561 / What are the rules that allow 401(k) plan sponsors to include deferred annuities in target date funds (TDFs)?

IRS Notice 2014-66 specifically permits 401(k) plan sponsors to include deferred annuities within TDFs without violating the nondiscrimination rules that otherwise apply to investment options offered within a 401(k). This is the case even if the TDF investment is a qualified default investment alternative (QDIA)—which is a 401(k) investment that is selected automatically for a plan participant who fails to make his or her own investment allocations.

Further, the guidance clarifies that the TDFs offered within the plan can include deferred annuities even if some of the TDFs are only available to older participants—even if those older participants are considered “highly compensated”—without violating the otherwise applicable nondiscrimination rules. Similarly, the nondiscrimination rules will not be violated if the prices of the deferred annuities offered within the TDF vary based on the participant’s age.

The IRS guidance will allow plan sponsors to include annuities within TDFs even if a wide age variance exists among the plan’s participants. Additionally, the rules allow plan sponsors to provide a participant with guaranteed lifetime income sources even if the participant is not actively making his or her own investment decisions with respect to plan contributions—a situation which is increasingly prevalent as employers may now automatically enroll an employee in the 401(k) plan unless the employee actively opts out of participation.