Coverage Provisions of Retirement Plan Addressed in the IRS T.A.M.
The new T.A.M.2 addresses a relatively common type of plan eligibility provision, which includes in the plan only "employees on the payroll records" of the employer company. (Virtually identical language was used by Microsoft in its qualified retirement plans, which have been subjected to ongoing class action litigation since 1995.3) The T.A.M.'s employer had further narrowed its plan eligibility provisions to cover only employees on the payroll records who were identified under "a specified job code or work status code," and it also specified that workers would not be retroactively admitted to the plan, "even if a court or administrative agency determines that such individuals are common law employees and not independent contractors." Under such a plan eligibility condition, workers know, at the outset of their service performance contract, whether or not they are eligible to participate in the qualified retirement plan. They cannot be retroactively admitted to the plan, even if the IRS or a court determines that they should have been treated as "employees," simply because they were not, in fact, "on the payroll"
-- the plan's eligibility condition -- at the time the wages were paid. (It should be noted that the merits of this type of plan eligibility condition were specifically addressed in Vizcaino v. Microsoft. In an amicus brief, the American Payroll Association and the Association of Private Pension and Welfare Plans explained to the Ninth Circuit Court that the concept of "payroll" is well known, and easily understood. Moreover, since the IRS's payroll tax deposit rules do not permit employers to retroactively perform "payroll withholding" for workers who were paid wages in a prior calendar year,4 this system offers certainty to workers by prohibiting retroactive changes.)
Genesis of the T.A.M. Inquiry
This T.A.M. was issued in response to a request from an IRS field officer who had questioned the legality of this retirement plan's exclusion provisions. The plan examiner in the IRS District Office had believed that these eligibility provisions violated either Code '410(a) (which prohibits the exclusion of workers based on age or service conditions), or that it violated the regulations and rulings under Code '401(a) (which require all retirement plans to be "definite written programs").
IRS National Office Response (in the T.A.M.)
In response to this IRS District Office challenge to the retirement plan's qualifications, the IRS National Office (and the Manager of the IRS's Center for qualified retirement plan determination letters, based in Cincinnati, Ohio) have sided squarely with the employer. First, they have concluded that the requirement of Code '410(a) and Reg. '1.410(a)-3(d) are not violated, simply because the plan has:
(a) excluded workers not reported on the payroll records as common law employees;
(b) refused to admit workers retroactively, even if the IRS or a court reclassified such workers to be employees, not independent contractors; and
(c) excluded workers other than those identified by either a specified job site or work status code on the employer's payroll records unless facts "external to the plan document" exist that would show that the selected job codes somehow had improperly excluded employees based on age or service. (No such external facts were present in this case, according to the T.A.M.)
Second, the IRS has concluded in this T.A.M. that the employer had not used either ambiguous or discretionary language in adopting its "preventative measures" to protect the retirement plan from potential disqualification, which classified workers for plan eligibility as of the date of wage payment, and which refused to admit workers who were retroactively reclassified as "common law employees." Although facts "extrinsic to the plan document" (e.g., the job classifications on the employer's payroll records) must be examined to determine which workers were covered by the plan, this fact does not cause the plan to violate the "definite written plan" requirement of Code ' 410(a).
As part of its analysis, the IRS examined whether the employer had a "business purpose" for the job categories it has established. (Notably, the IRS rejected the taxpayer's suggestion that no inquiry should be made into the business reasons for the employer's selected job categories.) The IRS determined in this case that the employer had not retained "arbitrary and unbridled discretion" to add employees to, or remove employees from, its lists, and the IRS further concluded that there were "independent business reasons" for the job categories selected for inclusion in and exclusion from the plan (i.e., excluding workers on an "inactive seniority list," and individuals hired to work on specific contracts, under different compensation packages).
In conclusion, the IRS noted that the eligibility rules of this particular plan are "clearly understood by the employees, the plan administrator, and the plan fiduciaries when they examine all the facts."5 The IRS apparently also liked the fact that retroactive reclassification of workers could have no effect on plan eligibility, as noted that "what is definite today should be definite tomorrow and the same answer should obtain with respect to a particular worker."6
Employer's Reactions and Responses to T.A.M.
