[Federal Register Volume 79, Number 91 (Monday, May 12, 2014)]
[Rules and Regulations]
[Pages 26838-26843]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2014-10849]



[[Page 26838]]

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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[TD 9665]
RIN 1545-BG12


Tax Treatment of Qualified Retirement Plan Payment of Accident or 
Health Insurance Premiums

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Final regulations.

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SUMMARY: This document contains final regulations clarifying the rules 
regarding the tax treatment of payments by qualified retirement plans 
for accident or health insurance. The final regulations set forth the 
general rule under section 402(a) that amounts held in a qualified plan 
that are used to pay accident or health insurance premiums are taxable 
distributions unless described in certain statutory exceptions. The 
final regulations do not extend this result to arrangements under which 
amounts are used to pay premiums for disability insurance that replaces 
retirement plan contributions in the event of a participant's 
disability. These regulations affect sponsors, administrators, 
participants, and beneficiaries of qualified retirement plans.

DATES: Effective Date: These regulations are effective on May 12, 2014.
    Applicability Date: These regulations generally apply for taxable 
years that begin on or after January 1, 2015. However, taxpayers may 
elect to apply the regulations to earlier taxable years. See the 
``Effective/Applicability Dates'' section in this preamble for 
additional information regarding the applicability of these 
regulations.

FOR FURTHER INFORMATION CONTACT: Michael P. Brewer or Lauson C. Green 
at (202) 317-6700 (not a toll-free number).

SUPPLEMENTARY INFORMATION: 

Background

    This document contains amendments to 26 CFR part 1 under section 
402(a) of the Internal Revenue Code (Code), as well as conforming 
amendments under sections 72, 105, 106, 401, 402(c), 403(a), and 
403(b).
    Section 104(a)(3) provides, in general, that gross income does not 
include amounts received through accident or health insurance (or 
through an arrangement having the effect of accident or health 
insurance) for personal injuries or sickness. This exclusion does not 
apply to amounts attributable to (and not in excess of) deductions 
allowed under section 213 for any prior taxable year, or to other 
amounts received by an employee to the extent the amounts either are 
attributable to contributions by the employer that were not includible 
in the gross income of the employee or are paid by the employer.
    Section 105(a) provides that, except as otherwise provided, amounts 
received by an employee through accident or health insurance for 
personal injuries or sickness are included in gross income to the 
extent the amounts (1) are attributable to contributions by the 
employer that were not includible in the gross income of the employee 
or (2) are paid by the employer.
    Section 105(b) generally provides that, except in the case of 
amounts attributable to deductions allowed under section 213 for any 
prior taxable year, gross income does not include amounts referred to 
in section 105(a) if the amounts are paid, directly or indirectly, to 
the taxpayer to reimburse the taxpayer for expenses incurred by the 
taxpayer for the medical care of the taxpayer and his or her spouse or 
dependents (as defined in section 152, determined without regard to 
paragraphs (b)(1), (b)(2), and (d)(1)(B) thereof) and any child (as 
defined in section 152(f)(1)) of the taxpayer who as of the end of the 
taxable year has not attained age 27.
    Section 106(a) provides that, except as otherwise provided, the 
gross income of an employee does not include employer-provided coverage 
under an accident or health plan. Section 1.106-1 of the Income Tax 
Regulations provides that the gross income of an employee does not 
include contributions that the employer makes to ``an accident or 
health plan for compensation (through insurance or otherwise) to the 
employee for personal injuries or sickness incurred'' by the employee 
or the employee's spouse or dependents.
    For purposes of the Code, section 7702B(a) treats a qualified long-
term care insurance contract as an accident and health insurance 
contract, and a plan of an employer providing coverage under a 
qualified long-term care insurance contract as an accident and health 
plan with respect to that coverage.
    Section 213 generally allows a deduction for expenses paid during 
the taxable year, not compensated for by insurance or otherwise, for 
medical care of the taxpayer and the taxpayer's spouse and dependents, 
to the extent that the expenses exceed 10 percent of the taxpayer's 
adjusted gross income.\1\ Section 213(d)(1) provides that the term 
``medical care'' includes amounts paid for insurance covering medical 
care (including eligible long-term care premiums with respect to 
qualified long-term care insurance contracts).
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    \1\ The 7.5 percent threshold applicable before 2013 continues 
to apply through 2016 for individuals age 65 and older. See section 
213(f).
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    Section 401(a) sets forth requirements for a trust forming part of 
a pension, profit-sharing, or stock bonus plan to be qualified under 
section 401(a).
    Section 401(h) provides that a pension or annuity plan may provide 
for the payment of benefits for sickness, accident, hospitalization, 
and medical expenses of retired employees, their spouses and their 
dependents only if certain enumerated conditions are met. Those 
conditions include: (1) The aggregate actual contributions for medical 
benefits (when added to actual contributions for life insurance 
protection under the plan) may not exceed 25 percent of the total 
actual contributions to the plan (other than contributions to fund past 
service credits) after the date on which the account is established; 
(2) a separate account must be established and maintained for such 
benefits; (3) the employer's contributions to the separate account must 
be reasonable and ascertainable; (4) it must be impossible, at any time 
prior to the satisfaction of all liabilities under the plan to provide 
such benefits, for any part of the corpus or income of such separate 
account to be (within the taxable year or thereafter) used for, or 
diverted to, any purpose other than the providing of such benefits; (5) 
any amount remaining after satisfaction of all liabilities must, under 
the terms of the plan, be returned to the employer; and (6) special 
limitations for the accounts of key employees (as defined in section 
401(h)) must be satisfied.
    Section 402(a) provides, in general, that any amount actually 
distributed by a qualified plan is taxable under section 72 in the 
taxable year in which distributed.
    Section 72(a) provides that, except as otherwise provided, gross 
income includes any amount received as an annuity (whether for a period 
certain or during one or more lives) under an annuity, endowment, or 
life insurance contract. Sections 72(d) and (e), which apply to any 
amount received as an annuity and any amount not received as an 
annuity, respectively, provide rules for determining the portion of any 
distribution that is not includable in

