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Part 7. Rulings and Agreements

Chapter 12. Employee Plans Guidelines

Section 1. Plan Terminations

7.12.1  Plan Terminations

7.12.1.1  (01-01-2003)
Overview

  1. Guidelines are provided on terminating and terminated retirement plans. Specific guidance is provided with regard to—

    • determination program, see text 1.2

    • examining terminations and partial terminations, see text 1.3

    • plans terminating without a determination letter, see text 1.4

  2. Many of the same issues are covered from a different perspective within each of these subsections. Also, many of these topics are covered in detail in IRM 4.71.1, Employee Plans Examination of Returns.

  3. Within each subsection, each technical topic is described and is generally followed by techniques to assist EP specialists and agents when reviewing issues involving plan terminations. These techniques are referred to as—

    • "Processing Steps" in determination cases

    • "Examination Steps" in examination cases

  4. The following issues are addressed with regard to terminating plans. Additional documentation may be necessary in instances where these issues are present.

    1. Prohibited discrimination in contributions or benefits under IRC section 401(a)(4) or failure to satisfy the minimum participation requirements under IRC section 401(a)(26).

    2. Prohibited transactions under IRC section 4975.

    3. IRC section 412 funding deficiencies.

    4. Failure to provide benefits required by IRC section 411(d)(3) because a termination, partial termination or discontinuance of contributions occurred prior to the stated date of termination.

    5. There is an incomplete explanation of the "valid business reason" if the plan was discontinued within a few years after its adoption (see Reg. 1.401–1(b)(2)).

    6. Reversion of funds under IRC section 401(a)(2) and Reg. 1.401–2.

    7. Whether the IRC section 416 minimums have been made.

7.12.1.2  (01-01-2003)
Determination Program

  1. Guidance is provided on issues that may arise when reviewing determination letter applications.

  2. Refer to IRM 7.11.1, Employee Plans Determination Letter Program, for procedures on processing determination letter applications.

7.12.1.2.1  (01-01-2003)
Overview

  1. Applications for a determination letter upon termination of a plan, including standardized plans, are filed on Form 5310, Application for Determination Upon Plan Termination.

  2. Applications for a determination letter upon partial termination are filed on Form 5300, Application for Determination for Employee Benefit Plan.

  3. Each case file should contain a completed Form 6677, Plan Termination Standards Worksheet or other appropriate form on a request for a determination letter upon plan termination.

7.12.1.2.1.1  (01-01-2003)
Processing Steps

  1. The date of the last determination letter and a review of the administrative file aid in determining if the plan meets all of the IRC section 401(a) provisions.

    1. If the Form 5310 application does not indicate a date and file folder number of a previous determination letter, contact the applicant to determine whether a favorable determination letter was issued.

    2. If such information cannot be verified by contacting the applicant, check the Employee Plans Master File (EPMF).

  2. Determine if the plan meets all qualification requirements EFFECTIVE ON THE DATE OF TERMINATION.

  3. If no prior determination letter was issued, obtain a copy of the plan, trust, and all amendments and determine if the plan is qualified under IRC section 401(a).

  4. If the plan was established before 1984, no evaluation of timely adoption of the document would generally be necessary. The agent is to ascertain whether a plan document existed. For a plan established between 1984-1988, the evaluation of timely adoption of a plan within its initial plan year will be disregarded if the agent is able to establish that evidence of a valid TDR document exists. An in-depth review of the initial document would generally not be necessary for a plan established after 1988 that was subsequently amended for TRA-86. (See Quality Assurance Bulletin 2000-2 revised July 18, 2001).

  5. If the plan is not in compliance, (a late amender), and where a request concerns a prior year(s) for which the retroactive amendment period has expired, see IRM 7.11.1 Employee Plans Determination Letter Program, for applicable procedures.

  6. In reviewing termination applications and in examining terminating or terminated plans, focus on the effect of the termination on the qualified status of the plan and trust.

  7. Ensure the plan and trust meet the requirements of IRC section 401(a), including that the

    1. plan has existed for the exclusive benefit of the employees and beneficiaries,

    2. plan had no operational defects,

    3. terms and operation of the plan do not result in prohibited discrimination, and

    4. plan has been a permanent and continuing program of the employer within the meaning of Reg. 1.401–1(b)(2)

  8. Obtain all the necessary information, as well as any required documentation, to make a determination on the qualified status of the plan and trust.

  9. To obtain additional documentation, third party contacts, including contacts with plan participants or former participants may be necessary (after proper notification of the taxpayer of the proposed third party contact).