Any employers sponsoring retirement plans with eligibility provisions like those analyzed in this T.A.M. will no doubt be very pleased with the IRS National Office's detailed analysis and approval of these provisions. Even though a T.A.M. does not have the "binding authority" status of an IRS regulation or published ruling, it can be relied upon as "substantial authority" for purposes of avoiding any penalty for disregard of rules and regulations under Code '6662. More importantly, we understand that this T.A.M. was issued only after careful consideration by attorneys at the highest levels of the IRS National Office. Accordingly, it is likely that additional guidance will follow, either in the form of a revenue ruling or, at a minimum, in the form of "model plan" language that could be included in all qualified retirement and welfare plans.
For employers sponsoring retirement and welfare benefit plans which cover all "employees," (or all "common law employees"), and rely on the common law tests of employment to determine plan eligibility, decisions should be made as to whether to modify these plan rules, so as to adopt "protective provisions" similar to those described in the T.A.M., so as to help avoid lawsuits by reclassified (or would-be reclassified) workers.7 Such plan amendments will provide more certainty about the affected plan's coverage in any future years. On the other hand, such amendments may also send a signal to potential plaintiffs (detectable from amendments to both the plans and the summary plan descriptions on file with the Department of Labor) that the employers adopting such amendments may have been maintaining plans that historically could be more susceptible to lawsuits. Some of these problems may be averted by careful drafting of the explanations accompanying such plan amendments in any instances where the amendments might be characterized as mere "clarifications" of who the affected plan's eligibility conditions have been interpreted to apply to in the past. On balance, the benefits offered by these protective measures would appear to outweigh the risks of lawsuits, especially for employers who are large, successful companies, with rapidly appreciating stock prices. Any such companies are likely targets of lawsuits by reclassified workers, irrespective of whatever protective plan amendments they might adopt.
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1. See, e.g., Abraham v. Exxon Corp., 85 F.3d 1126 (5th Cir. 1996); Clark v. E.I. DuPont De Nemours and Co., Inc., No. 95-2845, 1997 WL 6958 (4th Cir. 1997); Bronk v. Mountain States Tel & Tel. Co., Inc., dba U.S. West Communications, 104 F.3d 1335 (10th Cir. 1998), rev'g and remanding 943 F. Supp. 1317 (D.Colo. 1996); Vizcaino v. Microsoft, 97 F.3d 1187 (9th Cir. 1996), reh'ing en banc granted by 105 F.3d 1334 (9th Cir. 1997), reh'ing en banc., 120 F.3d 1006 (9th Cir. 1997), cert. denied 522 U.S. 1098 (rejection of company's request that 9th Circuit's decision on the issue of workers' eligibility to participate in Microsoft's Employee Stock Purchase Plan ("ESPP") be reversed or remanded) 173 F.3d 173 (9th Cir. 1999) (leased employees allowed to participate in the ESPP); Hensley v. Northwest Permanente P.C. Retirement Plan and Trust, No. CV-96-1166-ST, 1999 WL 685886 (D.Or. 1999) (requiring the plan administrators to apply the common law tests of "employee status" to determine which workers should have rece
ived plan benefits).
2. This T.A.M. was issued to the IRS District (and the taxpayer) who had sought the advice in late March, and was released before its normal public release date under the Freedom of Information Act ("FOIA") (which typically would have been approximately four months after its issuance date). It has not yet been assigned an official FOIA release number.
3. See the references to Vizcaino v. Microsoft in note 1 above.
4. See Treas. Reg. ' 31.6205-1(c)(4) providing that "[i]f no income tax or less than the correct amount of income tax is deducted from wages paid to an employee in a calendar year, the employer shall collect the amount of the undercollection on or before the last day of such year by deducting such amount from remuneration of the employee, if any, under his control." Thus, the employer must implement any previously unperformed income tax withholding deduction before the end of the calendar year in which the wages that triggered such withholding were paid. No guidance is provided in this or any other deposit regulations to permit voluntary retroactive corrections of underwithholding by employers who discover an undercollection in calendar years after the wages were paid, and after the last quarterly Form 941 for any calendar year has been filed.
5. T.A.M. at 9.
6. T.A.M. at 10.
7. These types of provisions could be added to any retirement, health, life insurance, or any other employee benefit plan governed by a "written plan" qualification requirement, with the exception (unfortunately) of employee stock purchase plans qualified under Code '423. Protective measures covering only specifically (and prospectively) designated workers cannot be included in ESPP plans because these plans are governed by statutory qualification rules which follow the common law tests of "employee" status and do not permit the inclusion of protections against retroactive reclassifications of workers.
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