Puerto Rico Government Plan-to-Private Plan Rollovers Allowed

• Published date: 03 February 2021
• Subject Matter: Employment and HR, Tax, Retirement, Superannuation & Pensions, Income Tax
• Law Firm: Ogletree, Deakins, Nash, Smoak & Stewart
• Author: Mr Carlos Gonzalez

On January 20, 2021, the Puerto Rico Department of the Treasury (Departamento de Hacienda, commonly known as "Hacienda") issued Administrative Determination No. 21-01 (AD 21-01), which provides that lump-sum distributions from the retirement plan for Puerto Rico government employees are eligible for direct and indirect rollovers into Puerto Rico-qualified retirement plans maintained by private-sector employers. In practice, however, this determination is unlikely to have much of an impact on the operation of private-sector employer plans.

Background

Since the 1940s, Puerto Rico government employees have been covered by contributory-defined benefit and hybrid pension plans. In 2017, the local government transferred all its employees to a new defined contribution savings plan comparable to the 401(k) plans sponsored by private-sector employers. Previously, distributions from local government plans were ineligible for tax-free rollovers into private-sector employer plans. Pursuant to AD 21-01, however, lump-sum distributions-but not other forms of payment-from the new government retirement plan are now eligible for tax-free rollovers into private-sector employer plans.

Government-to-Private Plan Rollovers Unlikely

Lump-sum distributions from the government retirement plan are generally taxed at a lower rate than lump-sum distributions from private-sector employer plans. Therefore, former government employees who subsequently work in the private sector are likely to be better off receiving taxable lump-sum distributions from the government retirement plan than rolling over their retirement money into private-sector employer plans and then receiving lump-sum distributions from those plans.

Pursuant to Sections 1023.09 and 1081.01(b)(1)(B) of the Puerto Rico Internal Revenue Code of 2011 (PRIRC), lump-sum distributions from retirement plans qualified with Hacienda pay local income taxes at the lower of (i) the individual's ordinary income tax rate for the year of distribution (i.e., between 0 percent and 33 percent, depending on the individual's taxable income) or (ii) 20 percent. Also, lump-sum distributions are subject to a mandatory 20 percent tax withholding at source. If at least 10 percent of a participant's plan account is invested over a 2-year period in certain property located within Puerto Rico, however, the maximum local income tax rate and the mandatory withholding rate on lump sums are reduced from 20 percent to 10 percent.

Neither Puerto Rico...