Question 221: Company A, P.C. is owned by 4 partners. One of the partners (30% owner of Company A) also owns 100% of Company B, LLC. Company A and Company B do work for some of the same clients. Company A has 12 employees and a 401(k) Profit Sharing PLan. Company B has 2 employees (the owner and 1 NHCE). Am I correct that Company A & Company B are an ASG? If so, can Company B create its own retirement plan or can/should it adopt current 401(k) from Company A? Which would be the better option?
Answer: I've reproduced the question exactly as it came to me. I receive a lot of questions like this. The problem is that the person asking the question ignores several crucial steps before jumping to a conclusion, and therefore does not provide enough information. Before reading on, ask yourself what additional facts we need to know in order to answer the questions.
The question does not indicate that either organization performs services for the other organization. If neither organization serves the other, than we can eliminate a B-Org or a management function group arrangement. The only thing left is an A-Org ASG, with the two businesses being regularly associated in providing services to third parties.
For an A-Org ASG to exist between a given FSO and A-Org, all of the following facts must true:
Compare those requirements against the facts we were given. How many of them do we truly know? Answer: Depending on which way you take things, we can answer one of them, at most. Let's take a closer look to see exactly what kinds of questions a practitioner needs to ask to understand what may appear to be a simple ASG question.
- The FSO must be a service organization.
- The FSO must either be a professional corporation or it must be unincorporated.
- The A-Org must be a service organization.
- The A-Org must, directly or undirectly, own an interest in the FSO.
- The A-Org must regularly perform services for the FSO or must be regularly associated with it in providing services to third parties.
For an A-Org relationship to exist, both organizations must be service organizations. But since the facts don't indicate what these businesses do, I have no way of knowing whether they are service organizations.
At this point, we need to identify one of the two businesses as an A-Org and the other as the FSO. We'll try it both ways.
Let's start with Company B as the FSO. Since it is an LLC, it is unincorporated and so the professional service corporation (PSC) exemption does not apply. It can be an FSO. Is Company A an owner of Company B? That depends on whether or not Company A is a C Corp. If so, then it is not deemed to own the LLC interest held by its shareholder, because he owns less than 50% of Company A. If it is an S Corp or an entity taxed as a partnership, then it is deemed to own that interest and hence to be an owner in Company B. Unfortunately, the facts do not indicate clearly the type of entity we are dealing with.
So, let's go the other way. Suppose company A is the FSO. If it is a corporation, we must ask whether it is a PSC. There is a very specific list of professions in the proposed 414(m) regulations and there are professional corporations which do not fall into this list. If it is not a PSC, and it is incorporated, then it cannot be an FSO. If it is an FSO, Company B will be deemed to be a shareholder in Company A. (Incidentally, unless Company B is taxed as a corporation, it will be treated as a sole proproprietorship because it has only one owner.)
Now we come to the final question: Are the two companies regularly associated in providing services to third parties. The facts say they have common clients, but I don't think that's enough to make them regularly associated. Do they cross refer? Do they work together on those clients? Do they share facilities or employees or advertising? How much of their billings do these shared clients account for? There are a lot of issues to consider in determining whether they are "regularly associated," and the facts we are given don't begin to scratch the surface.
If it is an ASG, can Company B adopt its own plan? Certainly, if it can satisfy 410(b) and (if applicable) 401(a)(26) after excluding the employees of Company A. But we don't know how many HCEs are in Company A and hence have no way of guessing how a 410(b) analysis would work. If all of Company A were NHCEs, you surely could not exclude all of them. If 5 of the 12 Company A employees were HCEs, then Company B can set up a defined contribution plan for its own employees with impunity.
Would B be better off setting up its own plan, or would they be better off going with A's plan? That depends on their objectives. Are they satisfied with what is happening in the A plan? If so, then they'll save money by having a single plan. If not, then they'd likely be better off setting up a separate defined contribution plan tailored to their needs, assuming that they can satisfy 410(b).
I've gone through this exercise to make a point. The practitioner who asked this question is not uncommon. I get a lot of questions like this. People take a quick look at a couple of facts, draw a rough and ready conclusion, and they're off to the races. The purpose of those quickie conclusions, however, isn't to be final answers. The statute is too specific in its requirements for analysis without complete facts, and the regulations have made the job even more detailed.
The purpose is to determine whether you need to look at things more closely. My hope with this particular column is to demonstrate the types of issues a practitioner must know and understand before he or she can recommend a course of action. Of course, to learn more about affiliated service groups, see Chapter 13 of my book, Who's the Employer.