In late March 2022, the US Internal Revenue Service withdrew regulations proposed in 2019 and issued new proposed regulations under Sections 413(c) and (e) of the Internal Revenue Code, which provide for an exception to Section 413’s “unified plan rule”—commonly referred to as the “one-bad-apple rule”—for multiple employer and pooled employer plans.
Under this “unified plan rule” (Rule), as described in more detail below, a failure by one participating employer in a multiple employer plan (MEP) or pooled employer plan (PEP) to satisfy the qualification requirements of the Internal Revenue Code (the Code) would result in the disqualification of the entire MEP or PEP for all participating employers (hence the “one-bad-apple” moniker). The new proposed regulations of the Internal Revenue Service (IRS), which were published in the March 28, 2022 issue of the Federal Register, provide an exception to this Rule that applies to certain MEPs and PEPs. The exception helps preserve the qualified status of the MEP or PEP when one or more participating “bad apple” employers fails to provide certain information or take certain actions that could potentially jeopardize the plan’s tax-qualified status.
Compliance with the new proposed regulations is deemed to be good faith compliance with Code Section 413(e) until final regulations are issued, which now provides plan administrators of MEPs and PEPs wishing to utilize the exception the ability to do so before the new proposed regulations are final.
Comments regarding the proposed regulations may be submitted up until May 27, 2022. A telephonic public hearing is scheduled for June 22, 2022.
Broadly speaking, a MEP is a single plan maintained by two or more employers that share a common nexus or interest. MEPs are often maintained by employers who are in the same industry or geographic location and are regularly made available by professional employer organizations (PEOs). (This was previously discussed in an ML BeneBits blog post, which details rules regarding what employers may participate in a MEP as well as the prior iteration of the IRS proposed regulations addressing the Rule.)
The Setting Every Community Up for Retirement Enhancement Act of 2019 (SECURE Act) amended the Employee Retirement Income Security Act of 1974 (ERISA) and the Code to create a new type of defined contribution MEP called a pooled employer plan, or PEP. At a high level, a PEP is a defined contribution, individual account MEP that is established and administered by a pooled plan provider (PPP), which permits participation by multiple unrelated employers (i.e., employers that do not share a common nexus or interest).
The SECURE Act’s PEP provisions piqued the interest of many in the retirement plan marketplace, and this interest gained momentum when PEPs officially entered the retirement plan marketplace in January 2021. While the current lack of regulatory certainty may have chilled the interest of some potential members of the PEP ecosystem, several regulatory actions now provide additional certainty in this new area. These regulatory actions began with a request for information issued by the Department of Labor (DOL) regarding potential prohibited transaction issues affecting PEPs and PPPs and the DOL rules for the required registration of PPPs. The current proposed regulations on the exception to the Rule are the most recent guidance on MEPs and PEPs and represent the next step towards regulatory certainty in this space.
Code Section 413(c) and Treasury Regulations Section 1.413-2 set forth qualification requirements for MEPs (and also appear to cover PEPs). Under the Rule, the qualification of a MEP is “determined with respect to all employers maintaining the Section 413(c) plan” and, thus, one participating employer’s failure to satisfy the relevant qualification requirements results in the disqualification of the entire MEP for all participating employers. The SECURE Act addressed the potentially harsh consequences that can occur under this Rule by adding a new Code Section—Code Section 413(e)—that provides relief via a statutory exception to the Rule for PEPs, as well as for plans recognized as MEPs by the DOL (i.e., a MEP maintained by employers that all have a common interest other than having adopted the plan). The SECURE Act also directed the IRS to issue regulations to provide further details on this statutory exception to the Rule.
The new proposed regulations provide guidance for implementing the exception to the Rule for “Section 413(e) plans” (i.e., a PEP or a defined contribution, individual account plan recognized as a MEP by the DOL). The IRS refers to the exception in the preamble to the proposed regulations (the Preamble) as the “unified plan exception” (the Exception). Under the Exception, PEPs and MEPs are not treated as disqualified merely because of a “participating employer failure.” For the Exception to apply, the proposed regulations require the MEP or PEP to satisfy a number of enumerated conditions, which are discussed in more detail below.
