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Thought experiment: For a retirement plan that allows a participant to direct investment beyond designated investment alternatives and brokerage windows, consider whether the plan might require, uniformly, that the directing participant at her personal expense deliver to the plan’s administrator the US Labor department’s prohibited-transaction exemption or a written opinion, addressed to the administrator, of a law firm acceptable to the administrator, that a proposed investment involves no nonexempt prohibited transaction. Reciting the idea reveals the risk about tax law’s nondiscrimination condition: The IRS or a court might perceive the uniform condition as favoring some highly-compensated employees, who might have or get money to spend on lawyering, when many nonhighly-compensated employees might lack that financial capability. But if the would-be directing participant doesn’t bear the expense, who does? Would getting advice that each proposed investment involves no nonexempt prohibited transaction be a loyal and prudent plan-administration expense for the plan’s exclusive purpose? If it is a proper expense, how would the administrator allocate the expense among individuals’ accounts? Would it be fair that an individual who directs investment only in designated fund shares is charged a portion of expenses incurred because others seek question-raising investments? Or, if the legal-advice expenses are charged only among individuals who requested question-raising investments, does that raise nondiscrimination issues (even if at a different layer)? Despite a participant’s otherwise proper direction, a plan’s fiduciary must not invest if she knows or, using an experienced fiduciary’s “care, skill, prudence, and diligence”, would know that the investment involves a nonexempt prohibited transaction. So, someone has to pay for the needed lawyering—whether that’s serving as an applicant’s representative in a submission to the Labor department, or researching law and analyzing facts to write a lawyer’s opinion. If a plan’s administrator, trustee, or other fiduciary doesn’t get some legal comfort, how would she show she acted prudently?

Why is the individual involving the plan in the purchase rather than buying the ranch entirely with personal (non-plan) funds? In these types of propositions I am concerned that the individual is using plan funds to serve personal (non-plan) interests, such as enabling the purchase when the participant does not have enough money outside the plan to cover the purchase price. That fits my understanding of a prohibited transaction. I also think it is a set-up for future PTs and other problems as the ranch is operated. Is the plan capable of covering its share of potentially unlimited demands for more capital? Qualified plans are not meant to operate businesses.

We administer a self-trusteed 401(k) plan that offers self-directed investment accounts to all participants. I believe each can purchase mutual funds through their American Funds account. The plan does not restrict each of these participant to just mutual funds but also allows for private investments. One of the participants wants to purchase a small Almond Ranch. He would like to personally invest $400,000 and invest $600,000 from his plan account. There would be strict accounting splitting the income and expenses each year for both the individual portion (40%) and the plan portion (60%). If this is followed we do not think there would be a prohibited transaction. We know somebody needs to run the Almond Growing entity. They could get 3 leased employees from a PEO. Correct me if I am wrong here (I very well could be). I believe that after this potential transaction, they would need to cover these leased employees in their plan if the leased employees are substantially full time. I believe substantially full time is 1,500 hours or more per year. What if they had 3 Leased employees who would be restricted to only 1,200 hours per year? I would think the leased employees would ever become eligible for the plan. Another Issue might be UBTI. Does anyone think UBTI would apply in this case? Thanks!

Artie M, now I see your observation. An organization that otherwise might tolerate some risk about a tax treatment of an employee’s compensation might be more cautious about a director’s compensation, because the directors govern the organization. Likewise, the organization’s C-suite executives, including the general counsel, might seek to maintain the directors’ respect, trust, and good graces, and might find that doing so is in the organization’s proper interests. Also, an organization’s caution regarding a director’s risk might be influenced by knowing that some, many, or all the directors each engages one’s personal counsel, independent of the organization’s inside and outside counsel. Further, many law firms could face positional or issue conflicts (even if not conduct-violating, at least practically) if they would provide arguably inconsistent advice even to differently situated clients.

@Peter GuliaI understand that service provider encompasses a broader group than just employee. I simply meant that the dynamics of determining advisee/advisor issues can be extremely different depending on the character of the service provider. if advising a company regarding an individual employee and the tax consequences under 409A, one often notes the adverse tax consequences, at least at this time, are almost entirely on the employee. In which case, the employer might take a riskier path than another. The dynamics change drastically if you tell the same company client the adverse tax consequence would land on the directors even if you have language stating the company doesn't guarantee any tax consequences and has no liability, etc.. That's all I was saying.

