can one become ineligible once eligible in 403(b)?

[TPApril]

Under universal eligibility for 403(b) Plans, I understand all employees working at a rate of at least 20 hours per week are eligible to participate, immediately. 

Say an employee enters the plan due to hiring status as full time.  Year later that employee goes part time. Can they be stopped from continuing to make contributions? I did not think so.

Alternatively, say they start making contributions, then later in the year it is determined they will not hvae worked 1000 hours during the year, can the plan sponsor refund the contributions and deem them ineligible?

[QDROphile]

This is a question that should not have to be asked because it is a reprehensibly stupid thing for an employer to contemplate, even if the employer is willing to skate on the thin ice of the 20 hour rule.

Are we going to hear about the Big Bad Budget Wolf?

[TPApril]

I dont find it unusual for surprises to pop up in how HR depts are running their plans. Things you think don't need to be said, are not so obvious to them. This particular case was bundled now unbundled.

At the same time, I continue to find new circumstances that are unexpected yet acceptable, even after a number of years in the industry. These examples don't seem right to me but one never knows.

[Kevin C]

It's a question every sponsor who uses the <20 hour per week exclusion faces or will face eventually.  The wording in the regs [1.403(b)-5(b)(4)(iii)(B)]  says that a person can move in and out of eligible status in future years based on their hours in the preceding years.  We took the position that the caution about ERISA rules meant that at some point, ERISA would force you to include someone the regs said to exclude and you would lose the ability to use the <20 hour per week exclusion under 1.403(b)-5(b)(4)(I).  As a result, we convinced our ERISA 403(b) clients to stop using the <20 hour per week exclusion starting with the regs 2009 effective date. 

At some point, the IRS decided that the ERISA "once in, always in" service based exclusion rule modifies the <20 hour per week exclusion.  According to an ASC newsletter in April 2018, the IRS started informally communicating this position in 2015.  It was also incorporated into the LRMs for pre-approved 403(b) documents.  The current problem is the IRS wants language in the new documents saying "once in, always in" applied back to 2009.  Document providers are still in negotiations with the IRS about what to do with sponsors who followed the regs.

The regs say:
 

Quote

 

(B) For purposes of paragraph (b)(4)(ii)(E) of this section, an employee normally works fewer than 20 hours per week if and only if—

(1) For the 12-month period beginning on the date the employee's employment commenced, the employer reasonably expects the employee to work fewer than 1,000 hours of service (as defined in section 410(a)(3)(C)) in such period; and

(2) For each plan year ending after the close of the 12-month period beginning on the date the employee's employment commenced (or, if the plan so provides, each subsequent 12-month period), the employee worked fewer than 1,000 hours of service in the preceding 12-month period. (See, however, section 202(a)(1) of the Employee Retirement Income Security Act of 1974 (ERISA) (88 Stat. 829) Public Law 93-406, and regulations under section 410(a) of the Internal Revenue Code applicable with respect to plans that are subject to title I of ERISA.)

 

Even with the "once in, always in" rule being part of the <20 hour per week exclusion, I wouldn't recommend using it.  One mistake means that you've been improperly excluding <20 hour per week people. 

[QDROphile]

And it is not just about legal compliance.  In most situations I have experienced, it is really stupid employment practice to bounce employees in and out.  Does the employer value them as employees or not?  Also, it emphasizes the stress endured by employees when the hours line gets crossed back and forth because of employer needs.

[CJ Allen]

The person would normally continue to be eligible once eligibility is satisfied.  The IRS website https://www.irs.gov/retirement-plans/403b-universal-availability-requirement indicates (italics emphasis added):

Analysis

With respect to elective deferrals, a 403(b) plan must meet the requirements of IRC 403(b)(12)(A)(ii), also known as the ‘universal availability’ rule. Under this rule, if any employee of the employer maintaining the 403(b) may participate, then all of the employer’s employees must be given the opportunity to participate.

Certain employees may be excluded, including:

• Employees who normally work less than 20 hours per week*
• Students performing services described in IRC 3121(b)(10)*
• Non-resident aliens described in IRC 410(b)(3)(C)
• Employees who are eligible to make elective deferrals under another 401(k), 403(b) or 457(b) plan sponsored by the same employer

*For the less than 20 hours per week exclusion and for the student exclusion, if any employee who falls under one of these exclusions has the right to make elective deferrals, then no employee who falls under such exclusion may be prevented from making elective deferrals.

The footnote '*' seems to indicate if eligible to participate, it can't be taken away.

