NTSA members will be dealing with these issues routinely, and clients are not likely to know their status, or how being an orphan account may affect them.
What Is an Orphan 403(b) Account?
It is an account held by the participant with a product provider that has been de-selected by the employer. There are two major types of orphan accounts:
1. those that are grandfathered; and,
2. those that are not grandfathered.
Grandfathered Orphan Accounts. When the IRS first posted 403(b) regulations, there was considerable discussion about the roughly seven million 403(b) accounts already in existence, and the need to provide relief to some of those accounts, which, before the regulations, were issued without information on the employers with which those accounts were written.
Thus, the IRS issued guidance in Revenue Procedure (Rev. Proc.) 2007-71 to define the types of orphan accounts and to grandfather a certain number of them. Grandfathering simply means that the 403(b) account is not required to be made a part of the employers’ plans and that participants holding those accounts would deal directly with the specific product provider holding the account for transactions. The grandfathered orphan accounts are:
1. accounts held by product providers that received no contributions for any employee of an employer on or after Jan. 1, 2005; and,
2. accounts that were properly transferred under Revenue Ruling 90-24 on or after Sept. 24, 2007.
Financial advisors may well need to help their grandfathered orphan account holders in their direct dealings with the product provider holding the 403(b) account since it is possible the product provider may not be aware of the grandfathered status.
Non-Grandfathered Orphan Accounts. This will include accounts of current employees held by providers which received contributions on and after Jan. 1, 2005 in the employer’s plan, and, on Dec. 31, 2008, was de-selected with no more contributions made to the account on or after Jan. 1, 2009.
Rev. Proc. 2007-71 requires that employers make a reasonable good faith effort to include these accounts in the employer’s plan by reaching out to the de-selected providers to provide information on the administration of the plan so that information sharing can take place. As a practical matter, if the de-selected provider can’t or won’t share information for compliance purposes, it is unlikely that the participants holding these accounts can get the necessary approvals to engage in activities such as loans or hardship withdrawals.
Financial Advisors may need to assist the account holders needing transactions in exchanging the non-grandfathered orphan accounts to accounts with providers that are a part of the employer’s plan (e.g., not de-selected). The Financial advisor must first determine if the employer’s plan permits exchanges; then, work closely with the participant to determine if the exchange is in the best interests of the participant.
The second category of non-grandfathered orphan accounts, often seen, is accounts held by product providers that have been de-selected on or after Jan. 1, 2009. Based on the requirement that a plan document be in place on and after Jan. 1, 2009, readers are reminded that, in this category, the product providers had agreed (under the terms of the plan document, and often through service provider agreements) to share information with the employer (sometimes through the employer’s TPA) for purposes of determining eligibility for transactions. Despite later being de-selected, the product provider would still be responsible for information sharing for the accounts held before de-selection. Because of the agreements in place before de-selection, there should be no issue for participants when transactions permitted by the plan document are needed.
Rev. Proc. 2007-71 specifies that contracts issued before Jan. 1, 2009, for an employee that, on Jan. 1, 2009 is a former employee (or a beneficiary), the former employee or beneficiary wishing to take a loan from the plan can do so only if “the issuer has made reasonable efforts” to determine whether there are other outstanding loans for which the outstanding balances would make the former employee or beneficiary ineligible for the loan. Reliance on information from the former employee or the beneficiary does not contribute reasonable efforts to determine whether there are other outstanding loans.
As a practical matter, we would expect the same rules to apply to loans requested by former employees regardless of when the contracts were issued, or when the employee has severed employment.
Financial advisors will want to have a clear understanding of the requirements as they assist their clients in managing the 403(b) accounts held by de-selected providers, and they will also want to help their employer clients understand those requirements.
Ellie Lowder, TGPC, Consultant