[[Page 26839]]

gross income as a recovery of a participant's investment in the 
contract (generally the amount of the unrecovered after-tax employee 
contributions) under a qualified employer retirement plan.
    Section 402(l) provides a limited exclusion from gross income for 
distributions from an eligible retirement plan used to pay health or 
long-term care insurance premiums of an eligible retired public safety 
officer to the extent that the aggregate amount of the distributions 
for the taxable year is not in excess of the qualified health insurance 
premiums of the retired public safety officer and his or her spouse or 
dependents. The total amount excluded from gross income pursuant to 
section 402(l) is limited to $3,000.
    Section 1.72-15 provides rules relating to the tax treatment of 
amounts paid from an employer-established plan to which section 72 
applies and which provides for distributions of accident or health 
benefits. With respect to benefits that are attributable to employer 
contributions, Sec.  1.72-15(d) provides that any amount received as an 
accident or health benefit is includible in gross income, except to the 
extent excludable from gross income under section 105(b) (relating to 
reimbursements of medical care expenses as defined in section 
213(d)).\2\ Section 1.72-15(e) provides that the taxability of benefits 
that are not accident or health benefits is determined under section 72 
without regard to any exclusion under section 104 or 105.
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    \2\ Section 1.72-15(d) also refers to benefits excludible under 
section 105(c) (relating to certain payments unrelated to absence 
from work) or section 105(d), which was repealed in 1983 (and which 
related to certain disability payments).
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    Section 1.401-1(b)(1)(i) provides that a plan is not a pension plan 
within the meaning of section 401(a) if it provides for the payment of 
benefits not customarily included in a pension plan, such as layoff 
benefits or benefits for sickness, accident, hospitalization, or 
medical expenses (except for medical benefits described in section 
401(h)).
    Section 1.401-1(b)(1)(ii) provides that a profit-sharing plan 
within the meaning of section 401(a) is primarily a plan of deferred 
compensation, but that amounts allocated to the account of a 
participant may be used to provide incidental life or accident or 
health insurance for the participant and the participant's family. 
Section 1.401-1(b)(1)(iii) provides that a stock bonus plan is a plan 
established and maintained by the employer to provide benefits similar 
to those of a profit-sharing plan.
    Rev. Rul. 61-164 (1961-2 CB 99) (see Sec.  601.601(d)(2)(ii)(b)) 
holds that a profit-sharing plan does not violate the incidental 
benefit rule in Sec.  1.401-1(b)(1)(ii) merely because, in accordance 
with the plan's terms, each participant's account under the plan is 
charged with the cost of health insurance for the participant under 
group hospitalization insurance for the employer's employees, provided 
that the total amount used for life or accident or health insurance for 
the employee and the employee's family is incidental. The ruling also 
holds that the use of profit-sharing plan funds to pay for medical 
insurance for a participant and his or her beneficiary is a 
distribution within the meaning of section 402.
    Rev. Rul. 73-501 (1973-2 CB 127) (see Sec.  601.601(d)(2)(ii)(b)) 
applies the incidental benefit rule to the purchase of life insurance 
by a profit-sharing plan. The ruling states that ``[u]nder a qualified 
profit-sharing plan, the use of trust funds to pay the cost of life, 
accident, or health insurance for an employee is a distribution within 
the purview of section 402 of the Code.''
    Rev. Rul. 2003-62 (2003-1 CB 1034) holds that amounts distributed 
from a qualified retirement plan that the distributee elects to have 
applied to pay health insurance premiums under a cafeteria plan are 
includible in the distributee's gross income. The ruling also holds 
that the same conclusion applies if amounts distributed from the plan 
are applied directly to reimburse medical care expenses incurred by a 
participant.
    Rev. Rul. 2005-55 (2005-2 CB 284) holds that a profit-sharing plan 
that provides a sub-account that permits distributions only for the 
purpose of reimbursing the participant for substantiated medical 
expenses imposes conditions on the entitlement of the participant to 
amounts held in the sub-account and, as a result of the conditions, 
does not meet the nonforfeitability requirements of section 411.
    Proposed regulations (REG-148393-06) under section 402(a) (proposed 
regulations) were published by the Treasury Department and the IRS in 
the Federal Register on August 20, 2007 (72 FR 46421). Corrections to 
the proposed regulations were published in Announcement 2007-98 (2007-2 
CB 896). The Treasury Department and the IRS received written comments 
on the proposed regulations and a public hearing was held on December 
6, 2007.
    After consideration of the comments received in response to the 
proposed regulations, these final regulations generally adopt the 
provisions of the proposed regulations with certain modifications as 
described under the heading ``Summary of Comments and Explanation of 
Provisions.''

