Although the Internal Revenue Code does not allow employers to exclude part-time employees, it has allowed them to exclude employees from their 401(k) plans until they have worked at least 1,000 hours in a year. As a result, employers historically used this rule to exclude part-time employees from plan participation, including the right to make elective salary deferral contributions to a plan.
However, the Setting Every Community Up for Retirement Enhancement Act of 2019 (SECURE Act) and the SECURE 2.0 Act of 2022 require employers to allow “long-term part-time employees” (LTPT) to participate in their retirement plans under certain circumstances. The Internal Revenue Service (IRS) recently released proposed rules that guide employers on when they must include LTPT employees in their company 401(k) plans. The comment period for the proposed rules closes on January 26, 2024.
SECURE Act and SECURE 2.0 Act Requirements
Under the SECURE Act, 401(k) plans must allow part-time employees who work at least 500 hours over three consecutive years to participate in a 401(k) plan in 2024. The SECURE 2.0 Act expands this eligibility beginning in 2025. At that point, employers must permit employees who have worked at least 500 hours over two consecutive years to participate in a 401(k) plan. These employees qualify as LTPT employees if they are solely eligible to participate in the plan based on their hours of service.
Nonetheless, neither the SECURE Act nor the SECURE 2.0 Act requires employers to make matching or non-elective contributions for LTPT employees. While employers are free to do so, this legislation makes no change in that area.
The IRS Proposed LTPT Regulations
The IRS proposed rules provide a specific definition of LTPT for the purposes of eligibility to participate in a qualified cash or deferred arrangement (CODA). In addition to the required completion of 500 hours of service over three (for 2024) or two (for 2025) consecutive years, employees must be at least 21 years old by the close of the 12-month periods. The LTPT employee definition does not apply to government and church plans.
The first 12-month period for the LTPT eligibility rules begins on the employee’s hire date. However, subsequent 12-month periods begin on the first day of the plan year.
If an employee works less than 500 hours in any subsequent 12-month period, it does not disqualify them from plan participation. Once the employee works three (or two) consecutive years with 500 hours of service (depending on whether it is 2024 or 2025, subsequent years in which the employee does not reach 500 hours of service do not disqualify the employee from future participation in the plan.
Other Employee Exclusions from CODA Eligibility
The proposed rules also state that individuals who might be eligible to participate in plans as LTPT employees can be excluded if they are members of job classifications not based on age or service whose members are excluded from plan participation. For instance, an employer may bar employees from a certain division from participating in the plan so long as that bar is not based on the employees’ age or service. Nonetheless, to determine whether an employee is an LTPT employee, the employer must consider all periods during which the employee had 500 or more hours of service, including when the employee fell within a classification of employee ineligible to participate in the qualified CODA.
Employee Eligibility Methods Other Than Countable Hours of Service
Additionally, the LTPT proposed rules do not require employees to switch to methods that count hours of services in determining employee eligibility for participation in qualified CODAs. Employers are still free to use alternative methods to determine employee eligibility for participation, such as the elapsed time method or the hours equivalency method.
When Employees May Begin Participation in CODAs
The same CODA participation entry date rules apply to LTPT and other eligible employees. LTPT employees can begin salary deferral elections no later than the earlier of the following two dates:
- The first day of the first plan year, beginning after the date the employee became eligible; or
- The date six months after the date on which the employee became eligible.
Special Vesting Rules
Employers must credit LTPT employees with a year of service for all 12-month periods in which they worked at least 500 hours for the purposes of vesting concerning employer contributions. However, periods before January 1, 2021, are not included in this special vesting rule, which applies only to LTPT employees eligible to participate in CODAs solely because of the LTPT rules. Additionally, the vesting computation period need not be the same as the employee’s eligibility computation period, so long as the vesting computation period is the calendar year, the plan year, or another 12-consecutive month period designated by the plan.
Former LTPT Employees
If an LTPT employee later becomes eligible to participate in the CODA under regular eligibility standards, then the employee becomes a “former LTPT employee.” As a former LTPT employee, that employee still is subject to the special vesting rules for LTPT employees and does not become subject to the regular vesting rules that apply to all other employees.
Miscellaneous Provisions
The IRS proposed LTPT rules contain several other miscellaneous provisions, including the following:
- Employers may elect to exclude LTPT employees from the following nondiscrimination and coverage tests:
- nondiscrimination requirements under Code Section 401(a)(4);
- ADP test under Code Section 401(k)(3);
- the ACP test under Code Section 401(m)(2);
- ADP safe harbor provisions under Code Sections 401(k)(12) and (13);
- ACP safe harbor provisions under Code Sections 401(m)(11) and (12); and
- the minimum coverage requirements under Code Section 410(b).
However, if the employer is going to exclude LTPT employees from one test listed above, it must exclude them from all tests. The employer may make this exclusion even if the employees are eligible for an employer match and/or non-elective contributions.
Additionally, if the plans are safe harbor plans, employers must adopt language clearly excluding all LTPT employees from all tests before the beginning of each plan year. While adopting such language is not a requirement in a non-safe harbor plan, employers must include “enabling language” in their plan.
Employers must include LTPT employees under Code Section 416(g) to determine whether a plan is top-heavy. However, the employer may exclude LTPT employees from the top-heavy vesting and benefit requirements if the employer decides to do so. The employer may make this exclusion even if the employees are eligible for an employer match and/or non-elective contributions.
Employers have the discretion to determine whether LTPT employees can make catch-up contributions and Roth contributions. They can allow these employees to make catch-up contributions without violating other requirements.
HBL has experience in all areas of benefits and employment law, offering a comprehensive solution to all your business benefits and HR/employment needs. We help ensure you are in compliance with the complex requirements of ERISA and the IRS code, as well as those laws that impact you and your employees. Together, we reduce your exposure to potential legal or financial penalties. Learn more by calling 470-571-1007.
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