Universal Availability

[Guest B2Randolph]

According to the 403(b) regulations, an employee is considered "normally works less than 20 hours a week" if he meets two criteria.

1. Employer generally expects him to work less than 1000 hours in the year of hire

2. Employee actually works less than 1000 hours in the year of hire and each subsequent year.

If an employee works more than 1000 hours in the 12 month period, can he be excluded in a subsequent year using the "normally works less than 20 hours a week" exclusion if he drops below 1000 hours again?

In other words, can an employee fall in and out of this class? Or is he considered, once in, always in like normal eligibility?

[Guest Sieve]

JOhn --

If the plan is subject to ERISA, then the new IRS regs re: universal availability will not work, and you have to use ERISA Section 202 and the normal year of service rules (as mentioned in Treas. Reg. Section 1.403(b)-5(b)(4)(iii)(B)(2))--meaning, I think, that once reaching the 1,000 hour threshhold in a year, participation continues ad infinitum. The first year, however, you would use the IRS 20-hr/wk expectation rule.

Also, I don't think the rule (for a non-ERISA plan) is that the employee has to meet the 1,000 hour requirement (after the first year) for every additional year. What the reg is saying is that when you determine the applicability of the universal availability rule for each year after the first, you look to see if the 1,000 hour requirement was met in the prior year--so an employee could move in and out of eligibility to participate depending on hours in subsequent years.

Also, the 1,000 hour expectation rule only applies in the first year, when there is no track record, and you will look to the prior year each year after that (in a non-ERISA plan, of course). So, if an employee is expected to work less than 1,000 hours in the first year, you don't have to let them into the plan for that year. But, if they do, in fact, work 1,000 hours in that first year, then they will be in the plan for year 2, even if you expect them to work less than 1,000 hours in year 2 (and, if it's an ERISA-covered plan, then that participation will continue despite any subsequent h/s).

[Kevin C]

Sieve,

Do you see ERISA as requiring you to not use the <20 hours per week exclusion, or just modifying its use? I'm concerned about the part of the regs where it says that if one person in an excluded category is allowed to participate, then everone in that category must participate.

We are in the middle of an IRS audit of a 403(b) where the <20 hours per week exclusion is the only unresolved issue. One of the agents involved does the training for 403(b) audits in our region. He told me that every plan he has ever audited that used the <20 hour per week exclusion has made a mistake in applying it.

[Guest Sieve]

Kevin --

Looks like John deleted his post--my post doesn't appear responsive anymore . . .

I see ERISA as having an impact only in year 2, and therefore the regs are applicable in year 1. It would appear to me that an ERISA-covered 403(b) plan--at least under the new regs--would be required to use the 20-hr. expectancy rule for year 1, because that is more generous than ERISA and both sets of rules would apply.

If someone was not expected to work 1,000 hours but did, then that person would not be required to be in the plan in year 1 (under either ERISA or the regs), but would be in the plan in year 2 (under both ERISA and the regs). Frankly, there may be situations in which using only the regs may not work quite right, so I guess I would use whatever rule (ERISA or regs) that worked more advantageously for the employee (i.e., the better of the regs or ERISA). But you could not ignore the regs' use of the 20-hr. expectancy rule in year 1.

Of course, as mentioned in my earlier post, ERISA mandates that participation will continue once performing the h/s has been reached, so that takes an ERISA-covered plan out of the regs' annual look-back rule for continued eligibility.

I believe an end-of-year or y/s requirement for allocation of an employer contribution is still acceptable, but IRC Section 410(b) rules will still come into play in the normal manner (since 410(b) & 401(a)(4) apply under the regs).

[Guest Mr. Kite]

I have been looking at this issue also, and have concluded that the 20-hour-employee exclusion for elective deferrals for an ERISA plan., particularly because of the rule in 1.410(a)-3(e)(2) ex. 3, because the first part of the 20-hour-employee test (expected to work <1000 hours in 12 months) could exclude an employee from participating after satisfying a year of service. See the IRS Quality Assurance Bulletin issued 2/16/2006.