Summary of Comments and Explanation of Provisions

General Treatment of Accident or Health Insurance

    Consistent with the proposed regulations, the final regulations 
clarify that a payment from a qualified plan for an accident or health 
insurance premium generally constitutes a distribution under section 
402(a) that is taxable to the distributee under section 72 in the 
taxable year in which the premium is paid. The taxable amount generally 
equals the amount of the premium charged against the participant's 
benefits under the plan. If a defined contribution plan pays these 
premiums from a current year contribution or forfeiture that has not 
been allocated to a participant's account, then the amount of the 
premium for each participant will be treated as first being allocated 
to the participant and then charged against the participant's benefits 
under the plan. Therefore, the payment of an accident or health plan 
premium from unallocated contributions or forfeitures also will 
constitute a distribution to the participant under section 402(a) that 
is taxable under section 72 in the taxable year in which the premium is 
paid.
    Like the proposed regulations, these regulations provide that a 
distribution for the payment of the premiums by a qualified plan 
generally is not excluded from gross income under sections 104, 105, or 
106. However, the distribution may constitute a payment for medical 
care under section 213. Furthermore, to the extent that the payment of 
premiums for accident or health insurance has been treated as a 
distribution from a qualified plan, amounts received through the 
accident or health insurance for personal injuries or sickness are 
excludable from gross income under section 104(a)(3) and are not 
treated as distributions from the plan.
    The general rule that the payment of an accident and health 
insurance premium from a qualified plan constitutes a distribution that 
is taxable under section 402 does not apply if another statutory 
provision provides for a different result. For example, section 402(l) 
provides an exclusion from gross income, up to $3,000 annually, for 
distributions paid directly to an insurer to purchase accident or 
health insurance or qualified long-term care insurance for an eligible 
retired public safety officer

[[Page 26840]]

and his or her spouse or dependents. A similar exclusion applies for 
medical benefits for retired employees provided from an account 
described in section 401(h).
    In accordance with these regulations, as with the proposed 
regulations, if a payment of a premium for accident or health insurance 
is treated as a distribution from the trust, then the insurance 
contract would not be treated as an investment under which the 
insurer's payments to the trust are treated as a return on that 
investment. As a result, payments from such a contract that are made to 
the trust (rather than made to the medical service provider or the 
participant as reimbursement for covered expenses) are treated as 
having been made to the participant and then contributed by the 
participant to the plan.