I was rushing meant to clarify that this is 100% the better solution. There was an IRS FAQ way back when this fact pattern was posed to the IRS and they said that an 11g was acceptable. It wasn't precisely the same but it was pretty much the same. The point was you dont have to be failing a test with no other means of passing to be able to do an 11g amendment, and the question was about making people eligible who were not previously eligible. I found it, it was the ASPPA Annual Conference Q&A from 2010. I know it is from behind the paywall where I got it, so not sure I can share it.

Agree with Bri, just check the top heavy i.e. which plan provides it? Hopefully only DC. If the DC plan allocation is by groups, make sure you still test 1/3 rule on gateway thoiugh.

Many plan sponsors design one’s plan to follow this: 26 C.F.R. § 1.401(k)-1(d)(3)(ii)(B) https://www.ecfr.gov/current/title-26/part-1/section-1.401(k)-1#p-1.401(k)-1(d)(3)(ii)(B). Of the seven situations deemed an immediate and heavy financial need, EBP’s paraphrases are of –(B)(2) and –(B)(4).

Very common to add a second PS only plan and merge the 2 plans later. However, is this a cost-effective way to approach i.e. between the plan set up and annual administration? Afterall, you may only need a small amount of contribution to pass. As Bill mentioned, 11-g is a solution with the terminated employees but they will need a vesting adjustment, some say partial, some say 100% vesting. If they are already 100% vested, no issues. But, can you amend the plan now to increase the benefit retro to 2025 e.g. remove last day rule and/or 1000 rule only for 2025? I do not know the answer to it. If you can, then you can deduct for 2025. just thinking out loud with some random thoughts.

EBP - can you give me a citation to the sourced of you safe harbor hardship reasons. Thanks. David

Safe harbor hardship reasons include: (A) costs directly related to the purchase of the principal residence for the participant (excluding mortgage payments) or (B) payments necessary to prevent the eviction of the participant from the participant’s principal residence or foreclosure on the mortgage on that residence. A rent deposit is neither so does not qualify as a permitted hardship withdrawal under the safe harbor reasons. The inclusion of "mortage" in both of these reasons further supports the requirement that it be a purchase. See Peter Guilia's post for alternatives.

Although a nonexecutive director of an organization is not its employee, one is a service provider. Much in the § 409A rules is conceptually similar whether the relationship is employee-employer or service provider and service recipient.

I have done what you suggest in scenarios where the existing plan is a comp to comp or integrated allocation, and I ran the fact pattern by a highly respected compliance service. There is absolutely no rule against setting up a new profit sharing plan just because you have another existing one. That was the answer I received.

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Thanks for the response. Here are some additional facts that may or may not affect your answer. A participant can elect to defer or not to defer each year, but the election regarding the form of distribution (lump sum or installments) is made with the initial deferral election and, once made, is permanent and applies to all amounts deferred (i.e., a participant can't elect a lump sum distribution with respect to one year's deferrals and installments with respect to another year's deferrals). Each installment is NOT designated as a separate payment under the plan terms. I agree that there can be different times and forms of payments for separately identifiable amounts, but in this case I don't see how the amounts are separately identifiable, and I don't see much difference between this and the example of a violation in the regulations, where there is one payment schedule if a separation from service occurs on a Monday and a different payment schedule if a separation occurs on any other day of the week. In both cases, the service provider and service recipient have the ability to manipulate the time of payment by determining when the separation will occur.

