IRS Proposed Regulations for Plan Forfeitures

Today, employees are more likely than ever to seek new employment opportunities and change jobs. These employees may leave a company before becoming fully vested in their qualified retirement plan benefits – which may result in forfeiture of their unvested benefits. What is a retirement plan sponsor supposed to do with the forfeited amount? More importantly, what is the plan sponsor allowed to do with these forfeited amounts? This is an important question, as the use of forfeitures can raise compliance questions under both ERISA and the Internal Revenue Code requirements for qualified retirement plans.

For defined contribution retirement plans, such as 401(k) plans, the IRS has typically allowed plan sponsors to apply forfeitures to offset administrative expenses or reduce employer contributions. In proposed regulations, issued in February 2023, the IRS reiterates this position, indicating that defined contribution plan forfeitures may be used to offset plan administrative expenses or reduce employer contributions, or may be reallocated to participants pursuant to a nondiscriminatory formula.

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