Special Rule for Disability Insurance Coverage

    The preamble to the proposed regulations requested comments on 
whether there should be limited exceptions to the general rule in the 
proposed regulations, including whether there should be an exception 
for a provision that has the effect of a waiver of premium in the case 
of disability. All of the commenters that addressed the issue of 
payment of premiums for disability insurance from a plan recommended an 
exception for disability insurance arrangements that replace retirement 
plan contributions, describing these arrangements as having the same 
effect as a waiver of premiums in the case of disability. For example, 
commenters described an employer's general disability program that not 
only provides for wage replacement, but also provides for the purchase 
of insurance to make payments to a qualified plan in the event of a 
participant's disability that are intended to replace the contributions 
that would have been made if the participant was not disabled. These 
commenters requested that the regulations provide that a participant 
not be currently taxable on the premiums paid by the plan for this type 
of disability coverage. Similarly, they recommended the participant not 
be taxed when payments from the disability insurance contract are 
allocated to the participant's account after the participant becomes 
disabled. These comments pointed out that the payments would be taxable 
when benefits are ultimately distributed from the plan.
    The Treasury Department and the IRS agree that the purchase of this 
type of disability coverage by a qualified plan is distinguishable from 
the purchase of medical insurance by a plan because the functional 
purpose of the disability insurance coverage is to replace retirement 
contributions to the plan, instead of providing medical benefits 
outside of the plan. Accordingly, these final regulations provide an 
exception for the payment of disability insurance premiums from a 
qualified plan if the insurance contract provides for payment of 
benefits to be made to the trust in the event of an employee's 
inability to continue employment with the employer due to disability, 
provided that the payment of benefits with respect to an employee's 
account does not exceed the reasonable expectation of the annual 
contributions that would have been made to the plan on the employee's 
behalf during the period of disability, reduced by any other 
contributions made on the employee's behalf for the period of 
disability within the year. For example, under this standard, the 
payment of benefits with respect to an employee's account may increase 
to reflect reasonably expected future salary increases. To the extent 
these conditions are satisfied, the insurance does not constitute a 
distribution to which section 402(a) applies and instead will be 
treated as any other plan investment. However, if the insurance 
contract provides for payment of benefits that exceed the reasonable 
expectation of the annual contributions that would have been made to 
the plan on the employee's behalf during the period of disability, then 
the exception for disability coverage would not apply and all of the 
premium payments made to provide the benefits to the employee would be 
treated as distributed to the employee under section 402(a) and (as 
described in this preamble) benefits from the coverage paid to the plan 
would constitute contributions. This limitation on the benefits payable 
under a contract is consistent with treating the disability coverage as 
a waiver of premium in case of disability, similar to the provision in 
Sec.  1.408-3(a) under which a contract is not treated as other than an 
individual retirement annuity merely because it provides for waiver of 
premium upon disability. Additionally, the limitation means that 
benefits provided by the plan in the event of disability generally will 
be comparable to the disability benefits provided by a qualified 
disability benefit under a defined benefit plan, as described in 
section 411(a)(9) and Sec.  1.411(a)-7(c)(3).
    Some commenters recommended that the exception for disability 
coverage not result in different tax treatment for plan participants 
depending upon whether their employer insured or self-insured the 
disability benefit. The final regulations only address the situation in 
which payment of premiums is made from the plan. The Treasury 
Department and the IRS have concluded that, to the extent the insurance 
premiums are not paid by the plan or out of contributions to the plan, 
the disability insurance contract is not an asset of the plan and the 
amounts received by the plan under the disability insurance contract 
are not properly treated as a return on a plan investment. Instead, in 
such a case, the amounts paid from the insurance contract to the plan 
would be treated as contributions to the plan and would be subject to 
the general rules that apply to qualified plan contributions, including 
section 415(c). Similarly, to the extent the employer self-insures or 
makes arrangements to finance the disability coverage other than 
through third party insurance, the amounts paid to the plan on account 
of disability would be considered a contribution to the plan and would 
be subject to the general rules that apply to qualified plan 
contributions, including section 415(c). Payments to the plan will not 
be properly characterized as a return on a plan investment in any of 
these situations.

