IRS-Related Issues
Governmental Advisor, March 2007  

Pre-Tax Employee Contributions — Pension

The Internal Revenue Service recently published Revenue Ruling 2006-43 providing a transition period to comply with documentation requirements for governmental employers that “pick up” employee contributions under Internal Revenue Code Section 414 (h)(2).

“Pick-up” contributions are mandatory employee contributions, usually to defined benefit plans, that are done on a pre-tax basis. However, in some cases, the employer’s decision to “pick up” employee contributions is not documented or described in writing. This revenue ruling requires signed documentation (which can be evidenced in meeting minutes, board resolutions, ordinances, etc.) by the participating governmental entity showing the implementation of the pick-up contributions. We strongly recommend that governmental entities review their pick-up arrangements to determine whether or not they comply with the new documentation requirements. The IRS has given a grace period on complying with the new documentation requirements until January 1, 2009, assuming the government in the interim has characterized contributions as those intended to be pick-ups.

Pre-Tax Employee Contributions — Health Care

While the IRS has provided guidance on the pre-tax treatment of employee contributions towards pension costs, the guidance is not as specific as it relates to the tax treatment of employee contributions to cover retiree health care costs. If you have this situation or are contemplating such an arrangement, further analysis of applicable tax laws may be necessary to qualify the employee contributions as “pre-tax.”

IRS Audits — Yes, on Governmental Units!

We are aware of some communities where the IRS has taken exception to certain “perks” given to municipal employees being excluded from their W-2 wages if not subsequently reimbursed (for example, cell phone usage). A governmental unit may be able to protect itself by adopting a formal policy prohibiting personal use of government property, such as cell phones, or by allowing only incidental use in the policy. Alternatively, a government could also adopt a required annual reporting by the employee that estimates the personal use of cell phones (and other similar-type government-owned property).