Considering Service for a prior company.

[Earl]

I have a plan, 50/50 owners of company covered, no employees. They have split up. One partner starts a new corporation and wants to start a new plan. I want to include service for old co. in the calculation of benefits for new co. plan. Using service for eligibility or vesting is moot, new co. has no employees either, only owner.

Is 50% ownership of old co. sufficient to allow incorporating for years of participation? Seems likely to me, but i don't know where to look.

Is 50% ownership of old co. sufficient to allow incorporation of salary history? Seems unlikely.

Thanks for any hints anyone might have.

[rcline46]

COmpany or partnership? In any event use the service and pay. I did that for a group of 4 who went individual, counted service and pay back. IRS audited two of the plans (Defined Benefit) - no problems. Just identify predecessor entity in document. Fun part is you get a whole new 415 limit since not a controlled group!

[Guest]

Be careful with your "whole new 415 limit since not a controlled group!" comment. Although based on the two examples stated (50/50 & 25/25/25/25), I would agree that there is probably not a controlled group issue, be careful not to overlook 415(h), which reduces the controlled group threshold from "at least 80%" to "more than 50%" for 415 purposes.

Just a note of caution.

[KJohnson]

I think the 50% is just parent/sub and not brother/sister for 415 purposes. Also if the old partnership ceased to exist, I think you may be safe on a controlled group analysis in any event.

If this is an issue you might want to look at PLR ,9541041, where six P.A's merged into a "new corpororation" The IRS stated that if the prior corporations "ceased to exist" because of the merger then the plans of the prior employers and the plan of the "new" employer would not need to be aggregated for 415. IRS reasoned that corporations must exist at the same time to be under common control. Since "old employer" ceased to exist at the time "new employer" came into existence--no common control and no Section 415 aggregation.

Also, again it may not be an issue, but I believe that past service credit for benefit accruals with a non-predecessor employer must be tested for discrimination under 401(a)(4). I recall that there may be a safe harbor of five years of credit.

[Guest]

I'm not sure I'm following you. First, I agree that the 50% only applies to "parent-subsidiary" controlled groups, but where I get lost is this statement that "if the prior corporations 'ceased to exist' because of the merger then the plans of the prior employers and the plan of the 'new' employer would not need to be aggregated for 415".

If this is true, what would stop someone from creating and terminating corporations every 10 years, accruing the max 415 benefit each time? I have always thought that if you owned more than 50% of any existing or previous companies, than any benefits received from those companies had to be aggregated for 415 purposes.

[KJohnson]

Keith N. I agree with you. When this issue came up before on this Board, I commented that the PLR seemed an open invitation to "double up" on 415 limits through corporate machinations.

That said, the controlled group rules are based on "timing" and the P.A.s in the PLR were able to convince the IRS that a controlled group can only be present if the etities have a period of "concurrent existence." However, this is only a PLR and if the IRS saw an abusive situation I sure it would not hesitate to change its mind.

[David MacLennan]

Interesting discussion. Derrin Watson's book "Who's the Employer" has a good discussion of the concurrent entity issue for controlled groups on page 183-187 (an excellent reference book, if you don't already have it - this book has made me look very smart many times).

I agree you don't have to aggregate the two for 415 limit purposes, but I don't see how you can pull prior comp history and YOP for 415(B) purposes. 415 references the "Employer" for these items, and if they are not a controlled group, the prior company can't be the "Employer". You can of course make your benefit formula include predecessor service, but that doesn't mean you can include it for 415. I believe this doesn't apply where there is a mere "change of form", such as a sole proprietor incorporating, and I seem to recall there is some IRS promulgation that blesses this exception. Also, Derrin Watson suggests you should not try to double up on 415 limits where there is a mere change of form, and cites IRC 368(a)(1)(F) (I haven't read this code section).

One comment on the favorable determination letter and plan audits. Due to lack of sophistication of the reviewers/auditors, especially with DB plans, I don't think it is very meaningful to pass those tests, if the client actually wants to comply with the law vs getting away with something.