Also, in looking at the regulations definition of a 20-hour-week, it looks like once an employee exceeds 1000 hours in a year they must be allowed to electively defer throughout. The regulations require that the employee work less than 1000 hours during EACH plan year, and once the employee hits 1000 hours that requirement can no longer be satisfied. Oddly enough, it looks like under the rule an employee could be excluded from elective deferrals even if he or she actually works more than 1000 hours in the first 12 months -- as long as it was reasonably expected that the employee would work less than 1000 hours.

[Guest Mr. Kite]

Kevin --

Looks like John deleted his post--my post doesn't appear responsive anymore . . .

I see ERISA as having an impact only in year 2, and therefore the regs are applicable in year 1. It would appear to me that an ERISA-covered 403(b) plan--at least under the new regs--would be required to use the 20-hr. expectancy rule for year 1, because that is more generous than ERISA and both sets of rules would apply.

If someone was not expected to work 1,000 hours but did, then that person would not be required to be in the plan in year 1 (under either ERISA or the regs), but would be in the plan in year 2 (under both ERISA and the regs). Frankly, there may be situations in which using only the regs may not work quite right, so I guess I would use whatever rule (ERISA or regs) that worked more advantageously for the employee (i.e., the better of the regs or ERISA). But you could not ignore the regs' use of the 20-hr. expectancy rule in year 1.

Of course, as mentioned in my earlier post, ERISA mandates that participation will continue once performing the h/s has been reached, so that takes an ERISA-covered plan out of the regs' annual look-back rule for continued eligibility.

I believe an end-of-year or y/s requirement for allocation of an employer contribution is still acceptable, but IRC Section 410(b) rules will still come into play in the normal manner (since 410(b) & 401(a)(4) apply under the regs).

I assume the ERISA rules you're referring to for the year is the minimum age/service rule. However, I don't believe this rule will allow a situation in which some employees have a 1000-hour minimum service requirement (part-timers), but other employees (full-timers) don't, and may participate immediately. Further, I don't believe you can apply a 1000-hour/year service requirement across the board for eligibility for elective deferrals, because the universal availability rule does not allow you to exclude employees who are expected to work 1000 hours or more.

[Guest Sieve]

Mr. K --

A 403(b) plan subject to ERISA must apply ERISA participation standards found in ERISA Section 202, and the ERISA Reorganization Plan (1978) transfers to Treasury the authority to provide regulations and guidance under ERISA Section 202, and requires DOL to follow IRS participation guidance in its enforecement activities--meaning that DOL must follow Treasury's 1.410(a) regulations and other rulings. So, the Quality Assurance Bulletin (2/14/2006) you reference is pertinent to this analysis.

But, I don't think the QAB impacts a 403(b) plan's 20-hr. expectancy rule in the way you suggest, since it discusses a different issue--i.e., that a part-time exclusion based on expected h/s is prohibited because it could exclude an employee, based solely on h/s, in (as you point out) the year AFTER completing 1,000 h/s. However, the 403(b) rules do not do that--they include any employee as a participant if that employee completed 1,000 h/s in the prior year, whether or not the employee was expected to complete 1,000 h/s or not. Remember, even a qualified plan can exclude an employee for a full year, and the concerns in the QAB were that part-timers could be excluded, as a group, beyond year 1 (in fact, forever), even in years after individual employees completed 1,000 h/s. But, IRC Section 410(a) does not require participation until after a y/s, so it was not excluding them in year 1 that was the issue in the QAB: it was excluding them in year 2 and beyond (which an ERISA-covered 403(b) plan will not do if the individual actually completes 1,000 h/s in year 1).

I still think the regs, as to a non-ERISA 403(b), allow you to look to the prior year separately each year, so that an individual can go in and out of participation based on actual h/s in the immediately prior year (see my 1st post in this thread). Of course, an ERISA plan would have to allow an employee who once reached 1,000 h/s in a y/s to continue to participate, whether or not that employee is above or below 1,000 h/s in subsequent years.

