With some recent suggestions from both CUNA and NAFCU, the IRS may be one step closer to providing guidance on determining whether a retirement plan offered by federal credit unions are considered a governmental plan under the Internal Revenue Code.
More than seven years in the making, the issue first came to light in 2004 when the IRS issued a private letter ruling that stated that a FCU was not an eligible employer under Section 457 of the IRC because it was a federal government instrumentality.
The letter ruling, however, failed to say which section of the code would apply to FCUs, leaving them under a cloud of uncertainty with respect to their existing 457 plans that they had established many years before. To address the concerns of FCUs, the IRS issued a notice that gave relief to any FCU that had a 457 plan in effect on Aug. 15, 2005. While the notice may have been helpful to FCUs with existing 457 plans, it did not address whether a FCU could set up a new 457 plan.
Since the notice was published in 2005, many FCUs have cautiously established new 457 plans, knowing that the IRS would eventually issue guidance.
In November 2011, the IRS released a notice announcing that it would be issuing proposed regulations that would define the term governmental plan under Section 414(d) of the code. The IRS pointed out that the principles set out in the 414(d) regulations would generally also apply for purposes of section 457.
Under the IRS proposal, a governmental retirement plan would be a plan that is established and maintained for its employees by the government, an agency of the government, or a governmental instrumentality.
The IRS has recommended a facts and circumstances test that asks whether an entity offering a given retirement plan performs or assists in a governmental function is exempt from federal, state and local tax or receives financial assistance from the government, among other questions.
CUNA said while it generally agrees with the IRS’ proposed test, it suggested that some of the terminology in the test questions could be sharpened and the IRS could add a question addressing how a given entity's trustees or operating board are selected, wrote CUNA Associate General Counsel Luke Martone in a Feb. 6 comment letter.
Meanwhile, NAFCU said because FCUs are restricted in their ability to offer competitive compensation packages to qualified executives, it supports clarification that would determine if they are eligible to maintain them.
“While we support the general conclusion that FCUs are eligible employers, we do not agree with the IRS’s analysis and conclusion that FCUs are not federal instrumentalities,” wrote Tessema Tefferi, NAFCU regulatory affairs counsel, in a Feb. 6 comment letter.
The IRS had previously said that a FCU is not an agency or instrumentality of the U.S. because its board of directors are elected by its own members and the directors are not responsible to the U.S., except to the limited extent set forth in the Federal Credit Union Act and regulated by the NCUA.”
However, NAFCU cited a 1988 court case that apparently affirmed that FCUs are federal instrumentalities. Tefferi said their status does not disqualify them from being eligible employers able to maintain 457(b) plans but they are eligible because they are exempt from taxation.