Locating Missing Participants in Terminated Defined Contribution Retirement Plans

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1 Locating Missing Participants in Terminated Defined Contribution Retirement Plans This article is primarily directed at sponsors of defined contribution retirement plans that are subject to ERISA but is also helpful to all other sponsors of retirement plans seeking to locate missing participants. Updated in January 2017, this white paper summarizes proposed changes that would expand the existing Pension Benefit Guaranty Corporation s ( PBGC ) Missing Participants program to include missing participants and beneficiaries from terminated defined contribution plans (see page 4). Background The Internal Revenue Code ( Code ) requires that plan administrators distribute all plan assets from defined contribution plans as soon as administratively feasible following plan termination (Revenue Ruling 89-87, Treasury Regulation 1.403(b)-10)). For those participants with account balances that are eligible for rollover treatment, the plan administrator must provide a written explanation of the rules under which the distributee may elect that the distribution be paid in the form of a direct rollover to an eligible retirement plan, and the tax implications of such an election (Code 402(f)). When a participant does not respond with directions for distributing the account balance, the plan sponsor has a fiduciary obligation to try to locate the participant and distribute the account balance (Employee Retirement Income Security Act of 1974 ( ERISA ) 404(a)). Updated Department of Labor Guidance on Locating Missing Participants The Department of Labor ( DOL ) recently released Field Assistance Bulletin ( FAB ) (replacing FAB ) with updated guidance on locating missing participants in terminating defined contribution plans. (This guidance also broadly refers to unresponsive participants as missing participants, and the term missing participants also includes beneficiaries of missing participants.) The updates in FAB were necessary to reflect significant changes over the past 10 years in methods to find missing participants. For example, within the past two years, both the Internal FOR PLAN SPONSOR USE ONLY Massachusetts Mutual Life Insurance Company, Springfield, MA All rights reserved. MassMutual Financial Group is a marketing name for Massachusetts Mutual Life Insurance Company (MassMutual) [of which Retirement Services is a division] and its affiliated companies and sales representatives. RS C:

2 Revenue Service ( IRS ) and the Social Security Administration ( SSA ) discontinued their letterforwarding services to locate missing participants. Their rationale was that the internet has expanded so rapidly over the past decade that there are now various free and for-pay resources available to plan sponsors to locate missing participants. FAB points out that, in addition to expanded internet resources, the DOL has codified its enforcement safe harbor for distributing missing participant benefits under individual account plans (DOL Final Regulation a-3). Search Steps The plan sponsor is required to notify participants when the decision is made to terminate the plan and to solicit participant direction on the method of distribution. When the participant does not respond or the plan sponsor has reason to believe the participant has moved to an unknown address, the plan sponsor is required to pursue all the following steps in searching for missing participants: Certified Mail - DOL Final Regulation a- 3 includes a safe harbor model notice that a plan sponsor may choose to include with this mailing (but the sponsor is not required to use this model notice). The model notice is included as an Appendix at the end of this white paper. Check Related Plan and Employer Records The plan sponsor should check with the sponsor or administrator of any other related plans (such as health and welfare plans) that covered the participant to determine whether their records have a more upto-date address for the participant. If there are privacy concerns, the administrator of the other plan could forward the communication regarding the terminating defined contribution plan to the participant. Check With Designated Plan Beneficiary The plan sponsor must attempt to contact any designated beneficiary to find updated contact information for the missing participant. If there are privacy concerns, the beneficiary could forward the communication regarding the terminating defined contribution plan to the participant. Use Free Electronic Search Tools The plan sponsor must take reasonable action to utilize free internet search tools to locate missing participants (such as internet search engines, public record databases, obituaries and social media). Additional Search Steps If the initial search steps described above are not successful, the plan sponsor has fiduciary responsibility to determine whether additional steps are necessary based on facts and circumstances (such as the size of the missing participant s account balance and the cost of further search efforts). Additional search efforts may include other internet search tools, commercial locator services, credit reporting agencies, information brokers and investigation databases. Distribution Options When Search Steps are Unsuccessful When the plan sponsor is unsuccessful in locating missing participants using the required search steps (and possibly additional search steps), the plan sponsor must take action to distribute the remaining 2

