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Correcting Coverage Failure of ASG Plans Where Aggregation is Prohibited


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An ASG has two entities, one very large with few HCEs and many NHCEs, the other very small with a high percentage of HCEs. Each entity sponsors its own 401(k)/401(m) plan (no non-elective contributions). The plans have different testing methods (one prior year, one current year). The high percentage of HCEs means the small plan can’t pass coverage alone, it must be aggregated with the large plan. But aggregation is precluded because the plans have different testing methods. My thought is to file a VCP asking to change the testing year of the small plan to allow aggregation (SECURE 2.0 doesn't allow this demographic failure to be corrected through SCP). If we do that, each plan on its own, and in the aggregate, passes ADP/ACP.

Under those circumstances:

  1. Does anyone have any experience with such a correction through VCP? Anything I should be aware of that might come up?
  2. Does the IRS readily grant corrections in that manner?
  3. Is there any risk the IRS will require QNECs to be made to NHCEs in the large company? (QNECs are the usual way to correct coverage failures. Here, QNECs don't do any good, because even if QNECs are made to NHCEs in the large company, the plans still can't be aggregated unless they have the same testing methods. So it doesn't seem like the IRS would require QNECs as a solution. But given the large number of NHCEs, possibly having to make a QNEC is concerning. Under the circumstances, does it seem unlikely the IRS would require QNECs?)
  4. Assuming the IRS allows the testing year to be changed and the plans are tested on an aggregated basis, will the IRS require the plans to pass a benefits, rights, and features test?
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Maybe a stupid question, but did you look at the average benefits test for coverage of the small plan?

If yes, and that does not pass either, is there a defined failsafe in the small plan's document?

If not, could an 11(g) amendment to the small plan allow for change in testing method to enable aggregation?

Regarding #4, yes, aggregation is for coverage, nondiscrimination and BRFs, all or nothing.

Kenneth M. Prell, CEBS, ERPA

Vice President, BPAS Actuarial & Pension Services

kprell@bpas.com

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I think what he is getting at is the change to the testing method generally needs to be done before year end which is why he is suggesting VCP to get the IRS blessing to change the testing method for last year after the year end. I think this falls under an VCP situation and not SCP situation. Though with expanded SCP, may it does fall under SCP but I would probably want an ERISA attorney to opine on that before proceeding under SCP instead of VCP.

I have no direct experience with a case like this but I do think your approach is reasonable and one the IRS would be likely to approve. Again that's just my opinion, the IRS may have a different view.

Yes agree that the IRS could require demonstration showing compliance with BRF.

 

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