Broadly speaking, these conditions require the PEP or MEP to provide notices to the participating employer with the participating employer failure (and, if applicable, the participants of the participating employer and the DOL), to transfer plan assets attributable to the participants of the participating employer if the participating employer fails to cure the failure, and to fully vest the portion of the affected participants’ accounts attributable to an unresponsive participating employer that fails to cure their failure. It should be noted, however, that the Exception does not provide relief to so-called “open MEPs” (i.e., plans maintained as MEPs that are not PEPs by employers that do not share a common interest other than having adopted the plan). As a result, open MEPs continue to be subject to the Rule without the availability of the Exception.
The IRS is requesting comments on what guidance would be helpful regarding whether employers have a common interest outside of having adopted a common plan. This presents a potential opportunity for proponents of open MEPs to weigh in on the circumstances that arguably could or should be viewed as a shared common interest for purposes of such plans being recognized as Section 413(e) plans.
Participating Employer Failure
The proposed regulations define the term “participating employer failure” as either “a failure to provide information” or “a failure to take action.” If a participating employer fails to respond to the plan administrator’s reasonable request for relevant information in a timely manner, then the employer has committed a failure to provide information. If a participating employer fails to take any timely action that is needed to satisfy the qualification requirements under Code Sections 401(a) or 408, then the employer is responsible for a failure to take action.
The proposed regulations refer to a participating employer that has a participating employer failure as an “unresponsive participating employer.” In the event of such failure(s), the unresponsive participating employer may either remedy its failure or initiate a “spinoff,” meaning that the unresponsive participating employer can elect to have the amounts attributable to the plan participants who are employees of the unresponsive participating employer (and their beneficiaries) spun off to a separate single-employer plan maintained by the unresponsive participating employer.
If a spinoff is elected, the plan administrator must implement and complete the spinoff “as soon as reasonably practicable” after the unresponsive participating employer initiates the spinoff. The proposed regulations provide a safe harbor where a plan administrator will be treated as satisfying this requirement if the spinoff is completed within 180 days following the spinoff initiation date.
The remedy requiring initiation of a spinoff by the unresponsive participating employer is a reversal from the prior, now withdrawn, iteration of the IRS proposed regulations addressing the Rule, which would have required the plan administrator of a MEP to initiate the spinoff (rather than the unresponsive participating employer) and then terminate the spunoff plan. It should be noted, however, that the Exception as currently proposed does not expressly permit the plan administrator of a MEP or PEP to voluntarily initiate a spinoff in the absence of affirmative direction from the unresponsive participating employer to do so.
The IRS did not specifically request comments regarding initiation of a spinoff by a plan administrator instead of an unresponsive participating employer; however, the IRS is requesting public comments on circumstances where leaving the amounts attributable to the unresponsive participant employer’s employees in the MEP or PEP would be appropriate after the unresponsive participating employer has affirmatively directed that a spinoff be initiated.
Notice Requirement
In the event of a “participating employer failure,” the proposed regulations would require the plan administrator for the MEP or PEP to provide certain prescribed notices to qualify for the Exception. As many as three notices may ultimately need to be provided to the unresponsive participating employer. The first notice for a “failure to provide information” must be provided no later than 12 months following the end of the plan year for which the information was required, and the first notice for a “failure to take action” must be provided no later than 24 months following the end of the plan year for which the action was required.
The first notice must
If the unresponsive employer fails to take any remedial action within the 60-day period following the date the first notice is provided, then the plan administrator must provide a second notice within 30 days of the expiration of this 60-day period that includes all of the information required to be included in the first notice, plus a warning that if the unresponsive employer fails to take appropriate remedial action or initiate a spinoff within the next 60 days, then a third and final notice describing the employer’s failure will be provided to both the participants who are employees of that employer and the DOL.
If the unresponsive participating employer still takes no action within the 60-day period following the date the second notice is provided, then the plan administrator must provide a third and final notice within 30 days of the expiration of this 60-day period to (1) the unresponsive employer, (2) the participants who are employees of that employer (and their beneficiaries), and (3) the DOL. The third notice must include all of the information required to be included in the first notice, state that the participants and the DOL are also recipients of the notice, and specify the final deadline for the unresponsive participating employer to correct its failure or initiate a spinoff.