7.12.1.2.2  (01-01-2003)
Retroactive Amendment

  1. Retroactive amendments that occur during the remedial amendment period and after the remedial amendment period expires, are described.

  2. Also described are the rules that apply to plans that terminate before the IRC section 401(b) period expires.

7.12.1.2.2.1  (01-01-2003)
During Remedial Amendment Period

  1. IRC section 401(b) permits plan sponsors to retroactively amend their plan to eliminate "disqualifying provisions" during the remedial amendment period. In the case of an existing plan, a disqualifying provision is any plan provision which causes the plan to fail to meet the qualification requirements of IRC section 401(a) as a result of any plan amendment or changes in the qualification requirements due to the enactment of certain statutory provisions.

  2. Disqualifying provisions also include plan amendments that are not required, but are integral to a qualification requirement changed by certain statutory provisions or any requirement which is treated, directly or indirectly, by the Service as if Section 1465 of the Small Business Job Protection Act (SBJPA) applied to it. See Rev. Procs. 98–14, 98–4 C.B. 22 and 97–41, 97–33 C.B. 51. See also Rev Procs. 98–23, 1998–1 I.R.B. 662 and 2000–27, 2000–26 I.R.B.1272 .

7.12.1.2.2.2  (01-01-2003)
Retroactive Amendment After Remedial Amendment Period Expires

  1. In general, once the remedial amendment period has expired, retroactive amendment to correct a disqualifying provision will not requalify a plan for any plan years prior to the current plan year. However, a plan amended after the expiration of the remedial amendment period may be requalified for the current and preceding plan year if—

    1. the plan is retroactively amended to comply with the qualification requirements as of the time the defect in the plan arose, and

    2. employee benefit rights are retroactively restored to the levels they would have been had the plan been in compliance with the qualification requirements from the date the defect arose.

  2. To requalify a plan for a particular plan year and the immediately preceding plan year a request for a determination letter must be submitted by the end of the time prescribed by law for filing the employer’s tax return (including extensions) for the taxable year of the employer beginning with or within the prior plan year. See Rev. Rul. 82–66, 1982–1 C.B. 61.

7.12.1.2.2.3  (01-01-2003)
Amendments for Plans Terminating Before IRC section 401(b) Period Expires

  1. A plan that terminates after the effective date of one or more statutory changes subject to a remedial amendment period must be operated according to the applicable statutory provision from the date such provision became effective with respect to the plan until termination. In addition, prior to termination the plan must be amended to comply with all statutory changes effective as of the date of termination.

7.12.1.2.2.4  (01-01-2003)
Processing Steps

  1. Determine which Code sections were effective as of the date of termination.

  2. Make sure the plan was timely amended for those sections of the Code that were effective as of the date of termination and that nothing indicates the plan failed to operate in accordance with the applicable provisions.

  3. Ensure the determination letter contains the appropriate caveats.

7.12.1.2.3  (01-01-2003)
Proposed Termination Date

  1. The date of termination of a plan subject to Title IV of ERISA is the date determined under ERISA 4048. See Reg. 1.411(d)–2(c).

    1. Generally, in the case of a standard termination, if the plan is terminated in accordance with ERISA 4041, this is the date proposed by the plan administrator in the notice of intent to terminate submitted to the PBGC required by ERISA 4041.

    2. If a plan is terminated in a distress termination in accordance with ERISA 4041, the termination date is the date established by the plan administrator and agreed to by the PBGC.

    3. In a termination under ERISA 4041, notice to plan participants must be given at least 60 days before the proposed date of termination. Failure to timely provide this notice will nullify the proposed termination date.

    4. If a plan is terminated in an involuntary termination under ERISA 4042 because the plan is unable to meet minimum funding requirements or is unable to pay benefits when due, the termination date is the date established by the PBGC and agreed to by the plan administrator. See ERISA 4048.

  2. The date of termination of a plan not subject to Title IV of ERISA is the date on which the plan is voluntarily terminated by the employer or employers maintaining the plan. See Reg. 1.411(d)–2(c)(3).

  3. The date of the proposed termination may change for a defined benefit plan that requires PBGC approval, if PBGC specifies a different termination date.

  4. A plan is not terminated simply because it is amended to cease future accruals. Such amendment may require increased vesting under Reg. 1.411(d)–2 but, because assets have not been distributed and are not in the process of prompt liquidation, the plan is not considered terminated for qualification purposes. See Rev. Rul. 89–87, 1989–2 C.B. 2.

