the employer is not otherwise exempt, and if they have a sufficient number of employees who have the status of an employee under California law, who receive wages subject to California taxes, and who are at least 18 years old.

    Q.9: Can an employer be held liable over the costs, or outcome of CalSavers investments?

    A.9:  No.  Eligible Employers concerned about lawsuits should be aware that they are shielded from fiduciary liability to employees that might otherwise arise regarding investment performance or other aspects of participation in the CalSavers program.  In that regard, the CalSavers Program Disclosure Booklet, available online, goes into significant detail about the way CalSavers contributions will be invested; notably the cost of these investments (consisting of an underlying fund fee, a state fee, and a program administration fee).

    Q.10:  Can an employer share its opinions about CalSavers, to employees?

    A.10.  Not really.  Eligible Employers must remain neutral about the CalSavers program and may not encourage employees to participate, or discourage them from doing so. They should refer employees with questions about CalSavers to the CalSavers website or to Client Services at 855-650-6918 or clientservices@calsavers.com.

    The above information is a brief summary of legal developments that is provided for general guidance only and does not create an attorney-client relationship between the author and the reader. Readers are encouraged to seek individualized legal advice in regard to any particular factual situation. © 2022 Christine P. Roberts, all rights reserved.

    Call Me Maybe?  Prerecorded Wellness Messages Trigger Anti-Telemarketing Laws

    WellCare Health Plans, Inc., which primarily services Medicare and Medicaid enrollees, fell afoul of federal laws governing unsolicited telephone calls when it reached out with voicemail and pre-recorded messages about preventive services, and medical management and educational health programs.  In Fiorarancio v. WellCare Health Plans, Inc., 2022 WL 111062 (D.N.J. 2022), a New Jersey federal trial court denied WellCare’s motion to dismiss a compliant that the calls violated the Telephone Consumer Protection Act and related FCC regulations, even though the calls promoted free services.  The case provides some helpful insight on when wellness outreach via automated phone calls might cross the border of solicitation. 

    First, some background.  The TCPA dates back to 1991 when telemarketing and unsolicited faxes reached their peak.  Facilitation of the TCPA included creation of the National Do Not Call Registry in 2003.  The specific Federal Communications Commission regulations under the TCPA that are were at issue in the Fiorarancio case were as follows:

    • 47 C.F.R. § 64.1200(a)(1) prohibits any calls using an automatic telephone dialing system (robocalls) or an artificial or prerecorded voice, other than calls made for emergency purposes, or with the express consent of the called party.
    • 47 C.F.R. § 64.1200(a)(2) requires prior written consent if the robocall or pre-recorded calls include or introduce an advertisement or constitute telemarketing.  Exceptions to the written consent requirement apply if the call is made by or on behalf of a tax-exempt nonprofit organization, or delivers a “health care message” made by or on behalf of a covered entity or its business associate as defined under HIPAA. 

    Next, the relevant facts of the Fiorarancio case.  Mr. Fiorarancio had no relationship to WellCare or any of its plans.  Between February and December 2019, his cell phone received 18 voice mail messages, of which 4 were pre-recorded, intended for a third party (apparently WellCare was dialing a wrong number).  The messages addressed the third party by name and requested the person call back in relation to a number of matters including free preventive care, an educational health program, an in-home health assessment, and the Healthy Living program, which was a free service WellCare offered to those who were at risk of experiencing a drug therapy problem.  During that same time his cell phone also received two text messages with flu shot reminders.

    Mr. Fiorarancio brought a class action on the TCPA violations.  With regard to the National Do Not Call Registry, WellCare moved to dismiss the complaint on the grounds that that the calls were not telephone solicitations because they were merely intended to inform the recipient about WellCare benefits or health care in general.  The court disagreed, noting that even though the messages may have been informational on their face it was plausible that they were part of a larger marketing or profit-seeking scheme and thus within the TCPA’s scope.  It noted that the sizeable number of calls and their direct relation to WellCare’s business permitted the inference that they were a pretext to commercial activity, and the complaint did not need to specify the underlying purpose of the calls in order to survive a motion to dismiss.

    With regard to the 4 prerecorded messages falling within the scope of the consent requirement of the FCC regulations cited above, WellCare argued that as health care messages they were exempt from all prior consent requirements under the TCPA, not just the written consent requirement applicable to advertisements and telemarketing.  Plaintiffs rebutted that the health care messages were still subject to the general consent requirement.  The court agreed with this narrower interpretation of the health care message exception and upheld this aspect of the complaint.  It dismissed the compliant, however, with respect to the two text messages with flu shot reminders, due to prior case law that flu shot reminders were not solicitations under the TCPA.

    In its decision the court noted an Ohio case decided on similar grounds, Less v. Quest Diagnostics Inc., 515 F. Supp. 3d 715-757-18 (N.D. Ohio 2021) , in which a prerecorded message reminding of annual no-cost wellness visits were at issue; in that case a motion to dismiss the complaint under the TCPA also failed and the case went on to the discovery process in order to reveal more about whether or not the messages were a pretext to a solicitation.

    The lesson in this case is that wellness outreach does not have blanket immunity from laws prohibiting unwonted telephone solicitation, particularly where, as here, the number and persistence of the phone contacts suggests an overriding commercial aim.  Further, the health care message exception applies only to the written consent component of applicable FCC regulations, and the general consent requirement still applies if robocalls or recorded messages are put in use.

    The above information is a brief summary of legal developments that is provided for general guidance only and does not create an attorney-client relationship between the author and the reader. Readers are encouraged to seek individualized legal advice in regard to any particular factual situation. © 2022 Christine P. Roberts, all rights reserved.

    Photo credit: Wesley Hilario, unsplash