Because ERISA looks to the regs under IRC Section 410(a) for its eligibility/participation rules, it would appear that there is a conflict between the 403(b) regs & IRC Section 410(a). The Code's Section 410(a) rules do not allow participation based on hours expectation, and (as you point out) would not countenance a participation provision that permits some employees to participate in the plan based on expectations of h/s in the future while excluding others based on the flip of that hours expectation, even if the plan passes IRC Section 410(b) coverage testing. So, frankly, the more I think about it the more I don't see how an ERISA-covered 403(b) Plan can meet the regs' standard (expected to work 20 hrs/wk) in year 1 while, at the same time, meeting IRC Section 410(a)--unless all employees are immediately eligible.

But here's an approach that just might work. What if the plan provided that all employees were immediately eligible in year 1, but were not eligible thereafter until meeting a y/s requirement? It would be sort of like a rolling eligibility amendment, applying to each new employee. That would get around the 410(a) issue in year 1, and would still permit a plan to require a year of service for continued participation beyond the first year. And it would comply with the IRS regs.

[Guest mjb]

According to the 403(b) regulations, an employee is considered "normally works less than 20 hours a week" if he meets two criteria.

1. Employer generally expects him to work less than 1000 hours in the year of hire

2. Employee actually works less than 1000 hours in the year of hire and each subsequent year.

If an employee works more than 1000 hours in the 12 month period, can he be excluded in a subsequent year using the "normally works less than 20 hours a week" exclusion if he drops below 1000 hours again?

In other words, can an employee fall in and out of this class? Or is he considered, once in, always in like normal eligibility?

Given the complexities of intergrating the universal availablity rule with the 1000 hours of service requirement of ERISA and the adverse consequences of taxation of deferrred benefits for failure to comply with UA, why would an employer want to exclude any employee from participation (other than students exempt from FICA or employees who are eligible to participate in another plan) especially since there is no ADP testing?

There is no need for a client to run up legal bills trying to determine how the UA rules apply since most NHCEs will not participate.

[Guest capitol_hill]

Thank you all for sharing your analysis of the 403(b) 1000-hour rule, i.e., 1.403(b)-5(b)(4)(iii)(B).

In this same vein, can you tell me whether you think 410(a) applies to non-ERISA plans?

Clearly, the parenthetical at clause (B)(2) pulls in IRC 410(a) (and its mirror image, ERISA 202) plus the regulations under 410(a) and 202 (DOL Part 2530).

But if 410(a) applies to non-ERISA plans – and I can’t find anything in the 403(b) regs that says 410(a) does not apply to such plans – then it would seem that all the complicated DOL Part 2530 rules for determining “years of service” would also apply to non-ERISA plans under 1.410(a)-5.

Any thoughts?

[Guest Sieve]

IRC Section 410(a) does not apply to non-ERISA 403(b) plans. The parenthetical you refer to (at Treas. Reg. Section 1.403(b-5(b)(4)(iii)(B)(2)) brings in both IRC Section 410(a) regulations and ERISA Section 202(a) only "with respect to plans that are subject to Title I of ERISA".

[Kevin C]

My concern has to do with the last part of 1.403(b)-5(b)(4)(i):

(i) Exclusions for special types of employees. --A plan does not fail to satisfy the universal availability requirement of this paragraph (b) merely because it excludes one or more of the types of employees listed in paragraph (b)(4)(ii) of this section. However, the exclusion of any employee listed in paragraph (b)(4)(ii)(D) or (E) of this section is subject to the conditions applicable under section 410(b)(4). Thus, if any employee listed in paragraph (b)(4)(ii)(D) of this section has the right to have section 403(b) elective deferrals made on his or her behalf, then no employee listed in that paragraph (b)(4)(ii)(D) of this section may be excluded under this paragraph (b)(4) and, if any employee listed in paragraph (b)(4)(ii)(E) of this section has the right to have section 403(b) elective deferrals made on his or her behalf, then no employee listed in that paragraph (b)(4)(ii)(E) of this section may be excluded under this paragraph (b)(4).

