Question 266: I have an sole proprietor who owns 100% to two different companies, set up different tax IDs and operated completely seperate from each other. I am being told that if he offers a 401(k) to company A, he legally has to offer it to company B, and that if he does not want to offer the benefits to company B then each and every employee of company B would have to sign a waiver form. Is that right?
Answer: No, it is not, but what you describe might be problematic anyway. Let me explain. In doing so, I will refer to my book, Who's the Employer?. (Subscribers can click to view online the text of references to sections in the book.)
If a sole proprietor owns 100% of two businesses, those businesses are, without question, under common control under IRC 414(c). (See WTE 12:01.) That means that for pension purposes, the two businesses are treated as being one business. Whether or not they are in the same business field is irrelevant. It doesn't matter whether there was a tax avoidance motive. All that matters is that the ownership is the same. (See WTE 06:13.)
Does that mean that the owner has to cover the employees of the second business? No. But it does mean that the owner has to count the employees of the second business in determining whether his plan satisfies the coverage requirements of the Code. (See WTE 10:04.) And, depending on the situation and the demographics, those coverage rules might require that the plan cover at least some of the employees of the second business.
Suppose, for example, that the first business includes just the owner and 1 employee, while the second business has 6 rank and file employees (and the owner). If the owner wishes to pass the ratio percentage test (70%) for coverage, the owner must cover at least 5 employees between the two businesses, and would need to bring at least 4 employees from the second business into the plan.
On the other hand, suppose the first business has 10 employees and the second has only 2. Then the plan already covers more than 70% of the employees and will pass coverage even if nobody from the second firm participates.
Incidentally, the signed waivers will not accomplish a thing in this situation. An employee who waives participation is still counted in the coverage test. You can't get out of covering your workers that easily.