In some cases, a failure to provide information may turn into a failure to take action. The Preamble describes a situation where an unresponsive participating employer provides the requested information (and is thus no longer failing to provide information) but the plan administrator then determines that a qualification failure has occurred based on that provided information. In this scenario, the participating employer now has a failure to take action, and different notice requirements apply. In such instances, the plan administrator may satisfy the first and second notice requirements for the failure to take action by sending a “combined” notice of a failure to take action (which will serve as both the first and second notices) and then sending a separate final notice of the failure to take action.
The action requested by the PPP will not necessarily resolve the potential qualification failure by itself—additional action by the PPP or participating employer may be necessary to resolve the failure consistent with the IRS’s Employee Plans Compliance Resolution System (EPCRS). The Preamble acknowledges that EPCRS and Code Section 413(e) will require coordination.
Plan Language Requirement
The proposed regulations also specify certain plan document requirements in connection with the Exception. In connection with the Exception, the proposed regulations require the plan document to set forth what procedures will be followed in the event of a participating employer failure. The following details should be included in the plan document:
A MEP or PEP that does not satisfy the plan language requirements will not be eligible for the Exception. The proposed regulations note that, in connection with the final regulations, the IRS intends to publish model plan language for use by MEPs and PEPs. The proposed regulations do not, however, address whether plan administrators wishing to utilize the Exception before the model language is published must nevertheless amend their MEP or PEP first to provide for the Exception, nor do the proposed regulations address whether utilizing the Exception in situations where a MEP or PEP was previously amended to comply in good faith with the SECURE Act creates an operational failure if the plan’s good faith provisions are not first amended further to conform to the new proposed regulations. Finally, the proposed regulations are silent concerning the availability of a remedial amendment period to plan administrators who utilize the Exception now, but amend the MEP or PEP later.
The Preamble discusses the intersection between the Employee Plans Compliance Resolution System (EPCRS), the Rule, and a plan administrator’s failure to provide the first notice of an unresponsive employer’s failure. The Preamble explains that since the PEP plan document must state that the PPP will send a timely first notice, the plan administrator’s failure to provide the first notice in a timely manner will be treated by the IRS as a significant operational failure under EPCRS. The Preamble provides that all the correction options for a significant operational failure (SCP, VCP or Audit Cap) are available to correct the plan administrator’s failure. Although the Preamble only addresses the failure to provide the first notice, since the plan document must include a description of all the notices required to be furnished by the plan administrator, a failure to provide any of the three required notices—not just the first notice—may potentially constitute a significant operational failure under EPCRS.
Required Action After the Final Notice
If an unresponsive participating employer fails to take any remedial action after the final notice is provided, then the plan administrator must
The absence of an affirmative election by the participants or beneficiaries will be deemed to be an election to remain in the plan. Participants who elect (or are deemed to elect) to have their accounts remain in the plan will continue to be subject to the terms of the plan and may only take distribution as permitted by the plan. The plan may provide for a mandatory distribution in the case of a participant’s separation from employment, and the plan administrator may rely on the participant’s representation that he or she has separated from employment (unless the plan administrator has actual knowledge to the contrary).
It should be noted that the proposed regulations do not address the lost or missing participant issues that may arise where an unresponsive participating employer’s participants are deemed to have elected to have their accounts remain in the plan and the unresponsive participating employer has failed to provide the plan administrator with current address information for the affected participants. Plan administrators will need to look to the DOL’s existing guidance—and any future guidance issued by the DOL—to address this issue.
The IRS is requesting comments on the rules for mandatory distributions for employees of unresponsive participating employers, including in cases involving missing participants.
If you have any questions about MEPs, PEPs, or PPPs—or are considering submitting a public comment to the IRS in response to the proposed regulations—please contact the authors, any of the following Morgan Lewis lawyers, or your Morgan Lewis contacts.
Boston
Lisa H. Barton
Chicago
Marla J. Kreindler
Daniel R. Salemi
Julie K. Stapel
New York
Craig A. Bitman
Philadelphia
Robert L. Abramowitz
Amy Pocino Kelly
Mark J. Simons
Gaeun Yoo
Pittsburgh
John G. Ferreira
Matthew H. Hawes
Elizabeth S. Goldberg
Randall C. McGeorge
R. Randall Tracht
Michael J. Gorman
San Francisco
Claire P. Rowland
Washington, DC
Rosina Barker
Althea R. Day
Lindsay B. Jackson
Daniel R. Kleinman
Gregory L. Needles
Michael B. Richman
Jonathan Zimmerman