I agree with Sieve that under ERISA, once you work 1,000 hours in a year, you would participate going forward. But, under the regs, the <20 hours per week determination for year 3 is based on hours worked in year 2. Suppose someone worked full time in year 1 and went to 10 hrs/week at the start of year 2. Under the regs, he would be deferral eligible for year 1 since he is expected to work 1,000 hours in year 1, eligible for year 2 since he worked 1,000 hours in year 1 and ineligible in year 3, since he worked < 1,000 hours in year 2. ERISA would make him eligible to defer in year 3. But, the regs also say that if one <20 hours person is allowed to defer, then all < 20 hours people must be eligible. We would have someone who could be excluded under 1.403(b)-5(b)(4)(ii)(E), who is eligible because of ERISA reguirements. It looks like that would mean this ERISA covered 403(b) would no longer be able to use the <20 hours exclusion. I hope I'm missing something.

Sieve, your idea of differing eligibility for year 1 and later years won't work because of the quote above.

MJB, your advice matches the IRS agent's advice I received recently. I will point out that the agent also said there are not any problems that can't be fixed. Their goal is to maintain the employees' tax deferred status. However, employer sanctions may apply to the correction. In our case, the eligibility issues affect a very small percentage of the population, so we should be able to self correct with no sanctions even with the issues being discovered during audit.

[Guest mjb]

While it may be true that are are no problems that cant be fixed, I dont think there are many NP who have additional funds to spend on legal advice to comply with both the IRS and ERISA rules given the lean times for all 501©(3) organizations. I dont see any business justification for excluding employees who are not students or participants in another plan.

[Guest capitol_hill]

The < 20 hour exclusion is an issue for several of our NP clients. For example, one NP has an especially rich match (10% match on 2% elective deferral). That NP is especially keen to exclude < 20 hour employees.

That being said, I completely agree with your point. Thus, in our case, we're spreading the 10 hours it took for me figure this out over several clients. Hopefully for the NP, whatever firm they are using to review their plan (prototype or not) has at least a half-dozen other 403(b) clients.

[Guest mjb]

The < 20 hour exclusion is an issue for several of our NP clients. For example, one NP has an especially rich match (10% match on 2% elective deferral). That NP is especially keen to exclude < 20 hour employees.

That being said, I completely agree with your point. Thus, in our case, we're spreading the 10 hours it took for me figure this out over several clients. Hopefully for the NP, whatever firm they are using to review their plan (prototype or not) has at least a half-dozen other 403(b) clients.

I dont understand your response- you can allow all employees to make salary reduction to comply with the universal availability rules of the IRS regs (which applies egardless of whether the plan is subject to ERISA). You can have a separate 1000 hour of service under ERISA for those employees who are eligible for matching contributions which would exclude the <20 hour employees.

Non ERISA plans are exempt from the requirements of 410 of the IRC or 202 of ERISA, i.e., the 1000 hours of service requirement.

[Guest Sieve]

Kevin C --

Frankly, it appears that the combination of 403(b) universal availability & ERISA Section 202 eligibility will virtually require that all employees in an ERISA-covered 403(b) must be given the opportunity to participate immediately in elective deferrals, as mjb suggests. (But, capitol_hill, the rules of ERISA Section 202, & not the universal availability rules, apply for ERISA-covered employer contributions.)

But, for what it's worth, I still think my 2-fold eligibility standard works for elective deferrals will not run afoul of either of those provisions:

• Year 1 (for everyone's year 1): Everyone is eligible. Meets ERISA 202 because no one is excluded based on an h/s expectation. Therefore, because it's BETTER than either the 403(b) regs or ERISA Section 202 requirements, it "passes" both 403(b) & 202.
  
• Year 2 and beyond (everyone's year 2 & beyond): Eligibility limited to those who have completed a year of service ONE time only. This is BETTER than 403(b) regs (which can limit participation to those completing 1,000 hours in the prior year), and is spot on to the ERISA Section 202 rules (once 1,000 h/s, always in the plan).
  