    1. If the plan is not terminated it must continue to meet all requirements of IRC section 401(a) for the trust to retain tax favored status under IRC section 501(a).

    2. Also, ERISA 204(h) requires, in general, that plan administrators of pension plans notify plan participants and alternate payees of any amendment which provides for a significant reduction in the rate of future benefit accruals. Such notice must be given not less than 15 days before the effective date of the amendment.

  5. If actions are taken to terminate a plan but the assets are not distributed as soon as administratively feasible, the plan is not considered terminated for purposes of IRC section 401(a) (although it may be considered terminated for other purposes, such as Title IV of ERISA) and the plan’s qualified status must have been maintained until the plan is terminated in fact. See Rev. Rul. 89–87, 1989–2 C.B. 2.

  6. If the plan was actually terminated after the proposed date of termination, (e.g., because assets will not be distributed as soon as administratively feasible or because proper and timely notice has not been given in the case of a plan subject to Title IV of ERISA) , a determination must be made as to whether the plan was qualified as of the actual date of termination.

7.12.1.2.4  (01-01-2003)
Minimum Funding Standards

  1. The minimum funding standards of IRC section 412 apply to defined benefit pension plans and money purchase pension plans, other than those described in IRC section 412(h). Generally the minimum funding standard applies to a plan until the end of a plan year in which the plan terminates, even though the termination occurs prior to the last day of the plan year.

  2. In the case of a defined benefit plan, the charges and credits are ratably adjusted to reflect the portion of the plan year before the plan terminated. In the case of a defined contribution plan, the minimum funding standard charges will reflect the entire amount of any contributions due on or before the date of termination, but no contributions due after that date.

  3. If the employer fails to make a required contribution to a pension plan on a timely basis, the plan could fail to meet the minimum funding standards of IRC section 412. IRC section 4971(a) provides that a 10% excise tax will be imposed on an employer in a taxable year on any accumulated funding deficiency as of the end of the plan year ending with or within that taxable year. A termination does not relieve the employer of the obligation to fund the accumulated funding deficiency as of the end of the plan year in which the plan is terminated. If the deficiency is not corrected, reduced to zero, the 100% penalty tax imposed by IRC section 4971(b) may apply. See Rev. Rul. 79-237, 1979-2 C.B. 190, as modified by Rev. Rul. 89-87, 1989–2 C.B. 2.

    1. For deductibility purposes, contributions will, in general, be deemed made on the last day of the preceding taxable year if they are made on account of the preceding year and are made no later than the time prescribed by law for filing the employer’s return for such year (including extensions).

    2. For purposes of minimum funding, contributions for certain plans are due (in four quarterly installments) 15 days after the end of each quarter of the current plan year. See IRC section 412(m).

  4. For purposes of IRC section 412, contributions for nonmultiemployer plans made within 81/2 months after the close of the plan year shall be treated as if made on the last day of the preceding year if made on account of the prior plan year. Contributions for multiemployer plans that are made within 21/2 months after the close of the plan year (up to 81/2 months as extended by proposed Reg. 1.412(c)(10)–1(b)) shall also be treated as if made on the last day of the preceding year if made on account of the prior plan year. See IRC section 412(c)(10).

    1. Generally, the minimum funding standard (including the obligation to make a payment to amortize a waived funding deficiency) applies to a plan until the end of the plan year in which such plan terminates and does not apply thereafter.

    2. In the plan year containing the date of plan termination, the plan year will not end merely because the plan is terminated. Therefore, the funding standard account must be maintained until the end of the plan year in which the plan terminates, even though the termination occurs prior to the last day of the plan year.

  5. Rev. Rul. 79–237, 1979–2 C.B. 190 also provides guidelines for determining the charges and credits to be made to the funding standard account if a pension plan is terminated during a plan year.

    1. Generally, this calculation for a defined benefit plan reflects the termination through the proration of certain charges and credits to the plan’s funding standard account based on the fraction of the plan year elapsed prior to termination.

    2. Interest on these charges and credits runs until the end of the plan year in which the plan terminates.

  6. IRC section 4971(a) provides that a 10% tax (5% for multiemployer plans) will be imposed on an employer in a taxable year on any accumulated funding deficiency as of the end of the plan year ending with or within that taxable year.

    1. A termination does not eliminate an accumulated funding deficiency as of the end of the plan year in which the plan is terminated. For a terminating plan, the 10% tax will be imposed if there is a funding deficiency as of the last day of the plan year in which the plan is terminated but no tax will be imposed for subsequent years.

