A terminated employee moves and doesn’t tell you and the check for the small benefit forced out of your retirement plan gets returned. A participant requests a distribution and the check gets delivered, but it is never cashed. Sound familiar? Almost every retirement plan deals with uncashed checks. Often these are small benefits that were forced out of the plan or required minimum distributions, but sometimes these are large checks that the participant requested that don’t get cashed. It always baffles me when a client calls me about a six-figure check and makes me wish I was independently wealthy enough to not care to cash a six-figure check. Uncashed checks raise several compliance issues for plan sponsors sometimes without them realizing it.
One compliance consideration that has plagued employers around uncashed checks is how to handle the withholding that was taken from the check and then what to do when the check is reissued. This month the IRS released a Revenue Ruling that clarified the withholding and reporting obligations when a retirement distribution remains uncashed and when a replacement check is issued. This guidance provides that the later cancellation of an uncashed check does not result in the right to a refund of the amounts withheld. It also does not result in the reversal of the Form 1099-R when the check is later cancelled. Therefore, the participant is taxed on those amounts even if they never cashed the check.
Employers have also struggled with how to handle withholding when the participant later resurfaces and requests a replacement check. In this Revenue Ruling, the IRS further confirmed that if the replacement check is for the same amount, no additional withholding is needed, and no new Form 1099-R needs to be issued. However, if the replacement check is for a greater amount, additional withholding would be required and a new Form 1099-R would need to be provided but only taking into income the portion that exceeds the amount of the first check.
In addition to the withholding issues, another compliance concern that uncashed checks raise is the fiduciary duty to find missing participants. Plan sponsors have a fiduciary duty to try and locate missing participants. Is it enough for the plan sponsor to send a check to the last known address on file for the participant? Unfortunately, it is not that simple. The Department of Labor (DOL) particularly focuses on this duty for any participant who is owed a required minimum distribution, but in all cases they expect plan sponsors to make effort to find missing participants. The DOL issued best practices for plan sponsors in searching for retirement plan participants that include steps employers should take, such as checking other plan records and using commercial locator services to find missing participants. More info on that guidance and best practices can be found in our prior post. Many recordkeepers have services where they will assist plan sponsors in finding missing participants. If you have done your due diligence in finding participants, but still cannot locate them you are often stuck with the benefit if it is in excess of the amount of the plan’s force-out or is so small that your plan’s force-out IRA provider won’t accept the benefit. For these very small benefits, the DOL issued a temporary enforcement policy earlier this year that allows plan sponsors to transfer unclaimed benefits to a state’s unclaimed property fund in limited circumstances.
Another thing employers often forget to think about with uncashed checks is what happens to the earnings on those checks while they remain uncashed? When a distribution is requested or is forced out, the financial institution holding the assets normally transfers the funds to an omnibus account. While the funds are in the omnibus account, it is the financial institution, not the participant or the plan, that is benefiting from any earnings. These earnings are commonly referred to as float. Allowing the financial institution to keep the float can result in a prohibited transaction if certain conditions are not met. If the institution is keeping the float, it is part of their compensation and should be considered by the plan sponsor when determining if their compensation is reasonable. If you are unsure how float is being handled in your retirement plan, reach out to your custodian/trustee to request information on any float that it receives on your plan.
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