Skip to main content
Article | Insider

IRS provides relief for 403(b) plans that improperly excluded part-time employees

Health and Benefits|Retirement
N/A

By Stephen Douglas and Gary Kilpatrick | January 31, 2019

The guidance announces a once-in-always-in interpretation of the section 403(b) exclusion for part-time employees.

IRS Notice 2018-95 provides guidance on the “universal availability” requirement under the 403(b) regulations and announces a “once-in-always-in” (OIAI) interpretation of the section 403(b) exclusion for part-time employees. For sponsors that have not complied with that interpretation, the notice also provides operational relief, plan document relief and a fresh-start opportunity after the relief period ends.

Employers that do not allow part-time employees to make elective deferrals to the 403(b) plan should carefully consider the OIAI interpretation and determine whether they need to change their administrative procedures or plan documents. Under the transition relief, 403(b) plans may need to operationalize this new guidance as early as January 1, 2019.

Background

Section 403(b) plans must permit all employees to make elective deferrals, with a few exceptions, including part-time employees who normally work fewer than 20 hours per week. Under 403(b) regulations issued in 2007, this part-time exclusion is allowed only for an employee who:

  1. for the first year of employment is reasonably expected to work fewer than 1,000 hours, and
  2. for each subsequent plan year (or anniversary year), worked fewer than 1,000 hours over the preceding 12-month period.

The notice refers to the first requirement as the “first-year exclusion condition” and the second one as the “preceding-year exclusion condition.” The IRS also refers to the plan year or each employee’s anniversary year in the second condition as an “exclusion year.”

Many 403(b) plan sponsors understood this rule to apply on a year-by-year basis, such that part-time employees might be eligible to make elective contributions in some years (if they had satisfied the 1,000-hour requirement in the prior year) and in later years be excluded (if they subsequently dropped below 1,000 hours of service). However, the IRS has interpreted the rule as encompassing an OIAI requirement, meaning that once an employee fails to meet either the first-year exclusion condition or the preceding-year exclusion condition, he or she remains eligible to make elective deferrals in all later years.

Transition relief

Acknowledging that many employers with section 403(b) programs were unaware of the agency’s interpretation, the IRS provided the following transition relief:

  • Operational relief. During the relief period, a plan will not be treated as noncompliant merely because it did not comply with the OIAI exclusion condition. The relief period begins with taxable years after December 31, 2008 (the general effective date for the 403(b) regulations). For plans that base exclusion years on plan years, the relief period ends on the last day of the last exclusion year ending before December 31, 2019. If exclusion years are based on employee anniversaries, the relief period for any employee ends on the last day of his or her last exclusion year ending before December 31, 2019. So, for example, operational relief for a calendar-year plan using the plan year as the exclusion year ends as of December 31, 2018, and the plan must allow part-time employees eligible under the OIAI interpretation to start making elective deferrals as of January 1, 2019.
  • Individually designed plan document relief. Employers with individually designed 403(b) plans have until March 31, 2020, to correct form defects in the plan (such as the OIAI interpretation not being applied until after the relief period).
  • Preapproved plan document relief. Preapproved 403(b) plans include language that applies the OIAI exclusion condition retroactive to 2009. However, the notice indicates that a preapproved plan need not be amended to reflect that the OIAI exclusion condition was not applied operationally during the relief period.
  • Fresh-start opportunity. In general, for exclusion years beginning on or after January 1, 2019, plans that exclude part-time workers must apply the OIAI exclusion condition in both form and operation. However, a plan that applies the OIAI exclusion condition as if it took effect January 1, 2018, will not be treated as failing to satisfy the conditions of the part-time exclusion after the relief period. Thus, a plan may disregard pre-2018 work history that would have made a part-time employee permanently eligible to participate had the OIAI exclusion been properly applied.

Employers should review how their part-time employees have been treated for purposes of their 403(b) plans and determine whether any of the corrective steps outlined in Notice 2018-95 need to be taken.

Contact Us
Related content tags, list of links Article Insider Health and Benefits Retirement United States