Credited Service for 415 Purposes

[CuseFan]

Self-employed person/1099 contractor has a DB plan. The person contracted with one employer which no longer needed the services. The person provided no services and received no income for the year.

The plan document defines credited service as elapsed time. Does this person get credited service or not? Compensation was zero so we aren't concerned for benefit accruals but need to know if service can be credited for 415 service and participation.

My thought is that because the person did not provide any services that no service should be credited. I think this is different than if services were performed but expenses exceeded revenue resulted in zero net income/compensation, in which case I think you could/should credit service. 

I looked in the regulations but could not discern an answer, nor could I locate guidance elsewhere. Is my thinking correct/reasonable or flawed. Also, this is more than a one-year situation.

Thanks

[Peter Gulia]

While I’m good on fiduciary law, I’m no more than a novice on qualified-plan rules. But using your expertise, consider these points:

Elapsed time doesn’t measure service; it measures time that elapses between a beginning moment and an ending moment. The ending moment is “[t]he date the employee severs from service[.]” 26 C.F.R. § 1.410(a)-7(a)(2)(ii) https://www.ecfr.gov/current/title-26/chapter-I/subchapter-A/part-1/subject-group-ECFR686e4ad80b3ad70/section-1.410(a)-7#p-1.410(a)-7(a)(2)(ii)

A perhaps related point of tax law treats someone who has been a self-employed individual as continuing to be a self-employed individual even if a year’s earned income is zero or negative.

The term “self-employed individual” means, with respect to any taxable year, an individual who has earned income . . . for such taxable year. To the extent provided in regulations prescribed by the Secretary, such term also includes, for any taxable year— (i) an individual who would be a self-employed individual within the meaning of the preceding sentence but for the fact that the trade or business carried on by such individual did not have net profits for the taxable year, and (ii) an individual who has been a self-employed individual within the meaning of the preceding sentence for any prior taxable year.

I.R.C. (26 U.S.C.) § 401(c)(1)(B) http://uscode.house.gov/view.xhtml?req=(title:26%20section:401%20edition:prelim)%20OR%20(granuleid:USC-prelim-title26-section401)&f=treesort&edition=prelim&num=0&jumpTo=true.

A regulation the statute calls for, and delegates to, provides:

For purposes of section 401, a self-employed individual who receives earned income from an employer during a taxable year of such employer beginning after December 31, 1962, shall be considered an employee of such employer for such taxable year. Moreover, such an individual will be considered an employee for a taxable year if he would otherwise be treated as an employee but for the fact that the employer did not have net profits for that taxable year.  . . . .

26 C.F.R. § 1.401-10(b)(1) https://www.ecfr.gov/current/title-26/chapter-I/subchapter-A/part-1/subject-group-ECFR6f8c3724b50e44d/section-1.401-10#p-1.401-10(b)(1).

If the self-employed business has not ended and the self-employed individual remains available to perform services if her deemed employer gets an engagement, the individual might not have severed from service.

If that’s the administrator’s interpretation of the plan’s governing documents, the self-employed individual and her deemed employer might be careful to file tax returns so they’re consistent with not having closed the business. For example, a sole proprietor’s Schedule C might show a zero revenue, a little expense (for a business-privilege tax, or something else needed to keep the business available), and a slight loss.

[Paul I]

The topic of whether a self-employed individual is or is not an employee if the individual has no (or negative) income for a plan has come up when discussing plan administration.  This has been an issue in particular for purposes of coverage and compliance testing.  There is no conclusive guidance, with closest direction is to be consistent in treating the individual for all plan purposes and this would tie into the individual being otherwise treated as an employee.  I expect this is also the case for determining service.

With respect to elapsed time rules, the a period of severance of less than 12 months will be included in elapsed time service.  One could build an argument that having documentation that the SE individual was compensated for one hour of service would be enough to continue the accrual of elapsed time service.  This would not be invalidated if the net earnings from self-employment at year end was zero.  I note that being available for service differs from actually performing an hour of service (unless there is some form of on-call compensation).  While SE compensation is deemed earned as of the end of the plan year, there is no deemed service rule other than the service spanning rules (including certain leaves of absence, military service...)

Good question, with pathways to differing conclusions.

[Nate S]

Yes, they are credited service for their service to their self-employed entity, or for performing the business of business.  Just because they didn't contract out doesn't mean that their entity didn't require maintenance or that they didn't work to market themselves for contract.  Even if they did absolutely nothing and put zeroes across the board on their Sch C, they still had service by preparing and filing the prior year's Sch C.

[AndyH]

There's a conservative position and an aggressive position IMO.  The Plan Administrator should decide.