How far does the IRS's reach extend?

[Oh so SIMPLE]

The situation is this: a 4-partner law firm is owned 25% each by the professional corporations of the 4 partners. The partnership has 5 staff employees, all employed and on the payroll of the partnership. Each of the partners is on the payroll of his or her own PC, which contracts with the partnership to provide attorney services to the partnership's clients.

There is no question but that the partnership and 4 owning PCs are an affiliated service group.

There is one 401k plan that covers the 5 staff employees and the 4 partner lawyers, passing minimum coverage. This 401k plan also passes nondiscrimination tests (X-testing).

One of the lawyers (X) caused his PC to adopt a 412(i) plan, and mistakenly told the TPA that neither he nor his PC owned an interest in any other employer.

Later the true ownership is discovered by the TPA, who immediately raises multiple concerns. The obvious one is that the 412(i) plan is failing minimum coverage and is discriminatory. That is not the issue of this post.

The TPA has also notified the partnership that it has liability exposure (albeit slim, but exposure nonetheless) to the staff employees (or IRS or EBSA) for making contributions for them to the 412(i) plan, so that it will then pass minimum coverage and nondiscrimination. However, the 412(i) plan documents only indicate that the 412(i) plan covers the employee's of X's PC. The partnership did not consent to or otherwise sign the 412(i) documents (actually learning of the 412(i) plan's existence only after it had existed for 2 years.)

The TPA can point to no authority for the proposition that the partnership could be held responsible for making such contributions. However, the TPA says it is not unheard of for the IRS to take that approach with partnerships in situations such as this, where the partnership did not sign on and the plan specifies that it is limited to just X's PC.

The TPA has further frightened the partners, telling them that the 412(i) plan of just X's PC places the partnership's 401k plan at risk of tax disqualification, even though it has passed minimum coverage and nondiscrimination. Again, the TPA can point to no authority for this proposition, but insists that it is not unheard of for the IRS to take that approach with partnerships in situations such as this, and attempt to disqualify the partnership's 401k plan.

I don't see how the IRS could either hold the partnership responsible for contributing to X PC's 412(i) plan for the staff employees or disqualify the partnership's 401k plan.

Do you?

[Guest Spock]

Two issues come to my mind, but I am not an expert on ASGs.

If an ASG exists, the groups and plan(s) must be aggregated and treated as a single employer and a single plan for testing.

I think the accruals in the 412(i) plan might need to be included in your X test, which might result in reduced allocations for the other attorneys.

My other thought is that the 412(i) plan might need to satisfy 410(b) on a stand-alone basis. In that case, one NHCE needs to be covered at a minimum. (HCE coverage is 25%; 25% times .7 is 18.5% --->> you need to cover 1 NHCE to get 20% coverage for the NHCE group and pass 410(b)).

Someone else who is more familiar with the complexities might be able to offer better insight.

The attorney with the 412(i) plan may find that after a time, having is not so pleasing a thing as wanting. It is not logical, but it is often true.

[Oh so SIMPLE]

Does required aggregation of plans apply beyond the top heavy rules?

[david rigby]

One of the lawyers (X) caused his PC to adopt a 412(i) plan, and mistakenly told the TPA that neither he nor his PC owned an interest in any other employer.

No expert I, but is it possible that the IRS is not buying that this was a mistake?

Any possibility that the 412(i) plan, under its own terms, is not a valid plan because of the discrimination issuers? [OK, that's wishful thinking. ]

[masteff]

My suspicion is that the TPA is alluding to instances of "piercing the veil" in which the partners' PCs were insufficiently separated from them as individuals (or even more likely, instances where the partners were simply individuals w/out PCs). That would be my argument as devil's advocate for sure, that X's PC was not truly separate from X and therefore the 412 plan is really inside the partnership.

But that leads to the next question... what corporate form does the "partnership" really have? is it really a partnership which files a 1065 and K-1s, is it an LLC that has elected to be taxed as C-Corp, is it a normal C- or S-corp, etc. The more corporate like, the better in my opinion when trying to fight a "piercing of the veil" on something like this.

Step number 1 is they need to not take legal advice from a TPA and go talk to an ERISA attorney (and when they say "but we're attorneys" say but ERISA isn't your specialty and it's a deep hole to fall into). And I personally would make X pay most of the legal bill since it's his dumb move that caused this.

[Mike Preston]

Most?

