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Miami

Cypen & Cypen
SPECIAL SUPPLEMENT
for
JANUARY 11, 2007

Stephen H. Cypen, Esq., Editor

Never Forget - September 11, 2001

IRS ISSUES LONG-AWAITED PPA GUIDANCE:

On January 10, 2007, Internal Revenue Service issued Notice 2007-7 to provide guidance in the form of questions and answers with respect to certain provisions of the Pension Protection Act of 2006, Public Law 109-280, that are effective in 2007 or earlier.

Two sections of PPA addressed in the Notice are of great interest to public pension trustees and many public employees: Section 828 (relating to early distributions to public safety employees) and Section 845 (relating to distributions to pay for accident or health insurance for public safety officers).


Section 828 of PPA

Section 72(t)(1) of the Internal Revenue Code provides for a 10% additional tax on an early distribution from a qualified retirement plan, unless the early distribution qualifies for one of the exceptions listed in § 72(t)(2). For example, that section provides an exception to the 10% additional tax for distributions made to an employee who separates from service after attainment of age 55. The section does not apply to individual retirement plans.

Section 828 of PPA amended § 72(t) of the Internal Revenue Code by adding § 72(t)(10), which provides that in the case of a distribution to a qualified public safety employee from a governmental defined benefit plan, age 50 is substituted for age 55. Thus, the 10% additional tax on early distributions under § 72(t)(1) does not apply to a distribution from a governmental defined benefit plan made to a qualified public safety employee who separates from service after attainment of age 50. This exception to the 10% additional tax applies to distributions made after August 17, 2006 (date of enactment of PPA).

Here are some of IRS’s questions and answers:

Q-6. Who is a qualified public safety employee?

A-6. For purposes of § 72(t)(10), the term “qualified public safety employee” means an employee of a State or of a political subdivision of a State (such as a county or city) whose principal duties include services requiring specialized training in the area of police protection, firefighting services or emergency medical services for any area within the jurisdiction of the State or the political subdivision of the State.


Q-7. How does a qualified public safety employee qualify for the exception to the 10% additional tax under § 72(t)(10)?

A-7. In order to qualify for the exception to the 10% additional tax under § 72(t)(10), a qualified public safety employee (i) must have received the distribution from a governmental defined benefit plan after separating from service with the employer maintaining the plan and (ii) the separation from service must have occurred during or after the calendar year in which the qualified public safety employee attained age 50. For example, a qualified public safety employee who separated from service on June 30, 2006, and attained age 50 on December 12, 2006, is eligible for the exception under § 72(t)(10) with respect to distributions made after August 17, 2006.


* * *


Q-9. Does the exception to the 10% additional tax under § 72(t)(10) apply if the qualified public safety employee rolls over distributions from a governmental defined benefit plan into an IRA or a defined contribution plan and subsequently takes an early distribution from the IRA or defined contribution plan?

A-9. No. The exception to the 10% additional tax under § 72(t)(10) applies only to amounts distributed from a governmental defined benefit plan and does not apply to distributions from a defined contribution plan or an individual retirement plan.


Q-10. How does a payer report distributions that qualify for the exception to the 10% additional tax under § 72(t)(10) on Form 1099-R?

A-10. A payer is permitted to use distribution code 2 (early distribution, exception applies) in box 7 of Form 1099-R. However, a payer is also permitted to use distribution code 1 (early distribution, no known exception) in box 7 of Form 1099-R, if the payer does not know whether the exception under § 72(t)(10) applies.

Section 845 of PPA

Section 845(a) of PPA adds Internal Revenue Code § 402(l) and provides for an exclusion from gross income for distributions from certain retirement plans (“Eligible Government Plans”) used to pay qualified health insurance premiums of an eligible retired public safety officer. The exclusion applies with respect to an eligible retired public safety officer who elects to have qualified health insurance premiums deducted from amounts distributed from an Eligible Government Plan and paid directly to the insurer. Qualified health insurance premiums include premiums for accident and health insurance or qualified long-term care insurance contracts for the eligible retired public safety officer and his or her spouse and dependents. The distribution is excluded from gross income to the extent that the aggregate amount of the distributions does not exceed the amount used to pay the qualified health insurance premiums of the eligible retired public safety officer and his or her spouse and dependents. An “Eligible Government Plan” is a governmental plan described in § 414(d) that is a § 401(a), § 403(a) or § 403(b) plan; or an eligible governmental plan under § 457(b). The section applies to distributions in taxable years beginning after December 31, 2006.

