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Private Employer & Government Plan


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A private sector employer is looking to establish a qualified plan or plans.  In gathering data, we've learned that most of the employees are covered by the state's retirement plan, even though they are employed by a private employer.  This is a result of a state law and lobbying by public sector unions, so it is what it is, even if it doesn't make any sense.  These employees are not unionized.  IRS was asked about this 3 years ago  WRT Social Security and opined that as private sector employees they are covered by SS and the IRS noted that they are not eligible for the state plan under the IRC, but that any correction for this would have to be handled by the state, as the private sector employer has no choice but to comply with state law. AFAIK the state is not pursuing any such correction and the situation still exists.

So under Section 410, what do we do with all these employees who are covered by a government plan?  They don't meet any of the 410(a) statutory exclusion.   Since government plans are generally exempt from 410 (per 410(c)), it doesn't appear that we can permissively aggregate the government plan with a private sector plan for purposes of coverage and benefits testing.

My only conclusion so far is that they would have to consider all of these employees in all testing for 401(a)(4), 401(a)(26) and 410(b), and perhaps cover some of all of them as necessary to pass the tests without regard to the government plan at all.

Any other ideas on this?

I carry stuff uphill for others who get all the glory.

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ShERPA, the private sector employer has not adopted the public sector plan, right? How does it fund the benefits for the employees covered by the government plan. Does it make contributions directly to the plan, or does it pay a contracted for amount to the governmental entity?

My guess, btw, is that your analysis is correct. When we (someday) get 414(d) regs, there may be transition rules that would be more favorable than your straight up legal analysis assumes, but we're probably years away from that.

Luke Bailey

Senior Counsel

Clark Hill PLC

214-651-4572 (O) | LBailey@clarkhill.com

2600 Dallas Parkway Suite 600

Frisco, TX 75034

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Thanks Luke.  Apparently this is a thing in the world of charter schools, who knew?  I also found IRS Notice 2015-07, the gist of it is IRS says someday they are going to propose regs that will defined govt plans and under what circumstances may they cover charter school employees and grant transitional relief.  Like you, I'd guess this is years away, it's already been 3 since the notice.

Also, the notice addresses this only from the govt plan side, not the private sector.  While it may be within IRS rule making ability to define govt plans and employees eligible for coverage, I'm not sure that the private sector side wouldn't require an IRC amendment.  410 exclusions are stated and pretty limited.  Maybe they can define an employee as being a govt employee or a private sector employee, but not both.  For now I think we're stuck, can't see any basis for putting in a plan that ignores the govt plan-covered employees for testing. 

I carry stuff uphill for others who get all the glory.

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Not disagreeing with you at all, Sherpa (sorry, it keeps autocorrecting the capitalization). It seems to me your analysis is correct. The Notice you refer to should refer back to the ANPRM (Advanced Notice of Proposed Rulemaking) that the IRS put out prior to that notice sketching out its initial thoughts on what was a governmental entity for purposes of sponsoring a 414(d) plan. A couple of features that stood out in the ANPRM were (1) charters did not know where they would land, and (2) the IRS had no tolerance for governmental plans covering nongovernmental workers, at least not on a going forward basis.

What I was obliquely suggesting in my prior comment was that when the final rules come out there may be "transition relief" under which employers who mistakenly applied common-sense rules that had no apparent basis in law (e.g., excluding employees covered by a governmental plan, or aggregating the benefits under the governmental plan with benefits under the private plan for testing) were essentially forgiven. I get it that it would be difficult to rely on such speculative relief, though.

One thought (not a helpful one, but I'll raise it anyway) that occurs to me is that 415 testing gets interesting in this situation, right? If the government is not the employer, how can it base contributions or benefits on the comp for another entity? And exclusive benefit is also a problem. Clearly, there will be transition relief for governmental plans that cover nongovernmental employees on these and related issues.

Of course, under whatever revised standards the IRS puts out when they are finally able to do it, some charters that now think they are private may end up as being "governmental" enough to sponsor a 414(d) plan.

Luke Bailey

Senior Counsel

Clark Hill PLC

214-651-4572 (O) | LBailey@clarkhill.com

2600 Dallas Parkway Suite 600

Frisco, TX 75034

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Yep, agreed Luke.

And your comments about IRS not tolerating non-government workers in govt plans, as well as the 415 issues are exactly right.  The IRS letter I mentioned in the OP made it clear that was the IRS position and it was up to the sponsors of those plans (the states) to correct the plans. 

Re transitional relief, yes the notice tees this up, but again only from the govt plan side.  It is entirely silent on the private sector plan issues.  And it would  certainly not be without precedent for IRS any relief to be far more flexible for govt plans than private plans. 

Thanks, this was helpful.  

I carry stuff uphill for others who get all the glory.

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Not only charter schools.  We're aware of governmental plans that cover employees of public sector unions and employees of associations for cities, counties, etc., which I would consider non-governmental employers.  Not sure how the private employers deal with having many of their employees covered by a governmental plan.  On the public sector side, the employers pay employer contributions to the governmental plans for these employees, and deduct employee contributions from pay that is paid to the governmental plans.  Still trying to understand the issues under the Tax Code for the governmental plans.  There seems to be zero tolerance at the IRS for governmental plans covering non-governmental employees, so apparently this has more to do with no IRS enforcement in the public sector than anything else.  Good to see these comments.

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On 5/18/2018 at 1:31 PM, Susan L. said:

Still trying to understand the issues under the Tax Code for the governmental plans.  There seems to be zero tolerance at the IRS for governmental plans covering non-governmental employees, so apparently this has more to do with no IRS enforcement in the public sector than anything else.  Good to see these comments.

Quite right.  Politically IRS is not going to assess tax on government plan benefits or contributions made pursuant to state law requirements.

But I have no doubt IRS would throw a private sector plan into audit CAP for excluding such employees from coverage or somehow aggregating or offsetting benefits when there is no authority for such in the code and regs. 

I carry stuff uphill for others who get all the glory.

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  • 1 month later...

I noticed the mention of charter schools in the thread, and I have been pondering similar scenarios.

Under many state laws, the charter schools are considered public schools. These states have laws that factor in 2015-17 considerations already, and charter school are considered public schools under state law.

If under state laws, the charter school are in fact public schools, then in my opinion, there should not be too much controvesy about establishing a non-ERISA/governmental 403b plan (let me know if you disagree); however . . .

Charter schools often have for profit private managment companies, which are owned by the same people who founded the charter school.   The charter schools hire the management companies to perform many essentional functions and most of the state-provided funds flow right to these managment companies for these services.    These management companies can provide services to several "related" schools.

We see the following scenarios, none of which I like:

1. PEOs just simply setup the charter schools in their 401k plan without much thought as to the charter school being considered a public school. I do not think these charter schools are eligible for 401ks. (not a grandfathered gov 401k plan in anyway)

2. A 403(b) is established for the charter school, and the for-profit management company is a participating employer. I do not know of any exceptions that would allow the for-profit entity to participate, but I would love to know if there is one.

3. a 401(k) is established for the management company, and the charter schools are a particpating employer. I do not know of any exception that would allow the charter school, as a public school, to participate, but I would love to know if there is one.

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