3 account balances and FAB provides guidance on various distribution options. Preferred Distribution Option Individual Retirement Plan Rollovers ERISA 404(a) requires a plan fiduciary, whenever possible, to make a direct rollover of account balances that qualify as eligible rollover distributions to an individual retirement plan, thus avoiding immediate taxation. Prior DOL guidance requires the exercise of fiduciary judgment in selecting the financial institution for the individual retirement plan and in choosing the initial investment in the individual retirement plan. FAB recommends that plan sponsors follow prior DOL safe harbor guidance in choosing individual retirement plans, as specified in DOL Final Regulation a-3 that may be located via the website below: 14.pdf Alternative Distribution Options If the plan sponsor cannot locate a financial institution to accept a direct rollover of a missing participant s account balance or if facts and circumstances make the rollover an infeasible option, the plan sponsor may select one of the following options which will generally subject the account balance to immediate taxation, tax withholding, possible additional tax for premature distribution and tax on any earnings that accrue in the account: (A) Open an interest-bearing federally insured bank account in the name of the missing participant or beneficiary. The participant must have the unconditional right to withdraw funds from the account. In selecting the bank and accepting the initial interest rate, the plan fiduciary must scrutinize all available information including interest rates and fees. (B) Transfer/escheat to a state unclaimed property fund in the state of the missing participant s last known residential address or last work location. The plan sponsor would have to research each state s unclaimed property requirements. The sponsor should also consider whether the state has a searchable database for missing participants to find their retirement funds, and whether the state pays interest on the funds. A state statute cannot require a plan sponsor to transfer/escheat missing participants account balances but the plan sponsor can voluntarily take this action (per DOL Advisory Opinion 94-41A, ERISA 514(a) preempts state statutes). Unacceptable Distribution Option - 100% Income Tax Withholding The DOL believes that this option would violate ERISA fiduciary requirements and discussed this with the IRS in 2004 when they drafted FAB This option would essentially transfer all benefits to the IRS and would not necessarily be applied to the missing participant s income tax liabilities (particularly if it exceeded the income tax liabilities). This means that missing participants might not receive the full benefit to which they are entitled. Concerns Regarding the Customer Identification and Verification Provisions of the USA PATRIOT Act Sponsors of retirement plans have expressed concerns 3

4 regarding legal conflicts of establishing individual retirement plans or bank accounts to hold the funds of missing participants. The perceived conflict is with the customer identification and verification provisions ( CIP ) of the USA PATRIOT Act which establish standards for financial institutions to verify the identity of customers who open an account. In response to this concern, Treasury and other federal regulators issued guidance that can be accessed via the website below and the regulators clarified that the CIP requirements are only applied when the missing participant contacts the financial institution to claim ownership or exercise control over the account: See FAQs: Final CIP Rule at: and PBGC Proposed Regulation to Expand Its Missing Participants Program to Defined Contribution Plans and Other Defined Benefit Plans Even though defined contribution plans are not insured by the PBGC, Congress authorized the PBGC to expand its missing participants program to include participants under common types of terminated defined contribution plans, specifically, Code section 401(k) plans, profit sharing plans, money purchase plans, target benefit plans, employee stock ownership plans, stock bonus plans, and Code section 403(b)(7) plans. Under the proposal, this program would be voluntary for defined contribution plans. Instead of establishing an IRA, the plan sponsor could transfer the assets to the PBGC and the participant s account would earn interest while not being subject to ongoing maintenance fees or 4 distribution charges (a one-time low set up fee would apply for each person for whom the amount transferred exceeds $250). As an alternative to being a transferring plan, a plan sponsor could simply provide the PBGC with information regarding the IRA account that is set up for the missing participant and the PBGC would add him to their searchable database. There would be no fees or charges for notifying plans. The sponsor of a terminated defined contribution plan would need to file the required forms with the PBGC (along with payment, if required) no later than 90 days after all distributions are made to distributees who are not missing. After receiving public comments, the PBGC will issue a final regulation. The proposed implementation date is 2018 (to apply to plans that terminate after 2017). Conclusion Plan sponsors bear an important fiduciary obligation when terminating a defined contribution plan, and in making decisions regarding the disposition of missing participants account balances. The DOL has provided extensive guidance to help plan fiduciaries carry out their responsibilities. However, plan sponsors that are unsure of their responsibilities concerning plan terminations should work closely with their legal advisors to ensure that they are complying with the DOL guidance. MassMutual Regulatory Services This document is for informational purposes only and should not be construed as legal and/or tax advice. Please consult with your own legal counsel and other experienced advisors regarding the application of the matters described herein to your specific circumstances.

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