CEO receives 1099 compensation

[nerd-party-administrator]

Facts:

- 401(k) PS plan

- company is a S Corp

- The plans definition of comp is W-2 (wages, tips and other compensation on form w-2)

- CEO of the company receives 1099 comp and is treated as an outside consultant.

- The above referenced CEO does not participate in the plan.

Question: With the above stated facts, I would think that the CEO does not need to be included in the testing since he did not receive W-2 comp from the company, but I don't feel comfortable making that assumption.

[CuseFan]

It looks like CEO is being paid/treated as an independent contractor, which may or may not be proper based on facts and circumstances - not your call, the employer's call.

On that basis he is not an employee and not included in your testing.

You are not making an assumption, you are acting on the facts as represented to you by the employer/plan sponsor.

[C. B. Zeller]

I agree with CuseFan, if the CEO being paid on a 1099 then he is by definition not an employee. Even if he should be classified as an employee, the plan probably has the Microsoft language which says it excludes employees treated as independent contractors.

You might have a leased employee situation though, or even a management service group.

[Larry Starr]

On 3/12/2020 at 2:46 PM, nerd-party-administrator said:

Facts:

- 401(k) PS plan

- company is a S Corp

- The plans definition of comp is W-2 (wages, tips and other compensation on form w-2)

- CEO of the company receives 1099 comp and is treated as an outside consultant.

- The above referenced CEO does not participate in the plan.

Question: With the above stated facts, I would think that the CEO does not need to be included in the testing since he did not receive W-2 comp from the company, but I don't feel comfortable making that assumption.

I agree with the other responses.  It is possible that the 1099 is the right way.  He might be a CEO for hire. He has a company that provides assistance to other companies that need help in the executive office suite, and that is often "loaning" someone to provide those services until the company gets straightened out. So, while not the usual, certainly possible. But the key is, as mentioned, the facts and circumstances of the individual engagement.  And it is not your call; the employer and the other advisors are the ones to make the call.  Now luckily, he is almost definitely an HCE (if actually an employee) so leaving him out is going to do nothing to hurt your testing.

[TPA Bob]

Your set of facts does not mention if the CEO has any ownership in the S Corp.  Need to verify.

We have taken over plans where ownership was paid 1099, had a Schedule C on their personal tax return, and had a separate plan for that activity.  Which would never pass discrimination.

[Luke Bailey]

On ‎3‎/‎16‎/‎2020 at 12:28 PM, TPA Bob said:

Your set of facts does not mention if the CEO has any ownership in the S Corp.  Need to verify.

We have taken over plans where ownership was paid 1099, had a Schedule C on their personal tax return, and had a separate plan for that activity.  Which would never pass discrimination.

I think that, assuming (big assumption) that the CEO really is an independent contractor, the rule that would cause his/her plan for his/her sole proprietorship to not pass discrimination, assuming the CEO owned, including by attribution, 5% or more or the S Corp, would be only the "leased owner" rule of proposed reg. sec. 1.414(o)-1(b). This rule was proposed in 1987 and, if it were ever finalized in its current/original form, would have a retroactive effective date that goes back almost 40 years. It was the only one of the proposed 414(o) regs that the IRS did not withdraw 20 or so years ago, when it withdrew the rest of the proposed 414(m) and (o) regs, presumably because in the IRS's view the potential for abuse in this particular situation was so blatant. Obviously, in most (all?) of these situations, the independent contractor manager-owners could likely be recharacterized as employees, which would be the more direct path to disqualification, but the IRC ic vs. employee test is such a swamp, I think,  that the IRS did not want to fight the battle on that piece of ground.

[shERPA]

Even if the CEO has no ownership and is legitimately an independent contractor, assuming this role is his principal business, wouldn't this be a management services ASG?  As Larry said, maybe he's a CEO for hire with other clients, so this is not his principal gig, but it bears investigation. 

[Luke Bailey]

6 minutes ago, shERPA said:

Even if the CEO has no ownership and is legitimately an independent contractor, assuming this role is his principal business, wouldn't this be a management services ASG?  As Larry said, maybe he's a CEO for hire with other clients, so this is not his principal gig, but it bears investigation. 

shERPA, good point. Right now there are not even any proposed regulations under 414(m)(5), however, so the IRS would need to argue only on the basis of the Code. Unlike 414(o), which is not effective without final regulations (414(o) was a grant of authority to IRS to write legislative regs), 414(m)(5) is in effect as a Code section, so IRS can enforce it. In a situation involving typical management services (e.g., a "sole proprietor" managing a business's employees as clearly its primary business activity), IRS probably could enforce the statute without much difficulty. In other situations, e.g. professional or other services provided to clients not involving management of employees of the business, where the "sole proprietor" has not a scintilla of ownership in the larger business, so that 414(m)(2)(A) does not apply (assuming professional services), or where there is an argument about what is the sole proprietor's "primary business,"  it might be harder for IRS to make its case. As you suggest, if there are multiple clients, 414(m)(5) would not apply, whereas it leased owner would, to the portion of the plan attributable to revenue from the "client" business. There is also just the fact that the IRS scrapped, and never returned to, the 414(m)(5) regs project, but was not willing to abandon the "leased owner" rule under 414(o), so I have thought that that said something about its enforcement priorities. Maybe some on this board have had experience with IRS applying 414(m)(5) in an exam. I have not.