Nonbank Trustee Net Worth Requirements

DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[TD 8570]

RIN 1545-AS96

Nonbank Trustee Net Worth Requirements

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Temporary regulations.

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SUMMARY: This document contains temporary regulations that provide

guidance to nonbank trustees with respect to the adequacy of net worth

requirements of Sec. 1.401-12(n) (6) and (7) of the Income Tax

Regulations. The text of these temporary regulations also serves as the

text of the proposed regulations set forth in the notice of proposed

rulemaking on this subject in the Proposed Rules section of this issue

of the Federal Register.

DATES: These regulations are effective December 6, 1994.

FOR FURTHER INFORMATION CONTACT: Judith E. Alden, (202) 622-6030 (not a

toll-free number).

SUPPLEMENTARY INFORMATION:

Background

This document contains amendments to the Income Tax Regulations (26

CFR part 1) under section 401(d)(1). Sections 1022(c), 1022(d), and

2002(a)(2) of the Employee Retirement Income Security Act of 1974

(ERISA), Pub. L. 93-406 (1974), amended sections 401(d), 401(f), and

408 of the Internal Revenue Code (Code) to permit an entity that is not

a bank to be a trustee or a custodian for purposes of those Code

sections if such entity demonstrates to the satisfaction of the

Secretary of the Treasury that it will administer the trust and hold

assets in a manner consistent with the law. Although section 401(d)(1)

was repealed by section 237(a) of the Tax Equity and Fiscal

Responsibility Act of 1982, Pub. L. 97-248 (1982), the regulations

under section 401(d)(1) remain in force and effect to the extent that

they govern the determination of whether an entity can be a nonbank

trustee or custodian for purposes of Treasury Regulation

Secs. 1.401(f)-1 and 1.408-2(d). Section 1.401-12(n)(6)(ii) of the

regulations, proposed in 1975 and finalized in 1979 under section

401(d)(1) of the Code, sets forth net worth requirements for nonbank

trustees based on the greater of a specified dollar amount or a

percentage of the value of all assets held by the nonbank trustee in

fiduciary accounts. A primary objective of this adequacy of net worth

requirement has been to ensure that nonbank trustees maintain a level

of solvency commensurate with their financial and fiduciary

responsibilities.

Pursuant to the existing net worth requirements, nonbank trustees

may not accept new accounts unless their net worth exceeds the greater

of $100,000 or four percent of the value of all assets held in

fiduciary accounts. Additionally, nonbank trustees must take whatever

steps are necessary (including the relinquishment of fiduciary

accounts) to ensure that their net worth exceeds the greater of $50,000

or two percent of the value of assets held in their fiduciary accounts.

While similar requirements apply to passive nonbank trustees (qualified

nonbank entities that have no discretion to direct the investment of

assets), the percentage requirements for these trustees are lower.

Specifically, passive nonbank trustees may not accept new accounts

unless their net worth exceeds the greater of $100,000 or two percent

of the value of all assets held in fiduciary accounts and they must

take appropriate action (including the relinquishment of fiduciary

accounts) to ensure that their net worth exceeds the greater of $50,000

or one percent of the value of assets held in their fiduciary accounts.

The IRS has received comments that this requirement is unduly

restrictive in the case of passive trustees who are broker-dealers

regulated by the Securities and Exchange Commission (SEC) and who are

required to have their fiduciary accounts protected by the Securities

Investor Protection Corporation (SIPC). SIPC, established by Congress

in 1970, insures customer assets and funds held by a U.S. broker-dealer

in the case of an insolvency in an amount of up to $500,000 per

customer, of which $100,000 may be cash. Thus, with respect to SIPC

protected assets, the on-going net worth requirement provides little if

any increase in protection of assets held in fiduciary accounts.

Accordingly, these temporary regulations provide that SIPC protected

assets will be disregarded in determining the value of assets held in

fiduciary accounts by passive trustees for purposes of the percentage

prong of the net worth requirement.

These temporary regulations also increase the initial net worth

requirement for all nonbank trustees to better assure that enterprises

are sound and well-funded during their start-up period. Under the

existing net worth requirements, every nonbank trustee must have an

initial net worth that exceeds $100,000. Under these temporary

regulations, all entities applying for nonbank trustee status must have

a net worth of not less than $250,000 for the most recent taxable year

preceding the applicant's initial application. The existing net worth

requirements, as modified for SIPC protected assets, will continue to

apply on an on-going basis after a nonbank trustee has obtained the

approval of the IRS.

In the absence of evidence that the on-going net worth requirements

fail to meet the underlying objectives, these requirements (except with

respect to SIPC protected assets) remain unchanged. However, the IRS

recognizes that the nonbank trustee requirements have been in effect

since 1979. Accordingly, the IRS and Treasury would welcome comments

concerning the net worth requirements generally, as well as other

aspects of the 1979 regulations.

Special Analyses

It has been determined that this Treasury decision is not a

significant regulatory action as defined in EO 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)

and the Regulatory Flexibility Act (5 U.S.C. chapter 6) do not apply to

these regulations, and, therefore, a Regulatory Flexibility Analysis is

not required. Pursuant to section 7805(f) of the Internal Revenue Code,

these temporary regulations will be submitted to the Chief Counsel for

Advocacy of the Small Business Administration for comment on their

impact on small business.

Drafting Information

The principal author of these regulations is Judith E. Alden,

Office of the Associate Chief Counsel, (Employee Benefits and Exempt

Organizations). However, other personnel from the IRS and 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 proposed to be amended as follows:

PART 1--INCOME TAXES

Paragraph 1. The authority citation for part 1 continues to read,

in part, as follows:

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

Par. 2. Section 1.401-12T is added to read as follows:

Sec. 1.401-12T Requirements for qualification of trusts and plans

benefiting owner-employees (temporary).

(a) through (n)(6)(i) For guidance, see Sec. 1.401-12(a) through

(n)(6)(i).

(n)(6)(ii) Adequacy of net worth--(A) Initial net worth

requirement. In the case of applications received after January 5,

1995, no initial application will be accepted by the Commissioner

unless the applicant has a net worth of not less than $250,000

(determined as of the end of the most recent taxable year). Thereafter,

the applicant must satisfy the adequacy of net worth requirements of

paragraph (n)(6)(ii)(B), of this section.

(B) On-going net worth requirement. For guidance, see Sec. 1.401-

12(n)(6)(ii)(B).

(7) Special rules--(i) Passive trustee.

(A) through (B). For guidance, see Sec. 1.401-12(n)(7)(i) (A)

through (B).

(C) For purposes of determining whether a passive nonbank trustee

who is a broker or dealer within the meaning of 15 U.S.C. Sec. 78lll

satisfies the net worth requirements of subparagraph (n)(6)(ii)(B),

assets held by the passive trustee in fiduciary accounts and protected

by the Securities Investor Protection Corporation (SIPC) created under

the Securities Investor Protection Act of 1970 (15 U.S.C. Sec. 78aaa et

seq., as amended) will not be included in determining the value of

assets held in fiduciary accounts by the passive nonbank trustee. Such

assets are only disregarded, however, in determining the value of

assets held in fiduciary accounts by the passive trustee to the extent

the assets are protected by SIPC.

(ii) [Reserved]

Margaret Milner Richardson,

Commissioner of Internal Revenue.

Approved: November 3, 1994.

Leslie Samuels,

Assistant Secretary of the Treasury.

[FR Doc. 94-29702 Filed 12-5-94; 8:45 am]

BILLING CODE 4830-01-U