The New Rollover Rules and Twenty Percent Withholding Tax on Pension Distributions: Does Good Pension Policy Favor Their Repeal

Authors

Leandra Lederman Gassenheimer, Mercer University School of Law

First Page

75

Document Type

Article

Abstract

In July 1992, President George Bush signed into law the Unemployment Compensation Amendments (UCA) of 1992,1 which included provisions substantially changing the treatment of many distributions from qualified plans and section 403(b)3 tax sheltered annuities (TSAs). The provisions affecting qualified plans and TSAs generally became effective January 1, 1993, with a transition rule provided for certain TSAs that could delay the effective date of the provisions for such TSAs until January 1, 1994. The UCA expanded the types of distributions from such plans and annuities eligible for deferral of income tax by rollover6 to another qualified plan, TSA or individual retirement account (IRA). Among the changes made by the UCAs is a new provision of the Internal Revenue Code (Code) of 1986, as amended, that requires plans to provide a "direct rollover option" in order to be tax-qualified. The price for the expansion of the rollover rules was an unprecedented twenty percent withholding tax on distributions that are eligible for "direct rollover" to another plan but that are rolled over in another fashion or are not rolled over at all. The new withholding tax and rollover rules have been complicated and confusing since their inception, requiring numerous administrative technical revisions and attempts at clarification." This article analyzes the new rules in the context of the policies behind the tax treatment of pension plans. Part I of the article discusses these policies. Part II explains the current system of taxation of tax-qualified plans and IRAs and outlines the rollover rules prior to the UCA changes. Part III of the article discusses the changes to pension plan distributions imposed by the UCA, the regulations thereunder and the IRS releases interpreting the new law. Part IV criticizes the UCA changes and analyzes the problems with the new provisions governing pension plans. The article concludes that encouraging retirement savings is a valuable policy goal, and that the twenty percent withholding tax on pension plan distributions should be repealed because it does not further this goal. The article further concludes that the provision of a direct rollover option should not be a plan qualification requirement.

Recommended Citation

Leandra Lederman Gassenheimer, The New Rollover Rules and Twenty Percent Withholding Tax on Pension Distributions: Does Good Pension Policy Favor Their Repeal, 7 St. Thomas L. Rev. 75 (1994).
Available at: https://scholarship.stu.edu/stlr/vol7/iss1/4