The IRS has given pension plan sponsors what they've wanted for years: the green light to use a higher fixed rate when crediting interest to their employees' cash-balance accounts.
The agency also delivered good news to 401(k) account holders that after-tax money in their accounts can be rolled into a Roth IRA tax-free.
Sponsors of cash-balance, which offer features of both defined benefit and defined contribution plans, have been in limbo on the interest rate question since 2010.
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Originally, the IRS said the credit could not exceed the "market rate of return," but employers balked.
The long-awaited final rules, which will apply to plans beginning on or after Jan. 1 2016, raise the rate from 5 percent to 6 percent.
Other cash-balance plans that use the Consumer Price Index to set their funding levels can now raise their interest rate funding floor to as high as 5 percent. Previously, the IRS had proposed setting the maximum floor at 4 percent.
Some cash-balance plans are designed to give participants some choice in how their benefits are funded and dispersed, but in the final rules released this week, the IRS said the rules determining how interest rate credits are set in that context are "under further study."
The Pension Protection Act of 2006 had stated that cash-balance and other hybrid plans would fail to meet nondiscrimination requirements if the rate exceeded the market rate of return.
In the other good news this week from the IRS, the agency addressed the question of whether after-tax contributions could be rolled over into Roth IRAs, tax-free. This question, too, has remained unanswered for years.
The regulation, which applies to 403(b) and 457 plans as well, affects all rollovers of after-tax contributions on or after Sept. 18.
Ed Slott, an IRA expert who runs irahelp.com, told ThinkAdvisor, a BenefitPro affiliate, that advisors will have to do "some handholding" with clients to make sure they understand the implication of the new rule.
"The first thing advisors should do is to make sure they know all of their clients who have after-tax money in a 401(k)," he said.
Plan sponsors have records of what money was contributed after it has already been taxed. Advisors will have to help their clients report to plan administrators when after-tax distributions have been rolled over into a Roth IRA, according to Slott. The rule is detailed in IRS Notice 2014-54.
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Nick Thornton
Nick Thornton is a financial writer covering retirement and health care issues for BenefitsPRO and ALM Media. He greatly enjoys learning from the vast minds in the legal, academic, advisory and money management communities when covering the retirement space. He's also written on international marketing trends, financial institution risk management, defense and energy issues, the restaurant industry in New York City, surfing, cigars, rum, travel, and fishing. When not writing, he's pushing into some land or water.
