Retroactively Amend Plan to Make Allocation Requirement More Generous?

[Lucky32]

A small top-heavy calendar-year profit sharing plan has a 1,000 hour requirement for allocations.  It has a new comp allocation method, with each participant as their own rate group.  There's an NHCE participant who went from full-time in 2023 to <500 hours in 2024 and worked through the end of the year, so she will get the TH min and I believe also the gateway contribution (as the HCEs are getting hefty allocations), but does not qualify for a PS allocation.  The new comp testing would work out a lot better if she did get a PS allocation - is it permissible to retroactively amend the plan for 2024 now to eliminate the hours requirement so that she can get a 2024 PS allocation?  No HCEs would benefit from this change.

[EBECatty]

Newly enacted Section 401(b)(3) (Section 316 of SECURE 2.0) might help you here. 

[Peter Gulia]

Internal Revenue Code of 1986 (26 U.S.C.) § 410(b)(3) 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

If the employer’s tax year and the retirement plan’s plan year both ended December 31, 2024 and the employer’s tax-return due date is September 15, the plan sponsor might have 4½ business days to adopt the amendment. If October 15, there might be more time.

This is not advice to anyone.

[austin3515]

I was not aware of this new provision.  I am curious, what if the purpose of the amendment is to reduce how much you need to contribute to the plan to get testing to pass?  Is that a "Retroactive plan amendments that increase benefit accruals"?  I think it would be hard to argue yes...

One option that I have used before is to set up  a whole new profit sharing plan.  if you set up a new plan under the new retroactive provisions in SECURE 1.0, and then merge it in, you have a clean slate for plan design.  I have vetted this one through proper channels...  Probably excessive in most cases but I have used it twice before for the really significant scenarios.  You can merge the new plan into the original one pretty quickly without a permanence issue because the new plan will be "part" of the old plan.  It is not being terminated.

[EBECatty]

I don't have a great answer, other than to use it in a way that makes you comfortable based on the individual fact pattern.

It's sticking in my mind that the use case was something like having a fixed 4% profit-sharing contribution but increasing it to 5% for everyone after the end of the year, but the statute doesn't describe it that narrowly or say that every participant must get an increased benefit.

The relevant text is: "...an employer amends a...profit-sharing...plan to increase benefits accrued under the plan...". 

[justanotheradmin]

some things to think about:

"No HCEs would benefit from this change" seems like a broad statement, and if any of the HCEs are also the owners, a smaller contribution to the NHCE to help testing seems like they are benefiting (even if not in the plan). Would a larger contribution to NHCE get the same result for the HCE's contribution. If so, the proposed amendment is purely to reduce the amount necessary to the NHCE while maintaining the HCE's higher benefit.

Its not the same as saying "No HCEs would have increased plan benefits from this change"

Could the employer adopt a PS only plan for just that person now, for 2024 and then merge the two. If so, is it allowed to save that step and just do the amendment?

is the NHCE vested? would they be vested in the additional contribution?

This is why individual group / new comp plans should almost never have allocation conditions. Especially small plans. It can be very cost effective to give a large PS contribution to a terminated non-vested employee and help testing, which wouldn't be allowed if the plan has a last day provision. In this case, its the hours that is the hang up. If testing passes with the term person getting zero PS, that's fine. 

None of my musings are to suggest action one way or another. 

 

[austin3515]

The relevant text is: "...an employer amends a...profit-sharing...plan to increase benefits accrued under the plan...". 

I agree, and the question is really how can you even define that text in the context of Discretionary allocations?

[EBECatty]

5 minutes ago, austin3515 said:

the question is really how can you even define that text in the context of Discretionary allocations?

Kind of like "fringe benefits" - however you want to define it?

[Peter Gulia]

A hyperlink above points to the statute’s text.

BenefitsLink neighbors, am I right in guessing there is no Treasury rule to interpret that paragraph of the statute?

Likewise, is there an absence of IRS guidance.

If so, a taxpayer might follow its interpretation of the statute.

[austin3515]

Oh I have a definition of fringe that I am a big fan of:

"Compensation that has nothing to do with how much  you work or how well you work."

[austin3515]

2 minutes ago, Peter Gulia said:

If so, a taxpayer might follow its interpretation of the statute.

Provided it is reasonable.  Eliminating allocation conditions is not the same thing as increasing accrued benfits.

But how about this: Do an amendment that specifically says Julie gets a profit sharing allocation of 7%.  That amendment will be increasing accruals for Julie.  The discretion in the document covers everyone else.  Therefore the amendment will have the exclusive impact of increasing benefits...  At least it is something if you were really in a pinch.