    2. If this deficiency is not reduced to zero, the 100% tax imposed by IRC section 4971(b) will apply unless a waiver of that tax is requested and approved.

  7. Upon termination of a plan, the accumulated funding deficiency cannot be deemed corrected by having plan participants " waive" their accrued benefits. Such a waiver violates IRC sections 411(d)(6), 411(a), and 401(a)(13).

    Note:

    Although a majority owner (i.e., a participant with an interest in the employer in excess of 50%) may agree, with spousal consent, as necessary, to forego receipt of all or part of his or her benefit until the benefit liabilities of all other plan participants have been satisfied to facilitate the termination of a plan covered under Title IV of ERISA, this is not a forfeiture of such benefits within the meaning of IRC section 411 and does not affect the otherwise applicable minimum funding requirements of the plan in the year of termination.

  8. A funding method may not be changed in the year in which the plan terminates unless either automatic approval is available to change the funding method of the plan or the plan administrator obtains approval for a change in funding method.

  9. The quarterly contribution requirement under IRC section 412(m) continues to apply during the year of termination. However, the required annual payment under IRC section 412(m)(4) for the year in which the plan terminates will reflect any prorated charges or credits for the funding standard account in the year of termination.

  10. If a waiver of the minimum funding standards (under IRC section 412(d)) is being amortized in the year in which a plan terminates, all obligations of the employer with respect to the waiver as stated in the waiver ruling letter must be met in the year of termination.

    1. These include the obligation to make all required amortization payments necessary for the waiver and payments to meet conditions relating to plan termination, if any, on which the approval of the waiver is contingent.

    2. A waiver amortization charge in the funding standard account is not prorated in the year of termination. An employer maintaining a plan with an unamortized waiver may contribute and deduct an amount equal to the outstanding balance of the waiver in any year, including the year of termination.

  11. A money purchase plan may not be amended in the year of termination to reduce or eliminate any contribution requirement for that year, unless all employees’ "accrued benefits" as of the later of the adoption or effective date of the amendment are protected, or the plan satisfies the requirements of IRC section 412(c)(8) allowing certain retroactive benefit reductions.

    Note:

    A benefit is not considered "accrued" for this purpose unless all conditions to accrued the benefit under the plan have been satisfied. For example, if the plan document contains provisions which indicate that all participants’ "benefit accruals" do not occur unless the participant has an hour of service on the last day of the plan year and completes 1000 hours of service during the plan year, an amendment reducing contribution requirements adopted before the last day of the year will not violate IRC section 411(d)(6). See Rev. Rul. 76–250, 1976–2 C.B. 124.

7.12.1.2.4.1  (01-01-2003)
Processing Steps

  1. Determine if the plan assets are to be distributed on the proposed date of termination or within a reasonable time thereafter. Also, for a defined benefit plan subject to Title IV of ERISA, determine if proper and timely notice has been given, especially when the plan administrator is proposing a termination date which is earlier than the date of filing Form 5310. If so, additional benefits may have accrued and additional qualification requirements may have become effective in the interim period after the proposed date of plan termination and before the actual date of termination.

  2. If the plan was actually terminated after the proposed date of termination, determine if the plan was qualified as of the actual date of the termination (especially look at coverage, vesting and accruals).

  3. Additionally, if a plan subject to IRC section 412 terminates on a date later than the stated date of termination the employer may be subject to additional required funding, and deficiencies and excise taxes for the period prior to the date of actual termination. If so, action must be taken to secure a Form 5330, Return of Excise Taxes Related to Employee Benefit Plans from the employer for the amounts due or a referral made to the EP Classification Unit.

    1. In securing, processing and, if warranted, examining Form 5330, and in requiring any necessary corrective action, the applicable procedures outlined in IRM 7.13, Employee Plans Automated Processing Procedures and IRM 4.71.1, Employee Plans Examinationof Returns, must be followed.

    2. Examine Form 5330 only if it is due to be filed. No Form 5330 should be examined without also simultaneously examining the Form 5500, Annual Return/Report of Employee Benefit Plan to which it relates. This is to assure that all issues involved in plan operation are considered before issuance of a favorable letter.

    3. Referrals should be made on Form 5666, TE/GE Information Report. See IRM 7.11.1, Employee Plans Determination Letter Program.

  4. Where the period during which minimum funding contributions must be made has not expired, ensure the contributions for the final plan year are made.

