One-person plan initial plan year

[emmetttrudy]

The owner of a company would liek to set up a one-man DB plan for the plan year ended 9/30/2010. The company had other employees up until 4/30/2010, but now he is the only employee. If he implements a one person DB plan, would the initial plan year need to be a short one from 5/1/2010? And would he only be able to use his compensation from 5/1/2010-9/30/2010, or would he be able to use his full year compensation?

[David MacLennan]

What you describe is similar to an example in the -5 regs of an amendment with clearly discriminatory timing. The aspect that may be different about your proposal from the example in the regs is that you did not mention the "winding down of the business".

IMO you have to, at a minimum, give benefits to the employees for 9/30/2010 PY. Just give ees enough to pass and have a good actuary well versed in 401a4 design the plan. It often is not that expensive to cover employees.

I would also insist on a DL application that highlights the issue, or an ERISA attorney's opinion that takes responsibility. Fully explain in a letter to the client what is going on and the worst case scenario.

[emmetttrudy]

What if the plan year was defined as 5/1/2010 to 4/30/2011? Then you have an entire plan year where there is only one employee? The fiscal year remains 9/30 but there's no issue with having a plan year end different than a fiscal year end.

[David MacLennan]

Makes zero difference. Step back a little. There are at least a dozen different ways to do it so that it appears OK - but the timing will still be discriminatory.

[emmetttrudy]

So if he had to cover the handful of employees, even if it was a small benefit, then there would definitely be a partial plan termination issue and they would all most likely need to be 100% vested, correct?

[David MacLennan]

EmmetTrudy - Yes, 100% vested. The benefit has no meaning otherwise.

[David MacLennan]

Would like to add that giving a benefit to employees in the plan's first year is still no guarantee that the plan timing is not discriminatory. It is just a nod to the regs. On the other hand, to disallow a plan in some future year of the business is absurd IMO, and takes the timing issue too far. Remember the example in the reg was of a plan adopted while a business was "winding down" and so this example is more abusive than if the business had contracted to an owner-only business for the forseeable future.

You can certainly submit the plan for a DL with an eff date that eliminates terminated employees from participation (be sure to highlight this issue in the cover letter). Then if the IRS reviewer finds fault you can come back with a benefit for the employees in the first year and see if it is acceptable. This can be problematic for the plan administration if it takes 2 yrs to get a DL, which is not uncommon.