[John Feldt ERPA CPC QPA]

Austin,

You queried, “what if the purpose of the amendment is to reduce how much you need to contribute to the plan to get testing to pass?  Is that a "Retroactive plan amendments that increase benefit accruals? I think it would be hard to argue yes...”

I would say 100% yes. Isn’t a retroactive increase in an amount to a NHCE under treasury regulation 1.401(a)(4)-11(g) sometimes exactly that scenario? I believe so and the regulation specifically allows it. Otherwise, one could almost always argue the plan could have passed in another way without that -11(g) amendment, and if so, then that defeats the purpose of the reg.

[Lucky32]

The reason for considering the amendment is not to minimize the contribution or maximize the owner's share, but it's because the testing passes only if a recent hire, who is very inexperienced and low paid, gets a disproportionately large allocation - much more than what their long-term core employees would receive.  Understandably, this does not sit well with the owners, as it's a fairness issue (yes, I know, regs can be anything but) and potentially a huge PR problem if the participants find out.  The amendment would allow a part-timer to get a PS alloc who wouldn't have gotten any PS alloc otherwise, while the full-timer mentioned in my original post would then get a more modest alloc.

It looks like it comes down to how we interpret 401(b)(3)A re 'benefits accrued'.  The test, like most tests, can pass via several different ways by allocating unreasonable amounts to various participants - which scenario would  be considered 'accrued'?  At least there's still time for such an amendment to be made (business filing deadline is 10/15), but I can't say I'm clear on whether it would meet that portion of the reg.  One participant gets an increased alloc for 2024, as will all future participants w/<1,000 hrs. One participant would get a more modest alloc, but is this is enough to cause 401(B)(3)A to shoot down the validity of the amendment?  If one can say a benefit isn't formally accrued until the Er indicates how the contribution is to be allocated in writing, I would be tempted to say the amendment can be legally done.  Does anyone agree?

[austin3515]

14 hours ago, John Feldt ERPA CPC QPA said:

I would say 100% yes. Isn’t a retroactive increase in an amount to a NHCE under treasury regulation 1.401(a)(4)-11(g) sometimes exactly that scenario? I believe so and the regulation specifically allows it. Otherwise, one could almost always argue the plan could have passed in another way without that -11(g) amendment, and if so, then that defeats the purpose of the reg.

-11(g) benefit requirement:

(ii) Benefits not reduced. Except as permitted under paragraph (g)(3)(vi)(C)(2) of this section, the corrective amendment may not result in a reduction of an employee's benefits (including any benefit, right, or feature), determined based on the terms of the plan in effect immediately before the amendment.

That's a lot different than a statutory requirement to increase accrued benefits.  Again the point is taken that what does any of this mean in the context of a discretionary contribution, however, I like my chances much better based on the -11(g) language, especially since there is a lot of history on using -11(g) as described (including IRS Q&A's where they said it was acceptable--some ASPPA thing right?).

Anyway I kinda like my "Suzie gets 7% amendment" where Suzie is not presently eligible for an allocation.  That seems like the winning ticket to me.  Not sure if anyone else sees it differently.

[Lucky32]

Anyone?

[austin3515]

I think the problem is the IRS has not answered the question explaining what this means. We are left to guess.  I like your chances a LOT more doing this exact thing via -11g which as I mentioned below includes a far lower bar which the IRS has already informally blessed.  From the 2010 ASPPA IRS Q&A:

A company sponsors a discretionary profit sharing plan that has tiered allocations and utilizes cross testing to show nondiscrimination in amounts. Owners are allocated a contribution equal to their 415 limit. All other participants are allocated a contribution equal to 5% of compensation, which satisfies the gateway minimum. The Plan fails nondiscrimination testing. The plan could have passed by providing a 6% contribution to all eligible participants, instead of a 5% contribution. Is the plan sponsor obligated to correct the failed testing by contributing more to the current participants, or is it permissible to put in a corrective amendment and permit entry and provide a 5% contribution to an individual who was previously ineligible (assuming that would permit the plan to pass nondiscrimination testing)?

Either proposed correction is possible, but both probably require an amendment to the plan that satisfies Treas. Reg. § 1.401(a)(4)-11(g), in both form and timeliness. In form, such an amendment generally either confers additional benefits to existing participants or existing benefits to additional participants. In either case, the amendment must be both “definitely determinable” and nondiscriminatory.

[Lucky32]

Yes, I think the ASPPA Q&A is about as close as anything that can be found in writing about our situation, so it looks like we'll have to tread lightly due to the differing details.  Thank you Austin and all other respondents for the finer points of this discussion.