  5. Examine a copy of the document reflecting the action to terminate the plan (e.g., Board of Director’s resolution) . If this document does not accompany the application, contact the applicant and secure the document. Be alert to possible effects of backdating documents on the need for additional vesting, funding and benefit accrual prior to termination.

7.12.1.2.5  (01-01-2003)
Reason for Termination

  1. If a plan has been in existence for more than ten years, termination without a valid business reason has been held not to affect its qualification. See Reg. 1.401–1(b)(2) and Rev. Rul. 72–239, 1972–1 C.B. 107.

  2. If a plan is terminated within a few years after its adoption, there is a presumption that it was not intended as a permanent program from its inception.

    1. Unless business necessity required the termination, it may be concluded that the plan did not qualify from its inception. The business necessity for termination must have been unforeseen when the plan was adopted and not within the control of the employer. See Reg. 1.401–1(b)(2) and Rev. Rul. 69–25, 1969–1 C.B. 113.

    2. Whatever the reason given for the termination of the plan, the facts and circumstances leading to its termination must indicate the taxpayer intended that the plan be permanent.

  3. Bankruptcy, insolvency or discontinuance of the business of the employer would ordinarily be considered as prima facie evidence of such business necessity. Business necessity also includes other valid business reasons which significantly impair the attractiveness of a plan as a means of providing employee compensation. Other acceptable reasons for termination of a plan may, depending on the circumstances, include:

    1. Substantial change in stock ownership

    2. Merger

    3. Substitution of another type plan

    4. Financial inability to continue the plan

    5. Employee dissatisfaction with the plan

    6. Substantial change in the law affecting retirement plans

  4. If bankruptcy is the reason for termination, and it is determined a Form 5330 will have to be filed, notify the local insolvency group to preserve the Service’s ability to collect any excise taxes from the taxpayer. There is only a limited period during which creditors may make claims against a party filing for bankruptcy. Therefore, the notice to Collection must be given as soon as possible and must contain an estimate of the amount of the taxpayer’s excise tax liability. See IRM 5.9, Bankruptcy.

7.12.1.2.5.1  (01-01-2003)
Processing Steps

  1. Determine if the plan was terminated within a few years after its adoption.

    1. If yes, determine if it was due to business necessity within the meaning of Rev. Rul. 69–25, 1969–1 C.B. 113 and whether it was reasonably unforeseeable. Gather information regarding the status of the employer’s business and of the industry in general at the time the plan was adopted. News releases, annual reports, financial statements, balance sheets, and copies of tax returns may be helpful in establishing these facts. These facts should be compared with the situation at the time the decision was made to terminate the plan to determine if the purported reason for the termination was valid and could not have been foreseen when the plan was adopted.

    2. Consider the extent of any tax advantages the employer derived during the period of the plan’s existence.

  2. If "Adverse Business Conditions " is the reason given for termination, and it is not readily apparent why such adverse business conditions required the termination of the plan, an explanation is required to be included as part of the application. (See instructions for Form 5310.) When it is determined that adverse business conditions sufficient to warrant termination are not established by the information provided with the application, additional information needed may include:

    1. A letter from the employer explaining, in detail, the financial problem(s);

    2. Appropriate financial statements including income statements, balance sheets or copies of tax returns.

  3. When "Adoption of new, superseding plan" is given as the reason for termination, request evidence of the adoption of the new plan (e.g., Board of Director’s minutes authorizing new plan).

  4. If the "Other" option on the Form 5310 is selected, the reason for termination should be stated. For example, it is acceptable if the applicant states the "high cost of administration under ERISA" or "burden associated with frequent law changes " as a reason for termination (provided such costs or changes in the law were unforeseeable at the time of plan adoption). If appropriate, corroborating documentation should be requested.

  5. Defined benefit plans are subject to the early termination provisions of Reg. 1.401(a)(4)–5(b).

  6. Repetitive failure to make contributions in a discretionary profit-sharing plan during profitable years may indicate a lack of intent that the plan was permanent.

7.12.1.2.6  (01-01-2003)
Discontinuance of Contributions

  1. IRC section 411(d)(3) requires that, in the case of a plan to which IRC section 412 does not apply, upon complete discontinuance of contributions under the plan, the rights of all affected employees to benefits accrued to the date of such discontinuance, to the extent funded as of such date, or the amounts credited to the employees’ accounts, must be nonforfeitable. See Reg. 1.411(d)–2(a)(1)(ii).

    1. A determination that contributions have been discontinued and the date upon which such discontinuance occurred requires consideration of all the relevant facts and circumstances.

