Carryover of deferral elections to new plan

We have a situation in which a company is acquiring a new subsidiary in a stock transaction.  The acquiring company has a 401(k) plan. The acquired company had a 401(k) plan before the transaction, but it was terminated immediately before the transaction to avoid the rule that you can't terminate a 401(k) plan if the employer maintains another 401(k) plan.

Acquiring company would like to provide that an individual's election regarding deferrals in the acquired company's plan would carry over to the acquiring company's plan.  (Obviously, employees can change their elections at any time, but that would at least be the starting point.) That seems to me like a perfectly reasonable thing to do, so that you don't have to get new elections from all the employees at once (and risk having some of them offended that they have to make new elections when in their mind they already made elections).  But everything I can see refers to employees making elections under a plan--not employees making elections under one plan and having them carry over to a different plan.

Has anyone experienced this situation?  And has the IRS ever approved or disapproved of it that you know of?

I don't have any experience with this exact situation, but I wonder if you could accomplish it using an automatic contribution arrangement? Obviously it wouldn't meet the requirements for an EACA or QACA but that wouldn't be the goal anyway. The ACA would only apply to the employees acquired as part of this transaction, and the default contribution rate would be equal to the employee's last contribution rate in effect in the acquired company's plan.

It might be an issue if anybody in the prior plan had a dollar amount election instead of a percentage of pay election, since I believe an ACA has to use a percentage of pay and not a dollar amount as the default.

You might also have to generate customized notices for each employee to specify their default contribution rate.

I think you would also be forced to put them in a QDIA, if that wasn't already the plan.

16 hours ago, C. B. Zeller said:

I don't have any experience with this exact situation, but I wonder if you could accomplish it using an automatic contribution arrangement? Obviously it wouldn't meet the requirements for an EACA or QACA but that wouldn't be the goal anyway. The ACA would only apply to the employees acquired as part of this transaction, and the default contribution rate would be equal to the employee's last contribution rate in effect in the acquired company's plan.

It might be an issue if anybody in the prior plan had a dollar amount election instead of a percentage of pay election, since I believe an ACA has to use a percentage of pay and not a dollar amount as the default.

You might also have to generate customized notices for each employee to specify their default contribution rate.

I think you would also be forced to put them in a QDIA, if that wasn't already the plan.

My only concern with that is that it might lead to a discrimination problem.  There is some leeway under the ADP test for HCEs contributing more than NHCEs.  But if you start treating it as an employer-generated default, I would think it might be an issue if the deferral rates of the HCEs were at all above those of the NHCEs.

40 minutes ago, CuseFan said:

I think you need to get new elections, there is no basis for defaulting to an election made under a plan of another employer that was terminated before it became part of the acquiring company. If they wanted to do something like that, it should have been discussed and determined during due diligence, and could easily have been accomplished by simply merging the acquired company's plan into the acquirer's plan. Why was that not considered? Also, and I could very well be wrong, but I don't think you're prohibited from terminating a 401(k) plan in this instance, it's just that the plan termination is not a distributable event and you must transfer funds to the successor plan. If they were worried about going to employees for new elections, wanting to treat as the same plan for them, then merging or terminating and transferring certainly is consistent with that philosophy. Regardless, those horses are already out of the barn and you need to give them all new saddles (deferral elections). IMHO

The issue with a merger is that the ongoing plan is then considered a successor to the acquired company's plan, and thus subject to any problems in either documentation or administration experienced by the acquired company before the transaction.  For that reason, a lot of buyers want to acquired company's plan terminated before the transaction.  That way, participants can take distributions and potentially roll them over to the acquiring company's plan, but the acquiring company's plan doesn't take on any liability for past mistakes by the acquired company.

Oh, and just to be clear, it was not a plan of "another employer."  It was a plan of the acquired company, and the acquired company remains in existence (as a subsidiary of the acquiring employer) after the transaction.  So the employer is the same; it's just part of a different controlled group.

I understand the reasoning of a termination, I just don't agree it's always the best alternative depending on the circumstances and overall benefit plan objectives, which I obviously am not privy to in this instance other than the desire for deferral election continuity, which I believe is a necessary casualty of plan termination. I'm not saying they should have done things differently, but that what they did do is not accommodating to this subsequent desire.

55 minutes ago, Carol V. Calhoun said:

it was not a plan of "another employer."  It was a plan of the acquired company

My point is that at the time of the plan termination the to-be-acquired company was indeed "another company"  with respect to the (not yet) buyer prior to closing the acquisition. At the time of plan termination they were separate companies with separate plans with no relationship to each other, so there is no basis upon which to attribute any elections from the one plan to the other.

I agree with Cuse Fan - The employees are becoming eligible for a new plan and they must elect to make deferral elections specific to that new plan. The acquisition has no impact because the prior plan was terminated before the transaction.  Therefore, there is no basis to carry forward any elections from a terminated plan.

33 minutes ago, 401kology said:

I agree with Cuse Fan - The employees are becoming eligible for a new plan and they must elect to make deferral elections specific to that new plan. The acquisition has no impact because the prior plan was terminated before the transaction.  Therefore, there is no basis to carry forward any elections from a terminated plan.

Yeah, that's what I was thinking. It doesn't make any sense to me as a policy matter. (The match is the same under both plans, so it is far more likely that employees would want to continue their existing elections than that they would want to start at either zero or whatever we use for automatic enrollment.) But there doesn't seem to be any guidance that would let them continue the existing elections. 

Another reason to have new elections is to prompt the participants to review their deferral amounts, as many tend to 'set it and forget it' for years.  Hopefully any changes made will be increases.