Here are some of IRS’s questions and answers:

Q-20. Who is an eligible retired public safety officer for purposes of the exclusion under § 402(l)?

A-20. An employee is an eligible retired public safety officer for purposes of the exclusion under § 402(l) only if the employee is an individual who separated from service, either by reason of disability or after attainment of normal retirement age, as a public safety officer with the employer who maintains the Eligible Government Plan from which the distributions to pay qualified health insurance premiums are made. Thus, a public safety officer who retires before attainment of normal retirement age is not an eligible retired public safety officer unless the public safety officer retires by reason of disability. The terms of the Eligible Government Plan from which the participant will be receiving the distributions apply in determining whether a public safety officer has separated from service by reason of disability or after attainment of normal retirement age.


Q-21. Who is a public safety officer?

A-21. For purposes of § 402(l), the term “public safety officer” means an individual serving a public agency in an official capacity, with or without compensation, as a law enforcement officer, a firefighter, a chaplain or as a member of a rescue squad or ambulance crew. (This definition is per § 1204(9)(A) of the Omnibus Crime Control and Safe Streets Act of 1968.)


Q-22. Under what circumstances are the provisions of § 402(l) available for eligible retired public safety officers?

A-22. The favorable tax treatment under § 402(l) is available only when an eligible retired public safety officer elects to have an amount subtracted from his or her distributions from an Eligible Government Plan and such amount is used to pay qualified health insurance premiums. The employer sponsoring the Eligible Government Plan is not required to offer such an election.


Q-23. Can the accident or health plan receiving payments of qualified health insurance premiums be a self-insured plan?

A-23. No. The accident or health plan must be an accident or health insurance plan. Thus, the plan must be providing insurance issued by an insurance company regulated by a State, including a managed care organization that is treated as issuing insurance. This answer is quite a shocker, and could disqualify a substantial number of otherwise-eligible public safety officers.


Q-24. Will an eligible retired public safety officer be entitled to favorable tax treatment under § 402(l) with respect to benefits attributable to service other than as a public safety officer?

A-24. Yes. Benefits attributable to service other than as a public safety officer are eligible for favorable tax treatment under § 402(l), as long as the individual separates from service as a public safety officer, by reason of disability or after attainment of normal retirement age, with the employer maintaining the Eligible Government Plan.


Q-25. If an eligible retired public safety officer dies, are amounts subtracted from distributions made to the decedent’s surviving spouse or dependents eligible for favorable tax treatment under § 402(l)?

A-25. No. Section 402(l) provides that distribution is not includible in the gross income of an employee who is an eligible retired public safety officer. Thus, the exclusion would not extend to amounts subtracted from distributions to other distributees.


Q-26. Is an eligible retired public safety officer limited in the amount that the officer can exclude from gross income for distributions from an Eligible Government Plan used to pay qualified health insurance premiums?

A-26. Yes. The aggregate amount that is permitted to be excluded, with respect to any taxable year, from an eligible retired public safety officer’s gross income by reason of § 402(l) is limited to $3,000. For purposes of applying this $3,000 limitation, distributions with respect to the eligible retired public safety officer that are used to pay for qualified health insurance premiums from all Eligible Government Plans are aggregated.


Although Internal Revenue Service did not answer all questions raised by these sections of the Pension Protection Act of 2006, this guidance is extremely helpful. Presumably, other questions will be answered as time goes by or as needed. The entire Notice, which deals with several other PPA provisions, can accessed at http://www.treas.gov/press/releases/reports/notice20077.end.pdf.


Copyright, 1996-2007, all rights reserved.

Items in this Newsletter may be excerpts or summaries of original or secondary source material, and may have been reorganized for clarity and brevity. This Newsletter is general in nature and is not intended to provide specific legal or other advice.


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