    2. A discontinuance of contributions may occur although some amounts are contributed by the employer under the plan if such amounts are not substantial enough to reflect the intent on the part of the employer to continue to maintain the plan. See Reg. 1.411(d)–2(d).

    3. If the employer has failed to make substantial contributions in 3 out of 5 years, and there is a pattern of profits earned, consider the issue of discontinuance of contributions.

  2. If the employer has failed to make significant contributions in years prior to the proposed year of termination, consider whether an earlier discontinuance has occurred.

    1. Prior to the TRA ‘86, (or if the contributions are limited to the employer’s profits), the employer must have had sufficient profits (as defined by the plan) for the years under consideration to make contributions.

    2. For plan years beginning on or after 1/1/1986, profits are no longer required for making contributions to a profit-sharing plan. See IRC section 401(a)(27).

  3. A temporary cessation of contributions in a profit-sharing or stock bonus plan may not constitute a discontinuance of contributions. However, if this becomes a discontinuance, the discontinuance becomes effective not later than the last day of the taxable year of the employer following the last taxable year of such employer for which a substantial contribution was made under the profit-sharing plan, if a single employer plan. In the case of a profit-sharing plan maintained by more than one employer, the discontinuance is effective not later than the last day of the plan year following the plan year within which the last substantial contribution was made by any employer. See Reg. 1.411(d)–2(d).

7.12.1.2.6.1  (01-01-2003)
Processing Step

  1. Generally, in a profit-sharing or stock bonus plan, if the employer has failed to make substantial contributions in 3 out of 5 years, and there is a pattern of profits earned, consider the issue of discontinuance of contributions.

    Note:

    Unless there are participants with less than 100% vesting during the years under consideration, there is no practical consequence to the discontinuance of contributions issue.

7.12.1.2.7  (01-01-2003)
Partial Terminations

  1. To constitute a qualified trust, the plan of which such trust is a part must satisfy IRC section 411.

    1. Upon a partial termination, the benefits of all affected participants accrued as of the date of the partial termination to the extent funded or the amounts credited to the participant’s account, must be nonforfeitable. See IRC section 411(d)(3).

    2. Reg. 1.411(d)–2(b) provides for a facts and circumstances test in determining whether or not a partial termination occurs. Such facts and circumstances include the exclusion of a group of employees who have previously been covered by the plan either by reason of a plan amendment or severance by the employer.

  2. When the accrual of benefits or the rate of employer contributions is reduced or the eligibility or vesting requirements under the plan are made more restrictive, facts and circumstances, other than the mere fact that benefits, employer contributions, etc. have been cut back, enter into the determination of whether there has been a partial termination. Be aware however, that such cutbacks of protected benefits may constitute violations of IRC section 411(d)(6) that must be remedied regardless of whether a partial termination has occurred.

  3. Reg. 1.411(d)–2(b)(2) sets forth an additional rule for defined benefit plans which cease or reduce future accruals. In such a case, a partial termination shall be deemed to occur if, as a result of such cessation or decrease, a potential reversion to the employer is created or increased. If no such potential for reversion is created or increased, a partial termination shall not be deemed to occur solely by reason of the cessation or decrease. Of course, a partial termination could occur because of factors other than such cessation or decrease, such as a reduction in plan participation.

  4. The potential for reversion is a factor which may also be used in considering whether there is a partial termination in defined contribution plans. Forfeitures must be reallocated but reversions may occur for amounts held in the IRC section 415 suspense accounts which may not be reallocated. See Rev. Rul. 2002–42, 2002-28 I.R.B. 76. However, in such plans, potential reversion is part of the facts and circumstances test set out in Reg. 1.411(d)–2(b)(1).

  5. Consideration of facts and circumstances in determining whether a partial termination has occurred include the exclusion of a group of employees who have previously been covered by the plan either by reason of a plan amendment or severance of employment initiated by the employer, or the reduction or cessation, of future benefit accruals under a plan that results in a potential reversion to the employer. See Reg. 1.411(d)–2(b)(2); Rev. Rul. 81–27, 1981–1 C.B. 228; and Rev. Rul. 73–284, 1973–2 C.B. 139.

  6. All participant terminations are considered employer-initiated unless the employer can provide proof that the employee terminations were voluntary or on account of death, disability or attainment of normal retirement age.

  7. The ratio of the number of employer-initiated terminations to the total number of plan participants during the applicable period is the turnover rate for the plan. See Tipton and Kalmback, Inc. v. Commissioner, 83 TC 154, 5 EBC 1976 (1984); and Weil v. Terson Co. Retirement Plan Committee, 750 F.2d 10, 5 ECB 2537 (2nd Cir. 1984).

