We are often asked — if the court issues an order, or the IRS issues a notice of levy — regarding a participant’s retirement plan benefits, I have to pay the money out, right? No, this is one of those situations where you don’t just hand over the lunch money because the other guy is bigger than you; you need to ask some more questions first.
A qualified retirement plan is required to be maintained for the exclusive best interests of the participants and beneficiaries and payment of reasonable administrative expenses (the exclusive benefit rule), and benefits must not be “alienated,” or given to others (the anti-alienation rule). These rules have several narrow and complicated exceptions.
A person demanding funds from a retirement plan should be able to cite the applicable law, should anticipate that the fiduciary would exercise due diligence in confirming that payment is proper, should be able to answer the fiduciary’s questions to enable the fiduciary to ascertain that the request is proper, and should be prepared to revise the demand if it is improper. But don’t be surprised if your diligence is instead met with disbelief, because not everyone making demands understands the rules.
We have seen many improper demands, where the fiduciary could have been found to have breached a fiduciary duty if he or she had complied with the demand. Essentially, the fiduciary could have been required to pay the amount twice – once from plan assets, and once from the fiduciary’s assets. A violation of the exclusive benefit rule could also disqualify the plan for tax purposes.
When an unusual situation arises, it may be necessary to educate not only yourself, but also the person making the demand. For example, in Chief Counsel Advice 201022015 (Release Date June 4, 2010, redacted), the IRS Office of Chief Counsel explained to its Division Counsel and revenue officer why a pension plan administrator was right to refuse to honor a levy, why the officer was “beyond his pay grade” authority, and what the officer needed to do to issue a proper levy. To summarize, the IRS cannot reach into a retirement plan and withdraw assets the participant himself is not permitted to withdraw. The IRS may be able to wait until income is distributed and levy against that income, or it might be able to levy against amounts that the participant has an immediate right to withdraw in lump sum. But in either scenario, the proper procedure must be followed.
Another common scenario is where parties are going through a divorce or dissolution, and one of the parties provides the court order regarding this to the plan administrator. The order may include a direction regarding a retirement plan, but the plan administrator is not permitted to follow this order unless it properly concludes that this is a “qualified domestic relations order.” In many cases, the order is not qualified because it does not contain the required elements. In fact most of the orders we see require revisions before they can be found qualified.
Bankruptcy trustees don’t make as many demands as they used to make because of changes in bankruptcy law, but if you do receive a demand, there is a good chance it is impermissible.
It can be difficult to stand firm when someone with apparent authority is demanding retirement plan money, and your own employee may not even understand why you are saying “no.” But until you are confident that a demand complies with the exclusive benefit and anti-alienation rules, that is exactly what you are required to do.