Of all the difficulties that employers face when they struggle with their decisions on managing employees during these disruptive times, it would seem that among the least of their immediate worries is whether or not-and to what extent-the variety of different steps they take to control costs causes a “partial termination” of their 401(k) plan. Whether or not, and what sort of, any reduction in force and for what period of time, will trigger the count toward the 20% employee reduction threshold for vesting is not front and center in their business survival plans.
It will be, however, chief among the debris that will need to be cleaned up as we work our way through this economic disaster, especially as rent becomes due and partially vested former employees need to take withdrawals from their plans.
Tax exempt organizations are among those organizations which are particularly hardest hit right now, either being educational organizations faced with terrible choices, or being an org with increased demands for their services with a concurrent reduction in their funding.
At least the “partial termination” rules are pretty straightforward, and TPAs and recordkeepers all know where to draw the line and provide guidance to their clients.
Or so you would think. But the 403(b) termination vesting rules are vastly different than those for 401(k) plans. In fact, you’ll find that there just aren’t any in the Tax Code, ERISA or Tax regulations.
Consider the following:
- The Tax Code’s vesting rules do not apply to 403(b) plans, at all.
- Technically, neither the Tax Code or the 403(b) tax regulations require that non-vested employer contributions be vested on plan termination.
- ERISA’s vesting rules-which apply only to ERISA 403(b) plans, not non-ERISA plans- and its regulations do not require any plan, whether it be 403(b) or 401(k), to vest non-vested employer contributions on plan termination.
- However, both the IRS and the DOL rules do require that an employer follow the terms of the plan document, and the IRS List of Required Modifications (the “LRM’s) for pre-approved 403(b) plans do require that non vested employer contributions be fully vested upon plan termination as a matter of the plan’s terms.
So, though we have no statutory or regulatory requirement that vesting be required on a 403(b) plan termination, the IRS requires and imposes it as a sort of matter of practice.
What then about the 401(a) partial vesting rules, which requires full vesting for those who have left employment at a time of a plan “partial termination?” Well, also consider that:
- this is a rule found in Code Section 411(d)(3);
- 411(d)(3) does not apply to 403(b) plans;
- ERISA doesn’t require vesting on partial termination; and
- the IRS 403(b) LRMs do not require vesting on partial termination.
Therefore, there is no “vesting on partial termination” for 403(b) plans, and no need to track the “20%” (or so) rule for vesting on partial terminations for a 403(b) plan. That rule simply does not apply. This is true for both ERISA and non-ERISA 403(b) plans.
So, as a practice note, if you have mistakenly applied that “partial termination” vesting rule to a 403(b) plan you may have an operational error. Check your plan document, it may have a partial termination rule. If it does not, consider whether it is an error which can be corrected by retroactive plan amendment. Nothing prevents a plan sponsor, by its terms, to adopt this rule. But it is only matter of plan design, not because of any Code or ERISA imposed rule.