Conforming Amendments

    The regulations contain conforming amendments to the Income Tax 
Regulations under sections 72, 105, 106, 401, and 402(c). These 
conforming amendments remove obsolete provisions, as well as cite to 
the rules in these regulations for determining the tax treatment of the 
payment of premiums for accident and health insurance from a qualified 
plan.\3\
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    \3\ The regulations do not alter the incidental benefit rule of 
Sec.  1.401-1(b)(1)(ii) (which provides that a profit-sharing plan 
may provide incidental life or accident or health insurance for the 
participant and the participant's family) nor do they alter the tax 
treatment of the payment of life insurance. For the tax treatment of 
payments for life insurance, see section 72(m)(3) and Sec.  1.72-16.
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    Conforming amendments to the regulations under sections 403(a) and 
403(b) also add a cross-reference applying these rules under section 
402(a) to sections 403(a) and 403(b) arrangements. As a result, amounts 
paid for disability insurance premiums from an annuity or account under 
section 403(a) or 403(b) do not constitute distributions (and the 
disability insurance contracts are treated as plan investments) if the 
requirements applicable to the purchase of disability insurance by 
qualified plans are met. As in the case of a plan described in section 
401(a), if the plan sponsor of an annuity

[[Page 26841]]

or custodial account under section 403(a) or section 403(b) financed 
the disability protection by paying premiums for disability insurance 
that provides coverage to protect against a loss of contributions 
during a period of disability, then the benefits paid by the disability 
insurer would be treated as employer contributions to the annuity or 
account. However, if the premiums for the disability insurance were 
paid from the annuity or account in accordance with the rules that 
apply to qualified plans, then the benefits paid by the disability 
insurer will be treated as a return on plan investment.
    In addition, the regulations revise the first sentence of Sec.  
1.106-1 in order to update the definition of the term ``dependent'' to 
reflect section 207 of the Working Families Tax Relief Act of 2004, 
Public Law 108-311 (118 Stat. 1166 (2004)) and Notice 2004-79 (2004-2 
CB 898) and to reflect the amendment of section 105(b) made by section 
1004(d)(1) of the Health Care and Education Reconciliation Act of 2010, 
Public Law 111-152 (124 Stat. 1029 (2010)), to include certain children 
who have not attained age 27. For periods before the applicability date 
of the regulations, taxpayers can rely on the interpretation of this 
latter provision set forth in Notice 2010-38 (2010-20 IRB 682).
    These regulations also include a cross-reference to section 402(l) 
and amend Sec.  1.402(c)-2, Q&A-4, to add distributions of premiums for 
accident or health insurance under Sec.  1.402(a)-1(e)(1) to the list 
of items that are not eligible rollover distributions.

Effective/Applicability Date

    The regulations apply for taxable years beginning on or after 
January 1, 2015. No inference should be drawn that the payment of 
accident or health premiums from a qualified plan does not constitute a 
taxable distribution if made in an earlier taxable year. However, 
taxpayers may elect to apply the regulations to earlier taxable years.

Statement of Availability of IRS Documents

    The recently issued IRS notices and revenue rulings cited in this 
preamble are published in the Internal Revenue Bulletin or Cumulative 
Bulletin and are available from the Superintendent of Documents, P.O. 
Box 979050, St. Louis, MO 63197-9000, or by visiting the IRS Web site 
at http://www.irs.gov.

Special Analyses

    It has been determined that these regulations are not a significant 
regulatory action as defined in Executive Order 12866. Therefore, a 
regulatory assessment is not required. It also has been determined that 
section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5) 
does not apply to these regulations, and because these regulations do 
not impose a collection of information on small entities, the 
Regulatory Flexibility Act (5 U.S.C. chapter 6) does not apply. 
Pursuant to section 7805(f) of the Code, the proposed regulations 
preceding these final regulations were submitted to the Chief Counsel 
for Advocacy of the Small Business Administration for comment on its 
impact on small business.

Drafting Information

    The principal authors of these regulations are Michael P. Brewer 
and Lauson C. Green, Office of Division Counsel/Associate Chief Counsel 
(Tax Exempt and Government Entities). However, other personnel from the 
IRS and the Treasury Department participated in their development.

List of Subjects in 26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

Adoption of Amendments to the Regulations

    Accordingly, 26 CFR part 1 is amended as follows:

PART I--INCOME TAXES

0
Paragraph 1. The authority citation for part 1 continues to read in 
part as follows:

    Authority: 26 U.S.C. 7805 * * *


0
Par. 2. Section 1.72-15 is amended by:
0
1. Revising the last sentence of paragraph (a).
0
2. Revising paragraph (d).
0
3. Removing and reserving paragraph (f).
0
4. Revising paragraphs (h) and (i).
    The revisions read as follows:


Sec.  1.72-15  Applicability of section 72 to accident or health plans.

