Heroes Earnings Assistant and Relief Tax (HEART) Act
Rev. 07/24/08, E-mail Alert 2008-10

The Heroes Earnings Assistance and Relief Tax Act (HEART Act) was signed into law June 17, 2008. It creates Code Section 401(a)(37) and affects qualified plan rules for those called into the military. It contains a number of changes to help service men and women and their families. It also has an impact on cafeteria plans and expatriation rules.

USERRA dealt with veterans after they were rehired and protecting their rights and it does a wonderful job of doing that. Those returning within the proscribed timeframes are required to have retirement plan benefits that were missed made-up by the employer. For example, vesting service, profit sharing contributions, and non-elective safe-harbor 401(k) contributions must all be provided retroactively. Further, veterans were provided the ability to make-up missed deferrals and receive any corresponding match.

The HEART Act amends USERRA and addresses something that was not previously covered , namely, providing similar benefit protection to those who died or became disabled and could not return to work. Thus, enabling plans to treat a deceased/disabled servicemen as if they had returned to work on the day before dieing or becoming disabled. This article will analyze the sections of the law relevant to retirement plans.

Section 104 of the HEART Act

Code Section 401(a)(37) Created:
Ҥ401(a)(37) DEATH BENEFITS UNDER USERRA-QUALIFIED ACTIVE MILITARY SERVICE.
A trust shall not constitute a qualified trust unless the plan provides that, in the case of a participant who dies while performing qualified military service (as defined in section 414(u)), the survivors of the participant are entitled to any additional benefits (other than benefit accruals relating to the period of qualified military service) provided under the plan had the participant resumed and then terminated employment on account of death.’’

Effective Date
In general, the amendments made by this section of the HEART Act shall apply with respect to deaths and disabilities occurring on or after January 1, 2007.

Plan Amendments
The plan is to be operated under the HEART Act immediately for deaths or disabilities occurring on or after January 1, 2007. The amendment for a qualified plan is to be made by the last day of the first plan year beginning on or after January 1, 2010. (Governmental plan deadline is two years later.)

Treatment in the case of death or disability resulting from active military service:
A. For benefit accrual purposes, an employer sponsoring a retirement plan may treat an individual who dies or becomes disabled (as defined under the terms of the plan) while performing qualified military service with respect to the employer maintaining the plan as if the individual has resumed employment in accordance with the individual’s reemployment rights under USERRA, on the day preceding death or disability (as the case may be) and terminated employment on the actual date of death or disability.

In the case of any such treatment, and subject to the following paragraphs, any full or partial compliance by such plan with respect to the benefit accrual requirements with respect to such individual shall be treated as if such compliance were required under USERRA.

B. Nondiscrimination requirement. With respect to the employer maintaining the retirement plan, all individuals performing qualified military service who die or became disabled as a result of performing qualified military service -- prior to reemployment by the employer -- are to be credited with service and benefits on reasonably equivalent terms.

C. Determination of benefits. The amount of employee contributions and the amount of elective deferrals of an individual treated as reemployed on the day before death or disability shall be determined on the basis of the individual’s average actual employee contributions or elective deferrals for the lesser of—

(i) the 12-month period of service with the employer immediately prior to qualified military service, or

(ii) if service with the employer is less than such 12-month period, the actual length of continuous service with the employer.’’.

Affects 403(b) and eligible deferred compensation plans also
Conforming code amendments requiring compliance with §401(a)(37) were made to 403(b) arrangements, i.e. new §403(b)(14), and eligible deferred compensation plans (§457(g) amended).

Differential Military Pay as Wages Section 105 of HEART Act
Code Section 3401(h) created: Differential wage payments to active duty members of the uniformed services are wages.

Any differential wage payment shall be treated as a payment of wages by the employer to the employee effective for remunerations paid after December 31, 2008.

A differential wage payment is defined as any payment which:

(A) is made by an employer to an individual with respect to any period during which the individual is performing service in the uniformed services (as defined in USERRA) while on active duty for a period of more than 30 days, and
(B) represents all or a portion of the wages the individual would have received from the employer if the individual were performing service for the employer.’’.

Essentially, the employer pays the difference between the amount of the military pay and what the employee was making on the job. These payments are now considered wages for withholding and qualified plan purposes.

NOTE: Small employer tax incentive for amounts paid from June 17, 2008 to December 31, 2009. Employers with less than 50 employees are eligible for a tax credit of 20% of the eligible differential wage payments for each qualified employee up to $4,000 per employee.

