United States

IRS issues guidance on uncashed retirement distribution checks

TAX ALERT  | 

Frequently, a 401(k) or other retirement plan will issue a distribution check payable to a terminated employee. The Internal Revenue Code generally requires the plan administrator (typically, the employer) to withhold income tax from the distribution and to report the distribution on Form 1099-R. However, when the check goes uncashed, retirement plan administrators have long been uncertain as to what their reporting and withholding obligations are in that case. Specifically, when a plan administrator would redeposit the check back into the plan, the question is: do they have an obligation to request the withholding back from the IRS (to deposit in the plan) and to issue an amended Form 1099-R?

In Revenue Ruling 2019-19, the IRS confirmed that the employee’s failure to cash a distribution check the plan issued, and that was received, does not:

  • Alter the plan administrator’s obligation to withhold income tax
  • Change the plan administrator’s obligation to report the distribution on Form 1099-R

In addition, the IRS confirmed in its ruling that the individual’s failure to cash the distribution check received in 2019, does not permit the individual to exclude the amount of the distribution from their gross income in the year the plan issued the check.

The ruling did not indicate whether the employee lost the check, or just failed to cash it due to inaction on their part. Both situations are surprisingly common, so this was a much needed and helpful guidance.

However, what is more common is that a plan distribution check goes uncashed because the plan sent the check to what has become an incorrect mailing address, and the plan is unable to find a correct address (i.e., the participant has become a missing participant). In that regard, the ruling indicated that the Department of the Treasury and the Internal Revenue Service continue to analyze issues that arise in other situations involving uncashed retirement plan checks and missing participants.

From a plan administrator’s perspective, it is important to remember that uncashed distribution checks are plan assets, and that plan sponsors should consider taking proactive steps towards avoiding the problem. For example, a plan administrator should:

  • Periodically update its records as to participant addresses (either on its own, through search engines, obituaries and beneficiary designations, or by using a participant locator service).
  • Raise the cash-out distribution level in the plan to amounts less than $5,000 (most plans use $1,000) and adopt an automatic IRA rollover procedure for those less than $5,000 cash-out distributions.
  • Make an effort to keep beneficiary designations up to date for employees still active, as sometimes a plan can find a missing participant by contacting his or her named beneficiaries.

These steps will go a long way towards minimizing a plan’s issues with uncashed checks and missing participants. This is an important compliance step as missing participants are a hot button issue with both the Internal Revenue Service and the U.S. Department of Labor. The Department can and will assert a fiduciary violation against an employer that fails to distribute participant benefits when due.

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