    (a) Applicability of section. * * * Paragraphs (d), (h), and (i) of 
this section apply for taxable years beginning on or after January 1, 
2015.
* * * * *
    (d) Accident or health benefits attributable to employer 
contributions. Any amounts received as accident or health benefits and 
not attributable to contributions of the employee are includible in 
gross income except to the extent that the amounts are excludable from 
gross income under section 105(b) or (c) and the regulations under 
those sections. See Sec.  1.402(a)-1(e) for rules relating to the use 
of a qualified plan under section 401(a) to pay premiums for accident 
or health insurance.
* * * * *
    (h) Medical benefits for retired employees, etc. See Sec.  
1.402(a)-1(e)(2) for rules relating to the payment of medical benefits 
described in section 401(h) under a qualified pension or annuity plan.
    (i) Special rules--(1) In general. For purposes of section 72(b) 
and (d) and this section, the taxpayer must maintain such records as 
are necessary to substantiate the amount treated as an investment in 
the taxpayer's annuity contract.
    (2) Delegation to Commissioner. The Commissioner may prescribe a 
form and instructions with respect to the taxpayer's past and current 
treatment of amounts received under section 72 or 105, and the 
taxpayer's computation, or recomputation, of the taxpayer's investment 
in his or her annuity contract. This form may be required to be filed 
with the taxpayer's returns for years in which the amounts are excluded 
under section 72 or 105.


Sec.  1.105-4  [Removed]

0
Par. 3. Section 1.105-4 is removed.


Sec.  1.105-6  [Removed]

0
Par. 4. Section 1.105-6 is removed.
0
Par. 5. Section 1.106-1 is amended by:
0
1. Redesignating the existing text as paragraph (a).
0
2. In newly-designated paragraph (a), revising the first sentence and 
adding a sentence at the end of the paragraph.
0
3. Adding paragraph (b).
    The revisions and additions read as follows:


Sec.  1.106-1  Contributions by employer to accident and health plans.

    (a) The gross income of an employee does not include the 
contributions that the employer makes to an accident or health plan for 
compensation (through insurance or otherwise) to the employee for 
personal injuries or sickness incurred by the employee, the employee's 
spouse, the employee's dependents (as defined in section 152 determined 
without regard to section 152(b)(1), (b)(2), or (d)(1)(B)), or any 
child (as defined in section 152(f)(1)) of the employee who as of the 
end of the taxable year has not attained age 27. * * * For the 
treatment of the payment of premiums for accident or health insurance 
from a qualified trust under section 401(a), see Sec. Sec.  1.72-15 and 
1.402(a)-1(e).
    (b) Effective/applicability date. The first and last sentences of 
paragraph (a)

[[Page 26842]]

of this section apply for taxable years beginning on or after January 
1, 2015.
    Par. 6. Section 1.401-1 is amended by adding a sentence at the end 
of paragraph (b)(1)(ii) to read as follows:


Sec.  1.401-1  Qualified pension, profit-sharing, and stock bonus 
plans.

* * * * *
    (b) * * *
    (1) * * *
    (ii) * * * See Sec. Sec.  1.72-15, 1.72-16, and 1.402(a)-1(e) for 
rules regarding the tax treatment of incidental life or accident or 
health insurance.
* * * * *
    Par. 7. Section 1.402(a)-1 is amended by:

0
1. Revising the next to last sentence in paragraph (a)(1)(ii).
0
2. Removing the last sentence in paragraph (a)(1)(ii).
0
3. Adding paragraph (e).
    The revision and addition read as follows:


Sec.  1.402(a)-1  Taxability of beneficiary under a trust which meets 
the requirements of section 401(a).