New code section 414(u)(12) Treatment of differential wage payments for retirement plans:
Qualified plan contributions to be made on the differential pay of an individual receiving a differential wage payment shall be treated as if the individual was an employee of the employer making the payment and accordingly the differential wage payment shall be treated as compensation.

Special rule for distributions.
An individual shall be treated as having been severed from employment during any period the individual is performing service in the uniformed services and thus may take distributions from the plan, including deferrals. However, if deferrals are withdrawn, the plan shall provide that the individual may not make an elective deferral or employee contribution during the 6-month period beginning on the date of the distribution of deferrals.

Nondiscrimination Requirement.
Plan shall not fail nondiscrimination if all employees of an employer performing service in the uniformed services described in section 3401(h)(2)(A) are entitled to receive differential wage payments on reasonably equivalent terms and, if eligible to participate in a retirement plan maintained by the employer, to make contributions based on the payments on reasonably equivalent terms. For this purposes, the 410(b) provisions of paragraphs (3) statutory exclusions, (4) statutory eligibility, and (5) QSLOB provisions shall apply.

IRAs
Differential wage payments treated as compensation for IRAs. Section 219(f)(1) (defining compensation) is amended by adding at the end the following new sentence: ‘‘The term compensation includes any differential wage payment (as defined in section 3401(h)(2)).’’.

Plan Amendments:
Plans or contracts shall be treated as being operated in accordance with the terms of the plan or contract during the period prior to the amendment being made. The plan amendment is to be made on or before the last day of the first plan year beginning on or after January 1, 2010. Governmental plans will be two years later.

§107 Qualified reservist distributions made permanent.
This began as a Pension Protection Act of 2006 provision that was to run from September 11, 2001 until December 31, 2007, and has been made permanent by the HEART Act. An individual who is/was in the reserves and is/was called into active duty for more than 179 days is entitled to withdraw certain retirement funds without incurring the under age 59½ 10% penalty. This applies to distributions from IRAs and to elective deferrals from a 401(k) or 403(b), provided the distribution is made between the beginning date on the order/call and ending at the close of the active duty period. Further, any or all of the amount so withdrawn may be repaid during the two-year period starting on the day after active duty is ended. As this reinstates a provision that expired December 31, 2007, it is effective January 1, 2008.

§109 Contributions of Military Death Gratuities and group life insurance payments to a Roth IRA or Coverdell Education Savings Account

Effective date is for deaths from injuries occurring on or after June 17, 2008. In addition, contributions based on deaths or injuries that occurred from October 7. 2001 until June 17, 2008 may be made within one year after June 17,2008.

Expatriation impact on retirement plans
While not connected to military service there were additional components to the law dealing with distributions from retirement vehicles for those who will be becoming expatriates and taking their retirement distributions overseas. Distributions will be taxed at a set withholding rate even if a treaty exists setting a different rate for the country where they will be residing.

Expatriation and IRAs
The IRA (except for SEP or SIMPLE IRAs) is deemed to be distributed on the day before the expatriation date. This rule also applies to a number of IRA-like products, specifically: Health Savings Accounts (HSAs), Coverdell Education Savings accounts, 529 qualified tuition programs, and Archer MSAs.

Expatriation and Retirement Plans
For SEPs, SIMPLE IRAs, qualified plans under 401(a), 403(b)s, deferred compensation plans maintained by the United States, plan maintained by state or local governments (excluding amounts deferred under 457(b) plans), any interest in a foreign pension plan, any nonqualified plan, any right to property that has not been previously taxed under Section 83, certain “eligible deferred compensation items” there will be a mandatory withholding of 30% of a distribution, regardless of the treaty rate or any other withholding rules. .

An “eligible deferred compensation item” is defined as one in which two requirements are met.

1. The employer/payor must either be a US person or a non-US person who elects to be treated as a US person for purposes of these tax withholding requirements, and
2. the expatriate must notify the employer/payor of his status as a covered expatriate and must irrevocably waive any claim for a reduction in withholding under any treaty with the US.

If the item is not an “eligible deferred compensation item” then the value of the expatriate’s account is deemed to be distributed on the day before expatriation occurred. It is treated as vested and includible in income on the day before expatriation.

Effective Date: These new rules apply to individuals becoming expatriots after June 17, 2008.

Bill Grossman, QPA