The New IRS Proposed Exception to the “Unified-Plan Rule”

The IRS recently withdrew and replaced regulations that it had proposed in 2019 concerning sections 413(c) and 413(e) of the Internal Revenue Code (IRC), which offer an exception to section 413’s “unified-plan rule” (the Rule). The Rule is more commonly known as the “one-bad-apple rule” for multiple employer (MEP) and pooled employer (PEP) plans. 

Under the Rule, a failure by one participating employer in a MEP or PEP to satisfy the qualification requirements of the IRC would result in the disqualification of the entire MEP or PEP for all participating employers. Qualification requirements may mandate the provision of information upon request or taking some other action. The new proposed regulations, which the IRS published in the Federal Register on March 28, 2022, allow certain MEPs and PEPs to preserve their tax-qualified status despite the noncompliance of one or more participating “bad-apple” employers.

The Setting Every Community Up for Retirement Enhancement Act of 2019 (SECURE Act) amended ERISA and the IRC to create a new type of defined contribution MEP or PEP that a pooled plan provider (PPP) administers. Since just one noncompliant employer can have dire consequences for all other participating employers in a MEP or PEP, the SECURE Act created section 413(e) to provide an exception to the general rule. The Act also directed the IRS to issue regulations about implementing this exception.

Giving Notice to the Noncompliant Employer

To qualify for this exception, the plan administrator must send notices to the noncompliant participating employer (and, if applicable, the participants of the participating employer and the Department of Labor (DOL)). The plan administrator may need to provide up to three notices to the employer.

The First Notice

The first notice for “failure to provide information” must occur no more than 12 months following the end of the plan year for which the DOL required the information. The first notice of “failure to take action” must occur no more than 24 months following the plan year’s end. The first notice must contain:

  • A description of the failure at issue;
  • The remedial actions that the employer must take to cure the issue;
  • The option to spin off its portion of the MEP or PEP to a separate single-employer plan;
  • A statement that failure to correct the issue or spinoff will cause the plan administrator to stop accepting contributions from the employer and its employees; and
  • A 60-day deadline to act.

The Second Notice

If the employer takes no action to remedy its noncompliance, the plan administrator must issue a second notice within 30 days of the expiration of the initial 60-day deadline. This warning must include the same information from the first notice, plus a warning that failure to take action within the next 60 days will result in the administrator sending a third notice to the employer, its participant employees, and the DOL.

The Third Notice

Suppose the employer still takes no action within the 60-day deadline provided in the second notice. In that case, the plan administrator must send a third notice not only to the employer but also to its employee participants, beneficiaries of the plan, and the DOL. This notice must occur within 30 days of the second 60-day deadline. 

Initiating a Spinoff as a Remedy

One remedy that a noncompliant employer has is to initiate a “spinoff,” which involves transferring plan assets attributable to the participants of the participating employer if the employer fails to cure the noncompliance. The spinoff also involves fully vesting the portion of the affected participants’ accounts attributable to an unresponsive participating employer that fails to cure their failure. The employer creates a separate single-employer plan. Initiating a spinoff is a remedy not contemplated by the 2019 proposed IRS regulations.

This exception does not apply to open MEPs or those maintained as MEPs but not PEPs by employers that do not share a common interest other than having adopted the plan.

Remedies for Noncompliance

If an employer remains noncompliant and fails to take any remedial action after receiving all three notices, the plan administrator must take the following actions:

  • Stop accepting contributions from the employer and their employees;
  • Fully vest the employer’s participants concerning the amounts attributable to their employment with the noncompliant employer;
  • Provide notice to the employer’s participants and their beneficiaries that the administrator will make no further contributions, that their account balances are fully vested, and that they will receive further information concerning the disposition of their accounts; and
  • Provide the opportunity for participants and beneficiaries to make an election to either directly roll over their respective account balances to an eligible retirement plan or remain in the plan.

Plan Language Requirements

The proposed regulations also specify what information plans must contain concerning the section 413 exception. For example, the plans must include a description of the procedures the plan administrator will follow if an employer fails to comply, including a description of the notices, deadlines for those notices, and other actions to be taken. The plans also must contain a statement that the employees have a nonforfeitable right to the amounts in their accounts. Plans may not utilize the exception if they do not include this language. In its final regulations, the IRS intends to publish model language for inclusion in plans concerning the exception.

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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Hall Benefits Law, LLC

HBL offers employers comprehensive legal guidance on benefits in mergers and acquisitions, Employee Stock Ownership Plans (ESOPs), executive compensation, health and welfare benefits, healthcare reform, and retirement plans. We counsel a wide spectrum of clients including small, mid-sized, and large companies, 401(k) investment advisors, health insurance brokers, accountants, attorneys, and HR consultants, just to name a few. HBL is passionate about advising clients, and we are dedicated to our mission: to provide comprehensive, personalized, and practical ERISA and benefits legal solutions that exceed client expectations.
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