  8. If there is a significant increase in the turnover rate for a period, or for other reasons a partial termination has occurred, and the employer failed to fully vest (to the extent funded) all affected participants upon partial termination of the plan, the plan was not qualified when it subsequently terminated.

  9. A participant that separated from service without incurring a break in service that did not receive a distribution prior to the plan terminating, must be 100% vested.

7.12.1.2.7.1  (01-01-2003)
Examples of Partial Termination

  1. Discharge by the employer of 95 of 165 participants under the plan in connection with the dissolution of one division of the employer’s business. See Rev. Rul. 81–27, 1981–1 C.B. 228.

  2. Discharge of 12 of 15 participating employees who refused to transfer to the employer’s new business location when the old location was closed. See Rev. Rul. 73–284, 1973–2 C.B. 139.

  3. Reduction in participation of 34% and 51% in consecutive years where adverse business conditions beyond the employer’s control result in participation reductions. See Tipton and Kalmbach, Inc. v. Commissioner , 83 TC 154, 5 EBC 1976 (1984).

  4. Relocation of two of an employer’s 16 divisions resulting in the termination of over 75% of the employees in the affected divisions, and termination of 27% of the total plan participants. See Weil v. Terson Co. Retirement Plan Committee, 750 F.2d 10, 5 EBC 2537 (2nd Cir. 1984).

  5. In the above situations a significant percentage of employees were, in effect, excluded from participating in the plan. There is no fixed turnover rate which determines whether a partial termination occurred, but the rate must be substantial. The facts and circumstances must be considered in each case and may include the extent to which terminated employees are replaced, and the normal turnover rate in a base period. The base period ordinarily should be a set of consecutive plan years (at least two) from which the normal turnover rate can be determined, and should reflect a period of normal business operations rather than one of unusual growth or reduction. Generally, the plan years selected should be those immediately preceding the period in question.

7.12.1.2.7.2  (01-01-2003)
Turnover Rate

  1. The turnover rate is determined by dividing the employer-initiated terminations by the sum of the total participants at the start of the period and the participants added during the period.

    1. employer-initiated terminations are generally all terminations other than those attributable to death, disability retirements and retirement at normal retirement age.

    2. In certain situations, the employer may be able to prove that other terminations were also not employer-initiated.

  2. In general, the Service’s position is that fully vested terminated employees are included in determining whether there has been a partial termination. This position was upheld in Weil v. Terson Co. Retirement Plan Committee, 82 Civ. 8468 (S.D.N.Y. 6/15/1988). Terminations are counted even if caused by an event outside the employer’s control, such as terminations due to depressed economic conditions.

  3. Additional factors bearing directly on this issue include whether:

    1. Potential for reversion has been created or increased as a result of participant turnover.

    2. The possibility for prohibited discrimination has increased.

  4. Examples of situations in which the issue of partial termination should be considered:
    Example 1: The employer ceases future accruals in a defined benefit plan at a time when the fair market value of the assets is greater than the present value of the accrued benefits for all the participants. A potential for reversion exists since any forfeitures would be likely to cause assets to further exceed the present value of accrued benefits.
    Example 2: A corporation which has a qualified profit-sharing plan decides to relocate to another state. While it offers to pay for moving expenses, the only employees who decide to move are highly compensated employees. One might conclude a partial termination has not occurred based solely on the percentage of employees affected. However, the forfeitures from the rank and file who do not move could go to the remaining participants who are highly compensated employees and, therefore, a partial termination might be deemed to occur because of the potential discrimination.

    Note:

    The issue of the possibility of reversion, prohibited discrimination, or a reduction in the number of employees covered by the plan may not, in and of itself, reflect that a partial termination has occurred. However, when these issues are considered collectively, they may interrelate in such a way as to reflect a partial termination.

  5. A defined benefit plan will be deemed by IRS to be terminated if it is considered terminated by the PBGC because it has been amended to become an individual account plan (a defined contribution plan). See Reg. 1.411(d)–2(c)(2). However, the amendment of a plan to change it into a different kind of plan, without affecting PBGC jurisdiction, does not, of itself, cause a partial termination. However, in both cases such an amendment is deemed to have the effect of a transfer of plan benefits which must satisfy Reg. 1.411(d)–4 Q&A–3.

