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SURS Facts – Internal Revenue Code Section 415(b) & Excess Benefit Arrangement

This page introduces the pension benefit limits set forth in Internal Revenue Code Section 415(b) [IRC §415(b)], the allowance for governmental excess benefit arrangements in IRC §415(m)(3), and related StateUniversities Retirement System (SURS) administrative rules in the Illinois Administrative Code, specifically 80Ill. Adm. Code §1600.145 and §1600.430.

What is Internal Revenue Code Section 415(b)?

IRC §415(b) is a federal tax provision that limits the amount of “annual benefit” that an individual can receive from a tax-qualified defined benefit pension plan such as the SURS’s Traditional and Portable benefit plans. This law was enacted to prevent employers from using tax-qualified defined benefit plans as tax shelters for highly compensated employees. To protect its tax-qualified status, SURS must comply with the benefit limits set forth in IRC §415(b).

Fortunately, IRC §415(m)(3) allows governmental plans like SURS to establish an Excess Benefit Arrangement (EBA). The EBA allows SURS to pay plan participants the amount of their calculated pension benefit that exceeds the limit imposed by IRC §415(b). Unlike the qualified retirement plan, SURS is not allowed to hold a pool of investments to backstop the SURS EBA. Instead, the SURS EBA is funded by the State of Illinois on a “pay-as-you-go” basis. The administrative rules for the SURS EBA can be found in 80 Ill. Adm. Code §1600.430.

What is the IRC 415(b) limit?

  • The IRC §415(b) benefit limit is determined annually by the Internal Revenue Service (IRS). It may beadjusted annually based on inflation. The limit for 2025 is $280,000 for members who retired at age 62 orolder.
  • For lump-sum payments (e.g., excess contributions refund, survivor contributions refund, portable lump-sum retirement), the annual limit is multiplied by an actuarial factor to determine the lump-sum limit.
  • For members who retire before the age of 62, the annual benefit limit is a lower, age-adjusted limit that isactuarially equivalent to the dollar limit for retirees aged 62 and older.
  • The IRC §415(b) annual dollar limit is used instead of the actuarial age-adjusted limit for members retiringbefore age 62 if:
    • The retiree was a police office or firefighter with 15 or more years of service.
    • The annual benefit is for a survivor’s annuity payable due to the pre-retirement death of a member.
    • The annual benefit is for a disability retirement before age 62.
  • Special IRC 415(b) limits are used in the following situations:
    • The retirement benefit is treated as meeting the IRC §415(b) limit if all combined benefits fromthe employer’s retirement plan do not exceed $10,000 annually, and the retiree has notparticipated in a defined contribution plan offered by the employer.
    • If the retiree participated in SURS for less than 10 years, then the IRC §415(b) limit is reduced by10 percent for every year of participation less than 10.

How is a retiree’s “annual benefit” for IRC 415(b) limit purposes determined?

  • Once the original annuity has been calculated, SURS begins the process of determining the portion of theannuity designated as the “annual benefit” for IRC 415(b) limitation purposes.
  • All retirement benefits are screened at retirement and annually thereafter to identify those that meet criteriafor testing for the IRC 415(b) limit.
  • In addition to the amount of the monthly retirement annuity, any lump-sum payments such as a refund ofsurvivor contributions and a refund of excess contributions are also considerations in determining whetheror not the member meets the testing criteria. Lump-sum payments are actuarially converted into annuitiesfor testing purposes.
  • If staff determines that a member’s benefit meets the criteria for IRC 415(b) limit testing, the accountingstaff uses a custom-built actuarial tool which calculates the “annual benefit” amount that is payable underthe SURS qualified trust.
  • If the “annual benefit” exceeds the IRC 415(b) limit, the “annual benefit” is split into two portions:
    • Dollar Limited Benefit: The maximum annual amount of the retirement benefit payable to theretiree from the SURS qualified trust. Payments from the SURS qualified trust are reported onIRS Form 1099-R.
    • Excess Benefit Arrangement (EBA): The amount in excess of the IRC 415(b) limit that ispayable to the retiree through the EBA. Payments from the EBA are reported on IRS Form W-2as nonqualified deferred compensation plan payments. As such, if paid as a lump-sum benefit,payments may not be rolled over to an eligible retirement plan to avoid taxation.

How are EBA payments taxed?

Excess Benefit Arrangement (EBA) payments are taxable gross income under federal tax law, and are treated as distributions from a nonqualified deferred compensation plan of a taxable corporation per Section 415(m)(2) of the Internal Revenue Code. IRS Publication 957 characterizes non-qualified deferred compensation plan distributions as “special wage payments” that are reportable on IRS Form W-2. EBA payments may not be rolled over to an eligible retirement plan (such as a 401(a) plan, 403(b) plan, 457(b) plan or an IRA). SURS remits taxes to the Internal Revenue Service based on the withholding instructions provided by each retiree under Form W-4 (please do not use Form W-4P).

At the end of the tax year, SURS issues to the retiree a Form W-2 to reflect payments and tax withholdings on the EBA portions of the retirement benefit. This Form W-2 will be issued in addition to any Form 1099-Rs issued for the portion of the retirement benefit that is less than the annual benefit limits of Internal Revenue Code Section 415(b).

Illinois tax law excludes all SURS benefit payments from taxable income for Illinois state income tax purposes.

What Should I Take Away from This?

If your retirement benefit exceeds or is expected to exceed the amount that SURS can pay from the trust fund on an annual basis, a portion of your retirement will be paid from the SURS EBA fund. The total amount of your retirement benefit will remain the same; it will simply be paid from two sources: the SURS trust and the EBA fund.

The portion of your payment from the EBA fund will normally be paid later than funds from the SURS trust. EBA funds must be requested and received from the State of Illinois before they can be paid.

The total benefit is considered taxable gross income for federal income tax purposes, and it is not subject to Illinois state income tax. The portion of your benefit paid from the SURS trust will be taxed based on your W-4P form and reported on Form 1099-R. The portion of your retirement benefit paid from the EBA fund will be taxed according to the W-4 form on file and will be reported on a Form W-2.

SURS will determine the portion of your benefit payable from the SURS trust and portion payable from the EBA fund at the time of retirement and on an annual basis thereafter.

State Income Tax

Benefits from SURS are not subject to Illinois income tax. However, SURS benefits may be taxable by other states. If you do not live in Illinois or you plan to move after retirement, check with your state’s Department of Revenue to find out if your benefit is taxable.