[QDROphile]

I disagree with the interpretation of the footnote.  The footnote would require ALL <20 hour employees to defer if the plan did the right employment policy and allowed someone who dropped into a permissible exclusion category (<20 hours) to continue to defer.

I am still not answering the question:  Is it legal for the plan to exclude someone who has been deferring because of full-time employment to lose eligibility because of reduction of hours?

[CJ Allen]

Yes.  That is the "catch 22" issue.  Check out the IRS webinar regarding 403(b) universal availability https://www.tax.gov/ClarifyingTheUniversalAvailabilityAndOther403bRetirementPlanRequirementsOct272016/

The IRS stance is based on the 'reasonable expectation' of working under 20 hours -- regardless of actual hours.  See "Once In, Always In - Q2"  (about 36 minutes in, and be selected directly from indexing list) Once eligible to defer, the future actual hours worked are never taken into account again for deferrals, but can be excluded from employer contributions.  It also doesn't seem to trigger all less than 20 hour employees to become eligible.  However, rehired employees may be able to be treated differently than actively employed employees who go from one status of active employment to a different status. 

Interestingly, the "once in, always in" rules don't seem to apply to "Student" exclusion.  This is based on 'facts & circumstances'.

[Kevin C]

We had a 403(b) plan audit where the agent applied the current regulations <20 hour per week rule to their 2007 and 2008 plan years. Yes, I know the regs were effective 1/1/09 and I pointed that out to him, but he insisted the same rules applied prior to 2009. There was one employee who was full time in previous years and dropped to less than 20 hours per week.  He insisted that she should not have be allowed to defer and since they allowed her to defer, they were not allowed to use the <20 hours per week exclusion for years that she was allowed to defer. He was the training agent on 403(b)s for our region, so I would expect the same opinion from other agents in our region. 

If you listen to Once In, Always In Q3 and Q4 from CJs link, the conflict with ERISA still exists even with the IRS' current interpretation.  Their example is someone who was full time, terminates and then rehires as <20 hours per week.  Under two different scenarios, they say this person would not be allowed to defer after rehire if the reasonable expectation on rehire is that they would work <20 hours per week. 

So, using the <20 hours per week exclusion is still a train wreck waiting to happen.

[CJ Allen]

Agreed to the train wreck. Especially if the 403(b) is subject to ERISA.

[QDROphile]

Back to my point after your discussion about how FU it is to try to cut out employees from elective contributions a based on less than FT employment.  It is not a wise policy decision at many levels in most cases.  An employer must have a really good reason to go there, and I have not heard many.  The student exception is different.

[CJ Allen]

and, I never like when regulatory guidance uses terms like "reasonable" and "facts & circumstances" as these terms generally end up being defined by the auditor's perceptions rather than that of the plan administrators.

[CJ Allen]

New Notice 2018-95 may be applicable here.   https://www.irs.gov/pub/irs-drop/n-18-95.pdf

[Patricia Neal Jensen]

No.  Once Eligible; always eligible.  This rule is the same for the employer contributions to a 403(b).

[Belgarath]

4 minutes ago, Patricia Neal Jensen said:

No.  Once Eligible; always eligible.  This rule is the same for the employer contributions to a 403(b). 

Do you have a citation for that? I'd have said (absent additional research) that this rule applied to deferrals, but NOT to employer contributions. Thanks.

[Kevin C]

I don't think you will get a cite.  It's not that simple.

Employer contributions in a 403(b) are subject to coverage and discrimination requirements in the same manner as a 401(a) plan  [1.403(b)-5(a)].  While it doesn't mention 410(a), I think the minimum age and service requirements of ERISA 202 would apply those rules.  So, except for a rule of parity situation, you couldn't have a service based eligibility requirement of more than one year of service for employer contributions.  But, there is nothing stopping you from excluding employees from employer contributions by some objective criteria like job classification, location, etc., provided the plan passes 410(b). 

The universal availability requirement only applies to deferrals. But, there are also exceptions to the 403(b) deferral universal availability requirement for employees who are eligible to defer under another 403(b), a governmental 457(b) or a 401(k) of the employer [1.403(b)-5(b)(4)(ii)(A) and (B)]. And, as mentioned above, the recent IRS guidance for the <20 hour per week exclusion includes situations where a rehire could be excluded from deferrals on rehire despite previously having been in the plan.  So, there are still ways someone previously eligible to defer under a 403(b) can be excluded in a later year.

Of course, if it is a Church 403(b), they have an exemption from 1.403(b)-5 under 1.403(b)-5(d). 

 

[CJ Allen]

That seems to have been the point with the IRS notice, and support for our original claims that once eligible, always eligible for purposes of part-time employees. 

