Major changes are on the way for 403(b) plans. Named after Section 403(b) of the Internal Revenue Code enacted in 1958, 403(b) plans are retirement annuity contracts, mutual fund custodial accounts for employees of certain tax-exempt organizations, public educational organizations, and retirement income accounts established by churches or church-affiliated organizations.

The Internal Revenue Service is now putting these plans under the most scrutiny in over 40 years. And there are a lot of dollars in these plans. According to Cerulli Associates, a Boston-based consulting firm, there are approximately $650 billion in 403(b) plans.

The IRS’ objective? To have 403(b) plans look like, sound like, and act like 401(k) plans. In other words, 403(b) plan sponsors will now have to take responsibility for plan monitoring in contrast to the current practice of letting the employees interact directly with the mutual fund or insurance company. The increased IRS involvement is coming in two areas.

  1. Proposed regulations scheduled to be effective in 2008.
  2. An outreach program to ensure public schools comply with the Universal Availability rule, i.e., offering the plan to all eligible employees.

Here are some of the rules covered in the IRS regulation:

  • A new requirement that there be a written plan document.
  • Rules that govern the return of excess employee deferrals.
  • New required employer communication and transfer rules.
  • Rules governing the timing of depositing employee contributions.
  • Coordination of catch-up limits.
  • Availability of Roth contributions
  • Restrictions on life insurance.
  • Ability to terminate the plan.

These are all matter s that 401(k) plan sponsors have been dealing with since the beginning. But for many 403(b) plan sponsors who will be assuming administrative responsibility for these plans for the first time, it’s going to be a difficult process.

Tomorrow, I’ll discuss the IRS compliance initiative.