Must the Employer have a purpose?

[Dennis Povloski]

CPA called to ask a question.....

An individual is receiving payments from his former employer as part of severance package. The CPA is interested in running these payments through a corporation and having the corporation pay the individual a salary so that it can adopt a plan. His concern is that this employer doesn't really have a purpose, and therefore may not be considered an employer for qualified plan purposes.

The definition of Employer in the ERISA Outline Book talks about an being an employer under common law principles.

Can anyone give me some details on what "common law principles" refers to, and how this relates to 401(a) and ERISA?

[Guest Matthew Gouaux]

You might consider whether this arrangement would satisfy the permanency requirement of Section 1.401-1(b)(2) of the Treasury Regulations, which states:

The term “plan” implies a permanent as distinguished from a temporary program. Thus, although the employer may reserve the right to change or terminate the plan, and to discontinue contributions thereunder, the abandonment of the plan for any reason other than business necessity within a few years after it has taken effect will be evidence that the plan from its inception was not a bona fide program for the exclusive benefit of employees in general. Especially will this be true if, for example, a pension plan is abandoned soon after pensions have been fully funded for persons in favor of whom discrimination is prohibited under section 401(a). The permanency of the plan will be indicated by all of the surrounding facts and circumstances, including the likelihood of the employer's ability to continue contributions as provided under the plan. In the case of a profit-sharing plan, other than a profit-sharing plan which covers employees and owner-employees (see section 401(d)(2)(B)), it is not necessary that the employer contribute every year or that he contribute the same amount or contribute in accordance with the same ratio every year. However, merely making a single or occasional contribution out of profits for employees does not establish a plan of profit-sharing. To be a profit-sharing plan, there must be recurring and substantial contributions out of profits for the employees. In the event a plan is abandoned, the employer should promptly notify the district director, stating the circumstances which led to the discontinuance of the plan.