Certainly, a Favorable Determination Letter is optional, so why should you apply?

 

The answer: It adds plan protection.

 

A retirement plan "qualified" under Internal Revenue Code ('Code') Section 401(a) is entitled to favorable tax treatment. For example, contributions made in accordance with the plan document are generally currently deductible. However, participants will not include these contributions into income until the time they receive a distribution from the plan.

 

In many cases, taxation is further deferred by rollover to either another retirement plan or an IRA.

 

Finally, plan earnings accumulate free of tax, so long as the trust remains "qualified" (i.e., the documents are written in the proper form and the plan is operated in accordance with those documents).

 

Retirement plans that fail to satisfy the requirements of Code §401(a) are not entitled to this favorable tax treatment. Therefore, many employers desire advance assurance that the terms of their plans satisfy the qualification requirements, by obtaining a Favorable Determination Letter from the IRS, which specifically addresses the provisions of the submitting employer's plan.

 

IRS Announcement 2001-77 provides that employers who utilize pre-approved plan documents, such as those offered by REPTECH, may rely on the Opinion or Advisory Letter issued to REPTECH that the plan is "qualified." However, this "reliance" is limited and caveated.

 

According to Technical Answer Group, Inc.:

•  A standardized prototype plan -- standardized means it allows very little individual tailoring for a plan sponsor -- gives you reliance if it's the only qualified plan you sponsor; if you sponsor another, paired qualified plan; or if you terminated a qualified plan before starting your current one.
• A nonstandardized prototype or volume submitter plan -- nonstandardized and "vol sub" mean these plans allow you more individualization and flexibility -- gives reliance only if your plan is identical to an approved or specimen plan and if you stick only to the options allowed on the approved plan format.

• A rogue Revenue Agent having a bad day can't disapprove of your plan language or levy hefty fines. The plan's written form can't be challenged in an audit.
• A Favorable Determination Letter is an added protection for your company's income tax deduction and employer matching, and employees' pre-tax status. The Letter ensures an employee can roll over funds from your qualified plan to an IRA, if needed.
• If you sell your company and another company takes over the plan, the sale and purchase agreement may require a Favorable Determination Letter, ensuring the plan is qualified.
• If your company files for bankruptcy, a Favorable Determination Letter ensures that plan assets are exempt from the bankruptcy estate.

For additional assurance that your plan is qualified under Code §401(a), we recommend that you submit the plan for its own Favorable Determination Letter.