I don't know who in Reg. Section 1.403(b)-5(b)(4)(ii)(E) would be excluded in the above arrangement. Those in the first year are treated as 20-hr. employees under the regs based on expectations, but, in the above system, ALL of those are in the plan in Year 1 regardless of hours they perform or are epxcted to perform in that year. Those in Years 2 or beyond are treated in the regs as 20-hr employees based on the prior year, but under my provisions they are always included, on a continuing basis, just based on the first year they perfom 1,000 hours.

Remember, an employee is a 20-hour employee under -5(b)(4)(ii)(E) under 2 different scenarios--depending on how long that employee has been employed--and the rules are different for each 20-hr employee (those in their first year, and all others). That diverse treatment certainly is to be carried through in the language you quote in reg. 1.403(b)-5(b)(4)(1) as it relates to -5(b)(4)(ii)(E) and, by reference, -5(b)(4)(iii)(B), so when reference is made to excluding anyone in E it really must be read as excluding anyone according to the separate treatment in (iii)(B).

Therefore, my suggested solution uses neither the first half nor the the second half of the 20-hour rule, but is better than each one with respect to those convered by the appropriate the 20-hour rules--and meets 202, as well.

It's all academic, of course, if we take mjb's suggestion. But, as capital_hill points out--and I assume the "rich" match there was 100% of 2% of comp, rather than (as stated) 10% of 2% of comp--not all non-profits want everyone to be eligible for all contribution sources. But remember -- universal availability only applies to electives (see -5(b)(1)), so, only 202 has to apply to the employer contributions (i.e., year of service and age 21).

(mjb posted while I was composing this, and our comments somewhat overlap--no piling on intended, capitol_hill!! .)

[Guest capitol_hill]

The < 20 hour exclusion is an issue for several of our NP clients. For example, one NP has an especially rich match (10% match on 2% elective deferral). That NP is especially keen to exclude < 20 hour employees.

That being said, I completely agree with your point. Thus, in our case, we're spreading the 10 hours it took for me figure this out over several clients. Hopefully for the NP, whatever firm they are using to review their plan (prototype or not) has at least a half-dozen other 403(b) clients.

I dont understand your response- you can allow all employees to make salary reduction to comly with universal availability rules of the IRS regs. You can have a separate 1000 hour of service under ERISA for those employees who are eligible for matching contributions which would exclude the <20 hour employees.

I was attempting to make a subjective observation about business reasons, but perhaps I am not following your post? ...

ah ... I meant the plan gives a 10% (of comp) match if an EE elects to contribute 2% (of comp) (Thanks Stevie).

[Guest Sieve]

What mjb & I are saying is that the business reason you stated for wanting to carefully limit participation does not implicate the 20-hr rule, because that rule only applies to elective contributions. Rather, employer contributions (i.e., the match in your client's case) subjects the plan to coverage under ERISA (if it is not a church plan or a governmental plan), and that permits the plan to exclude individuals from the employer contribution until AFTER they have completed their first 1,000 hour-of-service year.

[Kevin C]

MJB,

I agree with you. I think I have the client convinced to remove the <20 hrs exclusion going forward. But, looking at ERISA along with the regs, I've pretty much convinced myself they have no choice but to remove the <20 hours exclusion.

Sieve,

I still don't think it works. Employee A hires in at 10 hours/week and stays on that schedule. You would have A eligible year 1 and ineligible year 2, 3, ... Employee B worked 1,000 hours in year 1 and then goes to 10 hours/week at the start of year 2. B stays eligible in future years regardless of his hours in the preceding year. In year 3, A is ineligible and B is eligible, but both could be excluded under the regs <20 hours exclusion since they both worked less than 1,000 hours in year 2. But, the regs say if B is eligible, A must be eligible, too.

[Guest Sieve]

Kevin --

I agree with you that you really ought to be providing that everyone is eligible from day 1, and then follow ERISA rules thereafter (once, in, always in). I don't see any other way to comply with the IRS 403(b) regs and ERISA eligibility regs. As you point out, my convoluted eligibility provision doesn't work--well, it works if you just ignore the regs you cite at -5(b)(4)(i), but that's probably not a good idea!!