Acquirer merges target plan into acquirer's, no problem. Acquirer buys assets and no 401(k) merger, seems no basis. Here, since a stock purchase, the target is now part of a single "employer" with the acquirer under 414(b), for purposes of Section 401 of the Code, among other provisions. The target's payroll system is probably going to still be in place for a while.

I get it that (1) it is a different plan (2) as far as I know there is no specific guidance on point, and (c) it could be questioned, but not sure there is much jeopardy. Of course it's also not that hard to get new elections probably.

I have had many employers continue to deferral elections from one plan to a new one.  Make sure the plan document clearly authorizes this.

Legal counsel for these employers have been split whether to treat this as auto enrollment (triggering both initial and annual employee notices) or not.

MWeddell, I'd be curious to hear their position for (1) writing this into the buyer's plan document, and (2) not treating it as some form of auto-enrollment. I can't imagine under what circumstances it would be considered an affirmative election in the buyer's plan. 

At the risk of piling on, I've also looked into this in the M&A context and could not find any support for simply carrying over the employee's deferral election from the seller's to the buyer's plan.

Some practitioners might find one may—without tripping on an ERISA command or a tax-qualification condition—write a plan document and an automatic-contribution notice to provide that the most recent deferral election under one’s former employer’s plan is the beginning election, subject to revocation or change, under the new employer’s plan. (I’m not saying that’s my view.)

Even for those who think the arrangement may be provided, the plan’s sponsor or administrator might consider practical concerns, including expenses.

The cost-benefit analysis can vary with the surrounding facts and circumstances, including especially the number of newly eligible participants, the ease or difficulty of communications, and how much the new employer seeks the goodwill of the new employees.

If the number of newly eligible participants is tens of thousands, the benefits of not needing to otherwise solicit and process fresh deferral elections and of providing a convenience to many new employees might outweigh expenses, including for some lawyering, of creating and administering the plan’s provision for a carryover deferral election.

(Further, a company that frequently does acquisitions might design a framework that applies generally regarding all acquisitions and those new employees.)

If the number of newly eligible participants is small, a cost-benefit analysis might cut in an opposite direction, making it simpler to get cash-or-deferred elections the way the employer/administrator ordinarily gets them for newly eligible participants not hired regarding an acquisition.

17 minutes ago, Peter Gulia said:

the most recent deferral election under one’s former employer’s plan is the beginning election

Maybe if this was limited to acquisitions and the buy/sell agreement specified (subject to notice provided to employees) this could be accommodated (though I'm not convinced), but as a general rule, how could you? I work for Ford, quit and go to work for GM - on what basis could/should my Ford 401(k) election apply to the GM plan? What if I'm not yet eligible? I don't see the difference here. Yes, employer B was acquired by employer A, but B had no plan at the time, and I don't see how a future event (acquisition) can reach back and effectuate elections from a plan that no longer exists. What if the acquisition initially fell through and so then was delayed another 6-12 months? 

Maybe this works if they had a DeLorean with a flux capacitor, but I don't think so.

And for those who find a carryover presumption must not be made, pointing out that using such a presumption might not be cost-efficient (if that's fitting in the particular situation) might help deflect or diminish a client's reaction that the law seems illogical.

Any thoughts on adding a line to the election form that this election will apply to any subsequent 401(k) plans sponsored by the Plan Sponsor or any member of its controlled group?

2 hours ago, CuseFan said:

I work for Ford, quit and go to work for GM - on what basis could/should my Ford 401(k) election apply to the GM plan?

Note that the precise analogy to the situation in the OP would be that GM acquires Ford and you remain on Ford's payroll but are immediately eligible for the GM(now GM/Ford) plan. It is a little different. Your election with your employer (Ford) is being carried over to your employer's (Ford's) new plan.

4 hours ago, EBECatty said:

MWeddell, I'd be curious to hear their position for (1) writing this into the buyer's plan document, and (2) not treating it as some form of auto-enrollment. I can't imagine under what circumstances it would be considered an affirmative election in the buyer's plan. 

At the risk of piling on, I've also looked into this in the M&A context and could not find any support for simply carrying over the employee's deferral election from the seller's to the buyer's plan.

On the first issue, I also prefer treating it as an automatic enrollment.  I don't know what legal counsel's rationale was for where it hasn't been treated that way.

Regarding your second paragraph, the Code tends to tell us what is prohibited for a qualified plan, not what is permitted.  Certainly if one treats it as an automatic enrollment, there is text in Treas. Reg. Section 1.401(k)-1 that is broad enough to cover it.

18 hours ago, MWeddell said:

I don't know what legal counsel's rationale was for where it hasn't been treated that way.

MWeddell, I think the rationale, or perhaps "caution" is a better term, is probably that the auto enrollment elections here are not going to be a uniform percentage of each participant's compensation. This is outside the models in Rev. Rul. 2009-30 as well as inconsistent with the language of ERISA Sec. 902(f).

Perhaps check the Plan Document?  The Relius Cycle-3 doc seems to have loose enough language that you could reasonably conclude that a salary deferral election is not specific to a named plan, but that the compensation to be deferred against is instead dependent upon the Plan.  This would allow you to maintain and transfer elections from Plan to Plan for a plan merger, or termination and newly adopted Plan.  This would require significant foresight though, proper administrative documentation, timely notice, and willing acceptance of thusly modified affirmative elections.  

On 9/7/2022 at 5:47 PM, mming said:

Another reason to have new elections is to prompt the participants to review their deferral amounts, as many tend to 'set it and forget it' for years. 

I see an additional value: an opportunity to put the prior beneficiary designations in front of the participants, requesting changes and/or affirmation.