The IRS provided guidance in Notice 2016-39
on whether payments an employee receives from a qualified defined benefit plan during phased retirement are amounts received as an annuity under Section 72.
Phased retirement is an arrangement under which a participant in a qualified defined benefit plan receives a distribution of a portion of his or her retirement benefit while still working part-time for the employer sponsoring the plan. Depending on the qualified plan’s terms, the plan’s obligation to an employee receiving phased retirement payments might not be fixed within the meaning of Section 72 during the employee’s continued part-time employment because, for example, the employee’s date of full retirement might not be fixed. In addition, the employee might accrue additional benefits during the period of phased retirement that affect the amounts payable to the employee at full retirement. As a result, the plan may not be able to determine its total retirement obligations to the employee.
Notice 2016-39 says that if certain conditions specified within the notice are satisfied, distributions during phased retirement aren’t treated as payments received from an annuity for purposes of Section 72. This is important when determining the employee’s nontaxable “investment in contract” portion of the distribution.
Section 72 differentiates between amounts received from qualified plans and amounts received from nonqualified contracts. In Rev. Proc. 2016-36
, the IRS stated that Notice 2016-39 doesn’t apply to amounts received from nonqualified contracts (i.e., contracts that aren’t part of a qualified retirement plan).
In applying Treas. Reg. Secs. 1.72-2(b)(2) and 1.72-4(b)(1) to a nonqualified contract, the possibility of further contributions to the contract or a subsequent election to receive the nonqualified contract benefits in a different manner generally won’t affect the determination of whether payments are amounts received as an annuity.
Notice 2016-39 and Rev. Proc. 2016-36 apply to taxable years beginning on or after Jan. 1, 2016. However, taxpayers may apply the notice and revenue procedure to taxable years beginning before that date.
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