IRS Finalizes Restrictions on NRA in Pension Plans

The IRS recently released final regulations on phased retirement that restrict a plan’s normal retirement age (NRA) to an industry-based typical retirement age and establish certain safe harbors for in-service distributions.

The regulations take effect immediately. There is no corrective period for operational compliance, so plans with early NRAs should stop making in-service distributions available to participants immediately. The regulations establish separate effective dates for governmental plans and for plans maintained pursuant to collective bargaining agreements.

Background
In 2004, the IRS proposed regulations allowing phased retirement as long as employers and employees met several requirements, including a reduced work schedule, an age limit of 59½, annualized compensation and special nondiscrimination rules. The proposed regulations also required a plan’s NRA to be reasonably representative of a typical retirement age for the covered workforce, essentially proposing a minimum NRA.

The Pension Protection Act of 2006 (PPA) expressly permits distributions “to an employee who has attained age 62 and who is not separated from employment at the time of such distribution.” This provision is simultaneously more liberal than the proposed regulations, in that it imposes virtually no administrative requirements for in-service distributions, and more restrictive, in that phased retirees must be at least 62, rather than 59½.

The Final Regulations
Because of the PPA provision permitting in-service distributions at age 62, the IRS decided not to finalize the portion of the regulations concerning phased retirement, and has previously solicited comments regarding whether to finalize those regulations (see Watson Wyatt Insider, February 2007). However, even as the phased retirement portion of the regulations is being reconsidered, the IRS decided to go ahead and finalize the restrictions on NRA.

In a slight deviation from the proposed regulations, the NRA may not be younger than the youngest reasonably representative retirement age in the employer’s industry. The regulations establish an NRA safe harbor for ages 62 and older, and call for a facts-and-circumstances standard for NRAs from 55 to 62. The new rules create a rebuttable presumption that an NRA younger than 55 fails to satisfy the new NRA requirements. In plans that cover only qualified, essential public safety employees, the safe harbor applies to NRAs of 50 and older.

The regulations establish a remedial amendment period and amend the anti-cutback regulations under section 411(d)(6), so a plan amendment that increases the NRA will not violate the anti-cutback rules merely because the amendment eliminates a right to an earlier in-service distribution.

However, the regulations do not provide 411(d)(6) relief for reductions to participants’ accrued benefits, so the amount payable at any commencement age on or after the old NRA (though now payable only if the participant separates from service) may not be less than the amount payable before the plan amendment. The remedial amendment period generally ends on the date income taxes are due for the employer’s 2007 taxable year.