There’s finally an end to seven years of legal ambiguity on whether certain direct payments from a retirement plan participant’s account to an insurance carrier — for certain kinds of coverage — are taxable or not.

Final regulations published in Monday’s Federal Register (T.D. 9665) confirm a version originally proposed in 2007. The transfer of funds focuses on accident, health and disability insurance.

The opportunity to enable eligible employees to take advantage of the tax-free insurance premium payments may be appealing to employer clients and benefit advisers can now alert them to the latest rules.

In general, accident and health insurance premiums paid directly from the retirement plan to carrier are considered taxable distributions, as was stated in the 2007 proposed version of the Internal Revenue System rules. But the new regulations clarify some important exceptions.

The details

In the case of accident and health insurance, those payments are not taxable if paid from a qualified retiree health account as described in Section 401(h) of the tax code. Among other requirements, 401(h) accounts “must be subordinate to pension benefits” according to the IRS. Another exception involves payments for qualified public safety officers.

Under the final regulations, payments from a participant’s retirement plan account for disability insurance are not taxable if the purpose of the insurance is to enable a disabled employee to continue making retirement plan contributions they can no longer afford to make because they are no longer receiving their regular wages or salary.

The plan must satisfy these conditions:

  • Premiums are paid directly from the plan,
  • The plan receives benefit payments from the carrier and they are used to continue funding the disabled participant’s retirement account, and
  • Those benefit payments “aren’t more than a reasonable expectation of what the participant would have received as an annual contribution during the disability period, reduced by other contributions,” according to the IRS.

It’s not required to comply with the new rules until 2015, but they can be taken advantage of as of May 12, the date they were published.
The final regulations can be read here.

Stolz is a freelance writer based in Rockville, Md.

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