I think there is a problem. Initially, @M Gerald's view seems problematic because the directors appear to be able to defer different amounts each year ("allows a company's directors to elect to defer a portion of their director fees") so there are no "consistent" amounts to support that take. @gc@chimentowebb.com's view seems more plausible because his view is premised on each year's deferral being a separately identifiable amount under a plan, which they are. The anti-toggling rules apply to each separately identifiable amount. It is very typical of deferred compensation plans that permit service providers to defer all or a portion of their compensation for an upcoming year to have separate elections for each of those "tranches". However, the installment form of payment with the 10 installment limit throw a wrench into this argument, at least to me, because with the 10-installment form of payment it does not seem that the director's are making different elections for each tranche. Also, because they are "installments," generally that would mean there are 10 equal annual installments (equal inasmuch as they can be with potential earnings/losses of principal in later years). So, the issue again comes back to there is no "consistent" deferral amount (plus the additional years of deferral after 10) that would support the installments. So, just spit balling here but there seems to be an issue because a separately identifiable payment type of argument doesn't seem to fit the OP's facts. I generally also agree with @Peter Gulia's sentiments but these facts involve a directors' plan ...

Thoughts about other ways: If the plan allows participant loans, might this participant prefer to borrow a needed amount, with an opportunity to repay over five years? If the plan provides (or might be amended to provide) a § 72(t)(2)(I) emergency personal expense distribution, might that be a partial fit for the participant’s needs? A distribution can be “for purposes of meeting . . . immediate financial needs relating to necessary personal or family emergency expenses.” I.R.C. (26 U.S.C.) § 72(t)(2)(I)(iv). Practically, this distribution is almost standardless, especially if the plan provides it on a participant’s self-certifying claim. Although $1,000 might be much less than the participant needs, it might be better than nothing. I.R.C. (26 U.S.C.) § 72(t)(2)(I) https://www.govinfo.gov/content/pkg/USCODE-2023-title26/html/USCODE-2023-title26-subtitleA-chap1-subchapB-partII-sec72.htm. This is not advice to anyone.

Peter and Connie have the proper accounting of the facts.

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We have a participant who is asking if this situation falls under a Hardship: Due to a legal divorce, the participant has to move out of their house and needs a deposit for an apartment (first and last month's rent). It's not purchasing a primary residence, so I wasn't sure if this would apply. Thanks in advance for your input!

Sure, if there are no CB accruals then your gateway drops back to whatever your DC allocation itself will require, including potential TH.

We have a Cash Balance Plan that froze it's benefits early in 2025 (before anyone incurred 1,000 hours). Generally they have been making the 7.5% Profit Sharing contribution, in conjunction with the Cash Balance Contribution. My question is, with the Cash Balance frozen are they still obligated to make the Profit Sharing? Or is that back to a discretionary contribution and they can make any level since there's no Cash Balance contribution being made (there is no requirement).? Thanks in advance!

Here’s another way to think about this: Which adviser advises which advisee? How confident must a conclusion be to serve one’s advisee’s purposes? How much must an adviser explain to steer clear of malpractice and negligent-communication risks? Recognize that tax law consequences for an employee or service provider might not be entirely aligned with consequences for an employer or service recipient. Recognize that an employee or service provider often does not get the employer’s or service recipient’s indemnity if a plan does not get a desired tax treatment.

Those rules to interpret § 401(k), § 414(v) generally, and § 414(v)(7) particularly presume a reader has at least awareness of many other tax law conditions for eligible retirement plans. The Treasury department did what they could with what Congress enacted.

For a reader who might explore the uses, here’s Internal Revenue Code § 401(b)(3) (as compiled in the United States Code): (3) Retroactive plan amendments that increase benefit accruals If— (A) an employer amends a stock bonus, pension, profit-sharing, or annuity plan to increase benefits accrued under the plan effective as of any date during the immediately preceding plan year (other than increasing the amount of matching contributions (as defined in subsection (m)(4)(A))), (B) such amendment would not otherwise cause the plan to fail to meet any of the requirements of this subchapter, and (C) such amendment is adopted before the time prescribed by law for filing the return of the employer for the taxable year (including extensions thereof) which includes the date described in subparagraph (A), the employer may elect to treat such amendment as having been adopted as of the last day of the plan year in which the amendment is effective. I.R.C. (26 U.S.C.) § 401(b)(3) https://www.govinfo.gov/content/pkg/USCODE-2023-title26/html/USCODE-2023-title26-subtitleA-chap1-subchapD-partI-subpartA-sec401.htm.