[KJohnson]

I agree with the comp issue, I think for DC plans you would have to have $140,000 of Comp in each entity if you wanted to put $70,000 away for the year.

However, I wonder about the application of 368 to 415 employer aggregation. Section 368(a)(1) is a "statutory merger" which appears to be what happened in the PLR cited above. If all corporate reorganizations under 368 are considered the same company for 415 purposes then I think there is a problem with the PLR.

As an aside, this has always struck me as an issue for the "successor rule" for 401(k) Plans. The conventional wisdom is that if you terminate a 401(k) Plan before a statutory merger and then the merged entity adopts a new 401(k) Plan you have not run afoul of the successor plan rule. The stated reason is "controlled group timing" similar to that discussed above regarding 415. This appears to work in a stock sale where the target and the acquiring company retain a separate existence (and of course in an asset sale). However, under 368, it would appear that in a statutory merger, the merged entity is really the same "corporation" as its pre-merger components and you would therefore have a violation of the successor plan rule. That said, I have flagged this "statutory meger" issue in cover letters to the IRS seeking a determination letter on a termination of 401(k) plans and have had no problem as yet.

[Guest Derrin Watson]

Originally posted by Keith N

where I get lost is this statement that "if the prior corporations 'ceased to exist' because of the merger then the plans of the prior employers and the plan of the 'new' employer would not need to be aggregated for 415".  

If this is true, what would stop someone from creating and terminating corporations every 10 years, accruing the max 415 benefit each time?  I have always thought that if you owned more than 50% of any existing or previous companies, than any benefits received from those companies had to be aggregated for 415 purposes.

My take is that mere changes of form would be disregarded. Here are my comments from the current edition of Who's the Employer:

The author cautions practitioners not to rely on this rule where the change is a mere change in form or locale (such as incorporating a sole proprietorship, or moving a California corporation to a New Jersey corporation).  The Code tends to disregard such changes.  

Change in form.  Gary and Gail own a restaurant as a partnership.  The business has a defined benefit pension plan.  They terminate the partnership and its plan on December 31, 2000, and January 1, 2001 begin operating the restaurant under a newly formed corporation, of which they own all the stock. The new corporation forms a defined benefit plan.  The two businesses would likely be regarded as the same entity for purposes of IRC §415(b) and their plans would be aggregated.

This issue can also arise in determining if a plan is top heavy.  An example involving a common control situation comes from the top heavy regulations:  

A sole proprietor terminated a Keogh plan in 1981. In 1982, the sole proprietor incorporated and established a corporate plan with a calendar-year plan year. For purposes of determining whether the corporate plan is top-heavy for its 1984 plan year, the terminated Keogh plan and the corporate plan would be part of a required aggregation group. The sole proprietor and the corporation would be treated as a single employer under section 414©. Under Question and Answer T-4, the terminated plan would be aggregated with the corporate plan because it was maintained within the five-year period ending on the determination date for the 1984 plan year and because, but for the fact that it terminated, it would be aggregated with the corporate plan because it covered a key employee.

The example turns on finding the sole proprietorship and the corporation to be aggregated under IRC §414©, the sister section for unincorporated entities to IRC §414(b).  Some commentators have felt this regulation contradicts PLR 9541041.  However, it is an example of a mere change in form, which is not covered by the PLR.  Moreover, since a sole proprietorship exists so long as the proprietor lives, the two entities do exist simultaneously, thus bringing them outside PLR 9541041.

[KJohnson]

Derrin, do you think there is a specific interplay between 415 and 368 as a whole, or do you only run into problems under 368(a)(1)(F)? Do you even think you look to 368 on this issue or is it more of a 414(a) PLR 7742003, 8050283 predecessor plan issue? If it is a predecessor plan issue do you think that, given the absence of regs, there are any definite rules to follow other than your examples of the incorporation of a sole proprietorship or a partnership?