    (a) * * *
    (1) * * *
    (ii) * * * Paragraph (e) of this section provides rules relating to 
use of a qualified pension, annuity, profit-sharing, or stock bonus 
plan to provide accident or health benefits or coverage otherwise 
described in sections 104, 105, or 106.
* * * * *
    (e) Medical, accident, etc. benefits paid from a qualified pension, 
annuity, profit-sharing, or stock bonus plan--(1) Payment of premiums--
(i) General rule. Except as provided in paragraph (e)(1)(iii) of this 
section, a payment made from a qualified trust that is a premium for 
accident or health insurance (including a qualified long-term care 
insurance contract under section 7702B) constitutes a distribution 
under section 402(a) to the participant for whose benefit the premium 
is charged. The amount of the distribution equals the amount of the 
premium charged against the participant's benefits under the plan. If a 
defined contribution plan pays these premiums from a current year 
contribution or forfeiture that has not been allocated to a 
participant's account, then the amount of the premium for each 
participant is treated as first being allocated to the participant and 
then charged against the participant's benefits under the plan, so that 
the amount of the distribution is treated in the same manner as 
determined under the preceding sentence. Except as provided in 
paragraphs (e)(2) and (e)(3) of this section, a distribution described 
in this paragraph (e)(1) is not excludable from gross income.
    (ii) Treatment of amounts received through accident or health 
insurance. To the extent that the payment of a premium for accident or 
health insurance constitutes a distribution under this paragraph 
(e)(1), amounts received through accident or health insurance are 
neither paid by the employer nor attributable to contributions by the 
employer that are excludable from the gross income of the employee. 
Accordingly, to the extent the premium for accident or health insurance 
constitutes a distribution under this paragraph (e)(1), amounts 
received through the accident or health insurance for personal injuries 
or sickness are excludable from gross income under section 104(a)(3) 
and are not treated as distributions from the plan. If those amounts 
are paid to the plan instead of to the employee, those amounts are 
treated as having been paid to the employee and then contributed by the 
employee to the plan (and must satisfy the qualification requirements 
applicable to employee contributions).
    (iii) Exception for disability insurance that replaces retirement 
contributions. The rules of paragraph (e)(1)(i) of this section do not 
apply to the payment made from a qualified trust that is a premium paid 
to an insurance company for a contract providing for payment of 
benefits to be made to the trust in the event of an employee's 
inability to continue employment with the employer due to disability, 
provided that the payment of benefits with respect to the employee's 
account for each year does not exceed the reasonable expectation of the 
annual contributions that would have been made to the plan on the 
employee's behalf for the period of disability within that year, 
reduced by any other contributions made on the employee's behalf for 
the period of disability within that year. The payment of premiums 
described in the preceding sentence is not treated as a distribution 
under section 402(a), but instead constitutes incidental accident or 
health insurance as provided in Sec.  1.401-1(b)(1)(ii). The 
Commissioner may issue rules of general applicability in revenue 
rulings, notices, or other guidance published in the Internal Revenue 
Bulletin further describing the tax treatment of disability coverage 
described in this paragraph (e)(1)(iii).
    (2) Medical benefits for retired employees provided under an 
account described in section 401(h). The payment of medical benefits 
under a pension or annuity plan from an account described in section 
401(h) is treated in the same manner as a payment of accident or health 
benefits attributable to employer contributions, or employer-provided 
coverage under an accident or health plan. See Sec.  1.401-14(a) for 
the definition of medical benefits described in section 401(h). 
Accordingly, amounts applied for the payment of accident or health 
benefits, or for the payment of accident or health coverage, from a 
section 401(h) account are not includible in the gross income of the 
participant on whose behalf such contributions are made to the extent 
they are excludible from gross income under section 104, 105, or 106.
    (3) Distributions to eligible retired public safety officers. See 
section 402(l) (and any guidance issued under section 402(l)) for a 
limited exclusion from gross income for distributions used to pay for 
certain accident or health premiums (including premiums for qualified 
long-term care insurance contracts). This limited exclusion applies to 
eligible retired public safety officers, as defined in section 
402(l)(4)(B).
    (4) Effect of distribution of insurance premiums on plan 
qualification. See Sec.  1.401-1(b)(1) for rules concerning the types 
and amount of medical coverage and benefits that are permitted to be 
provided under a plan that is part of a trust described in section 
401(a). For example, Sec.  1.401-1(b)(1)(ii) provides that a profit-
sharing plan is primarily a plan of deferred compensation, but the 
amounts allocated to the account of a participant may be used to 
provide incidental accident or health insurance for the participant and 
the participant's family. See also section 401(k)(2)(B) for certain 
restrictions on the distribution of elective contributions.
    (5) Applicability to beneficiaries and alternate payees. This 
paragraph (e) applies to the payment of premiums charged against the 
benefits of a beneficiary or an alternate payee in the same manner as 
the payment of premiums charged against the account of a participant.
    (6) Examples. The provisions of this paragraph (e) are illustrated 
by the following examples:

    Example 1. (i) Facts. Employer A sponsors a profit-sharing plan 
qualified under section 401(a). The plan provides solely for non-
elective employer profit-sharing contributions. The plan's trustee 
enters into a contract with a third-party insurance carrier to 
provide health insurance for certain plan participants. The 
insurance contract provides for the payment of medical expenses 
incurred by those participants. The plan limits the amounts used to 
provide medical benefits to comply with the incidental benefit

