Question 346: Dad owned dental practice. Son was independent contractor for practice. Son has bought the practice. Son plans to start a new plan, but to disregard for eligibility the years of service of the practice employees while Dad owned the business. Can he do it?
No, because the two businesses were an affiliated service group. To explain this, let me set forth the question in full as it came to me.
A dentist pays his dentist son a 1099 for work that the son does at the father's office. This relationship goes on for about 2-3 years. The son has now bought the practice from his father, kept all the existing employees and wants to start his own retirement plan. He wants to make his father's employees work for one year before entering his plan, but obviously count his service as an independent contractor in establishing his own plan. It would seem that either by attribution or through the ASG rules that he would also have to count the service of the employees with the father, thereby those employees would be immediately eligible for his plan. This seems like a relatively common occurrence, but we rarely see that the son wants to exclude employees who have been working for his father for years and have participate in the father's plan already.
As the question suggests, there are several ways that Son might be compelled to count the service of Dad’s employees. For example, suppose Dad’s practice was incorporated and Son bought the stock. In that case, the employees have not changed employer and there is nothing that allows the corporation to disregard their service. Alternatively, suppose Dad’s practice had a qualified plan, and the benefits of the employees are transferred to the Son’s plan. Code §414(a) compels Son to count the service in that case.
But on the facts we are given, the most immediate tool to require that Son count the service is the affiliated service group (ASG) rules. Son and Dad each own a service organization. Son regularly performs services for Dad (evidenced by Form 1099-MISC). Son is deemed to own Dad’s interest in the business via attribution under Code §318. On these facts, Son is an A-Org to Dad’s practice and an ASG exists.
The consequence of ASG status is that Son’s practice and Father’s practice are treated as one business. As far as the retirement rules are concerned, the employees have been Son’s employees for years, and there is no authority for him to disregard their eligibility service while Dad was paying them.
Incidentally, this answer assumes that the characterization of the Son as an independent contractor was accurate. Let’s just assume for the moment that Son was actually an employee of Dad, notwithstanding the 1099. (After all, the tax form merely shows the relationship the parties believe they have established, and is not binding on the IRS.) In that case, disregarding the employees’ service ends up disregarding the Son’s also, and is quite counterproductive.
Chapter 19 of the newly released 7th edition of Who’s the Employer, available exclusively at Erisapedia.com, addresses service crediting in detail. Chapter 13 thoroughly outlines the ASG rules.