 

[Belgarath]

Can you add a "less than 20 hour" exclusion prospectively, to eliminate people who have been deferring already? So for example, everyone is eligible to defer. But, (pick a number - say 20 out of 200) of these employees have NEVER worked 1,000 hours. Can the plan be amended prospectively to add the <20 hour exclusion, and therefore exclude these employees?

Arguably this wouldn't violate the provision that if ANY employee in this exclusion category (<20 hours) is allowed to defer, then no one else in this exclusion can be prevented from deferring.

Mind you, I fully agree that this whole thing is typically a disaster waiting to happen... 

[Kevin C]

Belgarath, the wording in Notice 2018-95 doesn't look like it would prevent it.  It says:

Quote

The effect of the OIAI exclusion condition is that once an employee does not meet the part-time exclusion conditions, whether in the initial year of employment or for any exclusion year, the employee may no longer be excluded from making elective deferrals under the part-time exclusion.

Our (ASC) pre-approved 403(b) uses the if and only part of the regulations <20 hour per week provisions. The next paragraph says for ERISA plans, the plan must also satisfy the minimum age and service requirements of ERISA 202(a). Then, it says once eligible due to satisfaction of this eligibility requirement, the employee continues to be eligible.

If you could show that someone would have been excluded under the <20 hour per week rule as modified by Notice 2018-95 if it had been used, I'm not seeing anything that says they can't be excluded prospectively by adding the exclusion to an existing plan.  Of course, one mistake and you can't use the exclusion.  I'm thinking it could be difficult to determine how many hours they were expected to work in their initial year.

Just because you can do something doesn't mean you should.

 

[Belgarath]

Thanks Kevin. Especially for a relatively large employer with a lot of part-time employees, I think this offers nearly unlimited opportunities for screw-ups, and I certainly wouldn't recommend it!

 

[CJ Allen]

It would be fine for prospective employees, but I'd be rather cautious under "Universal Availability," as it doesn't follow the same type of rules as 401k type coverage requirements. 

In the Notice, there's clarification in ".02 Part-time exclusion" that concerns me from a literal standpoint.  Specifically "The effect of the OIAI exclusion condition is that once an employee does not meet the part-time exclusion conditions, whether in the initial year of employment or for any exclusion year, the employee may no longer be excluded from making elective deferrals under the part-time exclusion."

I would take a position that for the part-time exclusion to omit an employee under the terms of the Notice and that of Section 1.403(b)-5(b)(4)(iii)(B), the plan would have needed to exclude part-time employees during the times specified as excludable in the Notice and Regs.

In this, I agree with the rest of you that this is fraught with risks from any misstep.

[Belgarath]

When considering this further (and maybe I'm thinking backwards) it seems to me that utilizing this exclusion for prospective (new) employees only would violate the "consistency" requirement. In other words, adding the 20 hour exclusion to apply only to new employees would mean that some existing employees who have been eligible to defer, and never had sufficient hours to move out of that exclusion category would be permitted to defer. And that negates being allowed to use it, right? So I think you have an all or nothing scenario - you amend the plan to exclude EVERYONE who meets the parameters to be under the 20 hour exclusion, or you can't use it, period. Thoughts? Have I mentioned that I hate 403(b) plans?

For the less than 20 hours per week exclusion and for the student exclusion, if any employee who falls under one of these exclusions has the right to make elective deferrals, then no employee who falls under such exclusion may be prevented from making elective deferrals.

 

 

 

[Kevin C]

10 minutes ago, Belgarath said:

When considering this further (and maybe I'm thinking backwards) it seems to me that utilizing this exclusion for prospective (new) employees only would violate the "consistency" requirement. In other words, adding the 20 hour exclusion to apply only to new employees would mean that some existing employees who have been eligible to defer, and never had sufficient hours to move out of that exclusion category would be permitted to defer. And that negates being allowed to use it, right? So I think you have an all or nothing scenario - you amend the plan to exclude EVERYONE who meets the parameters to be under the 20 hour exclusion, or you can't use it, period. Thoughts? Have I mentioned that I hate 403(b) plans?

I agree.  The guidance is clear that the "once in, always in" rule applies when the employee fails to meet the conditions for the <20 hour per week exclusion.  If they wanted it to apply if someone was ever eligible to defer, it would have been easy to say that.  But, they didn't.

403(b)'s aren't that bad, as long you don't try to use the <20 hour per week exclusion.

[Belgarath]

Thanks. And of course, amending plan to add this provision would be really popular with those less than 20 hour employees who have been deferring all along, and now you tell them they can't...