How After-Tax Contributions Affect Your DROP Funds
If you made after-tax pension contributions, your DROP funds may
include after-tax “basis”. “Basis recovery” is the process by
which your after-tax employee pension contributions are returned
to you, free of taxes, as part of your pension benefits. You may
have made after-tax contributions for any of the following
reasons:
From 7/1/82 -12/20/96, mandatory pension contributions were
collected after-tax.
Elective purchases of service credit made by contract or lump sum
payments were collected after-tax. (Trustee-to-trustee transfers
from Deferred Compensation are pre-tax.)
The voluntary 2% “opt-in” pension contribution by certain members
in order to vest future retiree medical subsidy increases are
collected after-tax. (Note: This does not apply to Tier 6
members.)
The Internal Revenue Code includes a provision that allows DROP
members to recover a portion of their eligible after-tax
contributions using an accelerated method. This method allows you
to take a lump sum distribution of any eligible after-tax DROP
funds, rather than recovering it in payments over your lifetime
through the Simplified Method. Members exiting DROP on or after
January 1, 2014 will be subject to this basis recovery method and
may:
Recover pre-1987 after-tax contributions entirely from the lump
sum DROP distribution.
Have any post-1986 after-tax contributions allocated pro-rata
between the lump sum DROP distribution and the member’s ongoing
monthly pension annuity. Any after-tax funds included in the
monthly pension annuity will be subject to the Simplified Method.
The Simplified Method, developed by the IRS, is the formula that
determines the amount of your pension that will not be taxed for
a fixed number of months in retirement based on your age and the
age of your qualified spouse/domestic partner, if applicable.
Distribution Options – Effective January 1, 2014
Review the options below to select a distribution election for both your taxable and non-taxable DROP funds. Please note, if you rollover any non-taxable portion, you must also rollover your entire taxable portion.
OPTION
NON-TAXABLE DROP FUNDS
TAXABLE DROP FUNDS
1
Lump sum cash payment of eligible non-taxable funds
Direct rollover of all taxable funds
2
Direct rollover of all non-taxable funds
Direct rollover of all taxable funds
3
Partial lump sum cash payment and partial direct rollover of
non-taxable funds
Direct rollover of all taxable funds
4
Lump sum cash payment of eligible non-taxable funds
Partial lump sum cash payment and partial direct rollover of
taxable funds (partial lump sum cash payment subject to mandatory
20% Federal tax withholding)
5
Lump sum cash payment of eligible non-taxable funds
Lump sum cash payment of all taxable funds (subject to mandatory
20% Federal tax withholding)
All rollovers must be made to one financial institution of your
choice for either the non-taxable or taxable portions of your
DROP account. It is important to note that not all plans can
accept a rollover of non-taxable funds, so please confirm with
the plan of your choice before making any elections for a direct
rollover. For example, the City’s Deferred Compensation Plan does
not accept rollovers of non-taxable funds. Therefore, if you
select Options 2 or 3, you must roll your non-taxable funds to an
institution other than Deferred Compensation.
You must complete a DROP Distribution Form within 90 days of your
DROP exit date to determine how you wish to recover your
after-tax contributions. After 90 days, the distribution of your
DROP account will be limited to a lump sum cash payment only,
subject to mandatory 20% Federal tax withholding for the entire
account balance. The Board Operating Policies and Procedures
(Pension Processing, Section 3.2.3) have been amended to reflect
the basis recovery method.
For more information review the DROP Basis Recovery FAQs. For any
questions, please contact DROP/Service Pensions at (213)
978-4575.