4094 / Can a 403(b) plan be frozen or terminated?

Yes, if certain conditions are met.

An employer is permitted to amend its 403(b) plan to eliminate future contributions for existing participants, or to limit participation to existing participants and employees. A 403(b) plan also is permitted to contain provisions that provide for plan termination and that allow accumulated benefits to be distributed on termination.¹

In the case of a 403(b) contract that is subject to distribution restrictions relating to
custodial accounts and 403(b) elective deferrals, termination of the plan and the distribution of accumulated benefits is permitted only if the employer does not establish a successor 403(b) plan by making contributions to any 403(b) contract that is not part of the plan during the period beginning on the date of plan termination and ending twelve months after distribution of all assets from the terminated plan, taking into account all entities that are treated as the same employer under IRC Sections 414(b), 414(c), 414(m), or 414(o) on the date of the termination.

The alternative 403(b) contract will be disregarded if, at all times during the period beginning twelve months before the termination and ending twelve months after distribution of all assets from the terminated plan, fewer than 2 percent of the employees who were eligible under the 403(b) plan as of the date of plan termination are eligible under the alternative 403(b) contract.

For a 403(b) plan to be considered terminated, all accumulated benefits under the plan must be distributed to all participants and beneficiaries as soon as administratively practicable after termination of the plan. For this purpose, delivery of a fully paid individual insurance annuity contract is treated as a distribution. The mere provision for, and making of, distributions to participants or beneficiaries on plan termination does not cause a contract to cease to be a 403(b) contract. The IRS has informally taken the position that a custodial account cannot qualify for treatment as a fully paid individual annuity contract.

Employers that cease to be eligible employers. An employer that ceases to be an eligible employer may no longer contribute to a 403(b) contract for any subsequent period and the contract will fail to satisfy Treasury Regulation Section 1.403(b)-3(a), which is the exclusion for contributions to 403(b) contracts, if any further contributions are made with respect to a period after the employer ceases to be an eligible employer.²

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Planning Point: The IRS has not recognized the distribution of custodial accounts as being terminating distributions from a plan.

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