On July 21, the IRS announced that it is eliminating its current determination letter program for tax-qualified retirement plans. (IRS officials had been sending signals that this was coming for several months. It is now official.) Starting in 2017, the IRS will accept determination letter applications in only three circumstances:

  1. Initial qualification for a new plan. The IRS will still review any plan that has not previously received a determination letter.
  2. Plan termination. The IRS will still accept applications for a determination upon termination of a plan.
  3. Other limited circumstances to be determined by the Treasury Department and IRS. The Announcement says that Treasury and the IRS intend periodically to request public comments on what circumstances should be included in this category.

For plan sponsors, favorable IRS determination letters provide protection against disqualification for a “plan document failure”–for example, if the IRS later determines that a plan provision does not comply with the tax-qualification requirements or the IRS determines that a required provision is missing. Given the significant potential costs of a plan being disqualified, third parties often rely on determination letters to confirm that a plan is qualified. For example, buyers in corporate transactions, plans and IRAs accepting rollovers, and lenders often request to see copies of a plan’s favorable determination letter.

The IRS has stated that the reason for the change is “to more efficiently direct its limited resources.” Recognizing the importance of IRS determinations, the IRS has solicited comments on alternative ways to provide comfort that a plan remains qualified. In particular, the IRS has indicated an openness to the following:

  • Creating a list of limited circumstances that justify requesting a new determination between the time of initial qualification and plan termination (category #3, above);
  • Modifying the “remedial amendment period,” during which sponsors may adopt retroactive amendments to correct plan document problems;
  • Limiting the extent to which sponsors must adopt “interim amendments” to comply with changes in law;
  • Allowing more incorporation of tax-qualification requirements by reference to statutes and regulations, rather than specifying all of the details in the plan document;
  • Providing more model amendments;
  • Making it easier to convert from an individually designed plan to a pre-approved plan; and
  • Updating the IRS’s correction program, to make it easier to correct plan document failures that otherwise would have been addressed through the determination letter process.

The tone of the Announcement and public statements suggests that the IRS’s principal objective is to free up resources that have been consumed reviewing routine amendments. In recent years, the agents reviewing determination letter applications have focused on plan language for technical issues like funding rules, top heavy requirements, transferring out of employer stock funds, plan mergers and section 415 limits–many of which have no effect on the actual operation of plans. The IRS appears to be open to reducing the burden on plan sponsors from having to amend plans for these requirements.

The Announcement leaves several questions for another day. Here are three:

  1. Favorable determination letters issued since 2011 have expiration dates. The IRS has not yet indicated whether existing letters will still expire after the determination program is closed.
  2. The IRS has not addressed alternatives that might be available to get approval for less routine amendments–such as converting to a new plan design or otherwise changing the benefit formula. We expect that it will still be possible to get advance approval for major design changes, although it might require jumping through procedural hoops that were not required in the past.
  3. As noted above, most agreements for significant corporate transactions (mergers and acquisitions, loans, etc.), and many plans and IRAs accepting rollovers, require representations about a plan’s qualified status, including a representation that the plan has a favorable determination letter. Changes might become necessary to these provisions as more time passes since the last favorable determination.

In any event, the existing determination letter program will continue through January 31, 2017, for sponsors on Cycle E (EIN ending in 5 or 0, due January 31, 2016) and Cycle A (EIN ending in 1 or 6, due January 31, 2017).

Stay tuned for more guidance on this topic.