[Guest Sieve]

As Spock indicated, correcting the individual partner's PC's 412(i) plan to comply with 410(b) might not be too costly (i.e., adding one employee). In any event, any correction would be the responsibility of the PC, not the partnership, since the PC adopted the 412(i) plan and it is the PC's plan which is out of compliance (not the partnership's plan). The partnership is not invovled, except that it is considered when determining whether the PC's plan meets 410(b), etc.

I think the TPA is overreacting. The partnership's plan is fine. The 412(i) plan is not.

[Oh so SIMPLE]

The concerns, then as I see it based on the posts so far, are in addition to required aggregation between the plans for purposes of top heavy status determination, the IRS possibly succeeding in disregarding the corporate entities, treating the entire lawyer group as one employer, and since the amalgamated employer has the 412(i) plan, there are required contributions to that plan for all the employees despite the terms of the 412(i) plan stating that it is only for the benefit of employees of X's PC, one of the entities blurred over in the amalgamation?

Each of the 4 partners has his or her own professional corporation (some are C and others are S corporations). The 4 lawyers (not their PCs) each own 25% of the firm, a limited liability partnership. The 412(i) document is signed only by X, as president and sole shareholder of X's PC. The 412(i) documents specify that the plan is for the benefit of employees of X's PC, and no other employer is mentioned. The 412(i) documents specify that the plan does not cover employees of other employer members of any affiliated service group or controlled group of which X's PC is a member.

X's PC is part of a controlled group of the LLP and the 4 PCs (because each of the lawyer's owns 5% or more of the LLP, his or her 100% ownership of his or her PC is deemed owned by the LLP, and so each of the 4 PCs is a 100% subsidiary of the LLP). The 412(i) plan fails minimum coverage as tested in this controlled group. That 412(i) document does not call for correction through extending the plan to employees of other controlled group members. So the 412(i) plan is toast, speaking of its attempted tax qualification.

But what liability does the LLP or other 3 PCs bear for possibly making contributions to X PC's 412(i) plan for the LLP's employees? (Piercing the corporate veil has already been mentioned, thank you david rigby and masteff.)

Apart from required aggregation for top heavy status purposes (the LLP's 401(k) plan is on its own top heavy and being treated as such for minimum contribution purposes), what problems can X PC's 412(i) plan pose to the LLP's 401(k) plan, if any?

[Mike Preston]

Perhaps I'm cynical today. I think the TPA is trying to avoid its own liability by thinking up a reason to encourage cooperation from the partnership. As has already been mentioned, it only takes one NHCE thrown into the offending defined benefit plan to cure the coverage/non-discrimination issues. It is much easier to do that if the partnership will share information with the TPA.

I can't imagine a circumstance where the IRS would go after the partnership or the other PC's.

This is the problem of the entity that adopted the defined benefit plan and any attempt to get to a different result is not likely to win on the merits, unless the facts are different from what is represented in this thread.

[Guest Sieve]

I think, Oh So, that you are misreading IRC Section 1563 when you say that the LLC owns 100% of each lawyer's PC. A 5% partner is treated as proportionately owning whatever is owned by the partnership (1563(e)(2))--it doesn't cause the partnership to own whatever a 5% partner owns. Likewise, a 5% shareholder is treated as proportionately owning whatever is owned by the corporation (1563(e)(4)), but the corporation is not treated as owning everything that the 5% shareholder owns. There is attribution FROM partnerships and FROM corporations, but not TO them (as indicated in headings of Sections 1563(e)(2) & (e)(4)). Otherwise, Ford Motor Co. would be treated as owning all the stock that Bill Ford & his family own individually, which is not the case.

Mike - You're not being cynical (more than usual, anyway)--you may be correct about the TPA, who may not have asked all the right questions. Aside form the cynicism part, I agree with the rest of your post.

[K2retire]

Mike - You're not being cynical (more than usual, anyway)--you may be correct about the TPA, who may not have asked all the right questions. Aside form the cynicism part, I agree with the rest of your post.

Or the TPA might have asked all the right questions and the client chose to give incomplete answers!

[masteff]

As has already been mentioned, it only takes one NHCE thrown into the offending defined benefit plan to cure the coverage/non-discrimination issues.

That brings to mind a fix we did at a former job... a sister company fell below the threshhold to have its own plan and wanted to merge into ours. To fix their compliance, we added a minimum benefit to their plan and included a couple dozen employees from our company to their plan for the problem year. I'd weigh the cost of giving the minimum legal benefit to one extra employee against the cost plus penalties, etc, of lossing the tax qualification of the plan.