[[Page 26843]]

rules. The trustee makes monthly payments of $1,000 to pay the 
premiums due for Participant P's health insurance and Participant 
P's account balance is reduced by $1,000 at the time of each premium 
payment. In June 2015, Participant P is admitted to the hospital for 
covered medical care, and in July 2015, the health insurer pays the 
hospital $5,000 for the medical care provided to Participant P in 
June.
    (ii) Conclusion. Under paragraph (e)(1) of this section, each of 
the trustee's payments of $1,000 constitutes a taxable distribution 
under section 402(a) to Participant P on the date of each payment. 
The amount of these distributions may constitute payments for 
medical care under section 213. The $5,000 payment to the hospital 
is excludable from Participant P's gross income under section 
104(a)(3) and is not treated as a distribution from the plan.
    Example 2. (i) Facts. Employer B sponsors a profit-sharing plan 
qualified under section 401(a). The plan provides for elective 
contributions described in section 401(k) and matching contributions 
as well as non-elective employer profit-sharing contributions. The 
plan does not provide that a disabled participant's compensation for 
purposes of determining plan contributions includes amounts that the 
participant would have received in the absence of the disability, 
and accordingly Employer B does not make any contributions to the 
plan for the benefit of a disabled employee for the period of 
disability. The plan's trustee enters into a contract with a third-
party insurance carrier to provide disability insurance for plan 
participants who elect to be covered under the insurance contract. 
The insurance contract provides for the payment of an amount to the 
trustee on a participant's behalf during the period of the 
participant's disability. Amounts to be paid to the trustee from the 
insurance contract with respect to a participant are equal to the 
sum of the elective, matching, and non-elective employer profit-
sharing contributions that would have been made on the participant's 
behalf during the participant's disability (based on the 
participant's rate of compensation before becoming disabled) with 
the payments to continue for the duration of the disability until 
age 65 (or 5 years after the participant became disabled, if later). 
Participant Q elects to be covered under the insurance contract, and 
the trustee makes the periodic premium payments out of the account 
balance of Participant Q. In June 2015, Participant Q becomes 
disabled. During the period Participant Q is absent from employment 
due to disability, the insurer pays the trust the amount of the 
elective contributions and non-elective employer profit-sharing 
contributions that would have been made to the trust with respect to 
Participant Q had Participant Q not been disabled. The amount of the 
premiums for the insurance contract satisfies the limitations on 
incidental benefits under Sec.  1.401-1(b)(1)(ii).
    (ii) Conclusion. The payment of premiums from the trust is 
described in paragraph (e)(1)(iii) of this section. Accordingly, 
none of the premium payments under the contract constitute a 
distribution under section 402(a) to Participant Q. Further, amounts 
paid from the insurance contract to the trust also do not constitute 
a distribution to Participant Q. However, when Participant Q's 
account balance is distributed from the trust, the distribution will 
be subject to taxation in the year of distribution in accordance 
with the rules in section 402.

    (7) Effective/applicability date. This paragraph (e) applies for 
taxable years beginning on or after January 1, 2015.
    Par. 8. Section 1.402(c)-2 is amended by redesignating paragraph A-
4(j) as paragraph A-4(k) and adding a new paragraph A-4(j) to read as 
follows:


Sec.  1.402(c)-2  Eligible rollover contributions; questions and 
answers.

* * * * *
    A-4: * * *
    (j) Distributions of premiums for accident or health insurance 
under Sec.  1.402(a)-1(e)(1)(i). This paragraph A-4(j) applies for 
taxable years beginning on or after January 1, 2015.
* * * * *
    Par. 9. Section 1.403(a)-1 is amended by revising paragraph (g) to 
read as follows:


Sec.  1.403(a)-1  Taxability of beneficiary under a qualified annuity 
plan.

* * * * *
    (g) The rules of Sec.  1.402(a)-1(e) apply for purposes of 
determining the treatment of amounts paid to provide accident and 
health insurance benefits.
    Par. 10. Section 1.403(b)-6 is amended in paragraph (g) by adding 
two sentences at the end of the paragraph to read as follows:


Sec.  1.403(b)-6  Timing of distributions and benefits.

* * * * *
    (g) * * * The rules of Sec.  1.402(a)-1(e) apply for purposes of 
determining when certain incidental benefits are treated as distributed 
and included in gross income. See Sec. Sec.  1.72-15 and 1.72-16.
* * * * *

John Dalrymple,
 Deputy Commissioner for Services and Enforcement.
    Approved: May 6, 2014.
Mark J. Mazur,
Assistant Secretary of the Treasury (Tax Policy).
[FR Doc. 2014-10849 Filed 5-9-14; 8:45 am]
BILLING CODE 4830-01-P