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Answer: Can the doctor establish a separate plan? Of course he can. The question is whether it will satisfy the Code's testing requirements.
I'm not just being pedantic here (although I do that very well). Many of the questions I receive, whether here for this column, on the PIX BBS or in my professional practice, are phrased in the form of this question. But that really isn't a question that the controlled group or the affiliated service group rules answer directly. And if you don't understand the question those rules answer, you cannot hope to understand the answer those rules give.
The controlled group and ASG rules answer the questions "Who are the employees of this employer?" and "Which employers must be aggregated with this employer for plan purposes?" They don't directly tell you whether or not you can have a separate plan. Instead they tell you that if company Y wants to set up a plan, then it must count as its employees all the employees of X, Y and Z, and run its various discrimination tests accordingly.
It may be that if an affiliated service group exists, that you can cover one member of the group and not another, because the plan covering the employees of that one member is able to pass IRC 410(b) -- and, if applicable, IRC 401(a)(26) -- even after excluding the uncovered employees.
Let's use this situation as an example. The first question we need to answer is whether the corporation and the sole proprietorship must be aggregated under the common control or the affiliated service group rules.
They are certainly not under common control under the facts given. Unless there are options or relationships we don't know about, this comes nowhere close to the 80% common ownership requirement of IRC 414(c).
On the limited facts given, they are not an affiliated service group either. For an ASG to exist, the two businesses must be substantially related in providing services to third parties, or one must provide services to the other. Neither of those appears to be the case here. The mere fact that Dr. A, as an employee of the corporation, provides services to the corporation does not mean that his sole proprietorship, which is treated as a separate organization under the ASG rules, is providing services to the corporation. I assume his pay from the corporation is coming to him as W-2 compensation, and is reported on the front page of his return, totally separate from his Schedule C (sole proprietorship) income. The sole proprietorship does not provide services to the corporation; rather, the sole proprietor does as an employee -- a very different matter for plan purposes. Although we have no official guidance on this point, that strikes me as a reasonable reading of the law.
Once we say that the corporation and the proprietorship are not aggregated, we then ask what the consequences are. That means that plans of the two are not aggregated under IRC 415, and that employees of the corporation are not deemed to be employees of the sole proprietorship. Accordingly, the sole proprietorship can establish a plan covering only Dr. A (and the common-law employees of the sole proprietorship, if any). In fact, if the corporation were to cosponsor the plan, it would be a multiple employer plan. Dr. A would have separate 415 limits for the two entities.
If the IRS or a court someday were to hold that Dr. A and the corporation were an ASG, then we would need to look at the employees of both, and ask whether a plan could satisfy the Code's requirements if it only covered Dr. A and his common-law employees. It may be that the plan can meet those requirements. For example, if Dr. A had one staff member and the corporation had 2 staff members in addition to the three doctors, the ratio percentage for IRC 410(b) would be 33%/33% = 100% (one of three HCEs covered; one out of three non-HCEs covered), so the minimum coverage test of IRC 410(b) would be passed easily. (Of course, if Dr. A wanted a defined benefit plan, he would also need to pass IRC 401(a)(26) after counting the employees of the corporation.)
Let me make one final note. A question like this is fairly limited in terms of the information it provides. A wise professional would inquire closely to determine whether the two businesses truly are separate. Frequently, digging a little can provide a connection that is missed at first glance.
For more information on the effects of affiliated service group status, see Chapter 13 of my book, Who's the Employer?.
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