  6. The pre-ERISA concept of "comparable plans" as expressed in Reg. 1.381(c)(11)–1(d)(4) is not applicable in determining whether a plan subject to IRC section 411(d) has been terminated or partially terminated.

7.12.1.2.7.3  (01-01-2003)
Processing Steps

  1. Determine the extent, if any, to which the terminations of employees were not employer-initiated. As to terminations which the employer claims were purely voluntary, information must be supplied by the employer which verifies that the terminations were purely voluntary. For example, such information can be gathered from annual reports and other corporate materials which indicate whether the terminations were part of a corporate event, personnel files, employee statements, etc.

  2. Determine the turnover rate and collect other relevant information. Specifically, obtain information as to the turnover rate in other years and the extent to which terminated employees were actually replaced.

  3. Consider whether the new employees performed the same functions, had the same job classification or title, and received comparable compensation. Turnover rates in excess of 20% may indicate that a partial termination has occurred but lesser rates may also constitute partial terminations where the facts and circumstances so indicate.

7.12.1.2.8  (01-01-2003)
Employer Reversion

  1. In general, no part of the corpus of the trust of a qualified plan may revert to the employer. However, a reversion may occur in a plan under certain circumstances. In the case of a multiemployer plan, reversions may occur by reason of mistakes in law or fact or return of any withdrawal liability payment. In the case of a plan other than a multiemployer plan, by reason of mistake of fact. In the event of a termination of a defined benefit plan, amounts in excess of that required to satisfy all liabilities with respect to employees and their beneficiaries may revert to the employer if such amounts are the result of an erroneous actuarial computation. See IRC section 401(a)(2) and Reg. 1.401–2.

    1. Such an amount due to an erroneous actuarial computation may arise where the value of the assets at termination exceeds the present value of plan liabilities upon termination within the meaning of IRC section 401(a)(2), and the excess value has not been the result of a change in plan provisions other than the mere termination of the plan.

    2. If in the case of an employee stock ownership plan, upon an employer reversion from a qualified plan, any applicable amount is transferred from such plan to an employee stock ownership plan described in section 4975(e)(7), such amount shall not be treated as an employer reversion (or includible in the gross income of the employer) if certain requirements are met. See IRC section 4980(c)(3).

    3. In a defined contribution plan, amounts that may not be allocated due to the limitations on contributions in IRC section 415 must revert to the employer. In addition, forfeitures in a money purchase pension plan must be reallocated to the extent permissible without violating IRC section 415. If the plan provides that forfeitures will be used to reduce future employer contributions, it first must be amended to provide for reallocation of the forfeitures in a nondiscriminatory manner. Only those amounts held in the IRC section 415 suspense account may revert to the employer. See Rev. Rul. 2002–42, 2002-28 I.R.B. 76.

  2. To reserve the employer’s right to recover a reversion of excess assets, plans that are subject to Title IV of ERISA must provide for the reversion. Any plan provision or amendment providing for a reversion or increasing the amount which may revert to the employer is not effective until the earlier of the end of the 5th calendar year following the date the plan provision was adopted or the plan’s effective date. See ERISA 4044(d).

7.12.1.2.8.1  (01-01-2003)
Processing Steps

  1. If the employer is receiving a reversion from a defined benefit plan, make sure it has been provided for under the terms of the plan for the 5 calendar years preceding the plan termination date and that it is due to an "erroneous actuarial computation" within the meaning of the regulations.

  2. If a reversion has occurred prepare an information report and forward to the Classification Unit, in Monterey Park, CA.

7.12.1.2.9  (01-01-2003)
Tax on Reversion

  1. A 50% excise tax on the amount of any employer reversion from a qualified plan is imposed on the employer maintaining the plan on account of reversions occurring after 9/30/1990. See IRC section 4980. If participants in a terminating plan are provided with additional benefits, with a replacement plan, or the employer is in bankruptcy liquidation, the excise tax is reduced to 20%.

  2. To have the 20% reversion tax rate applied to the amount of the reversion rather than the higher 50% rate, the employer must demonstrate that he/she—

    1. was in Chapter 7 bankruptcy liquidation (or similar proceeding under state law) on the date of plan termination; or

    2. amended the plan prior to termination to provide immediate pro rata benefit increases (with a present value equal to at least 20% of the amount that would have otherwise reverted) to all qualifying participants; or

    3. transferred 25% of the terminating plan’s excess assets directly to a replacement plan before any amount reverted to the employer. The amount transferred to the replacement plan should not have been included in the employer’s income, deducted by the employer, or treated as a reversion.

  3. The tax under IRC section 4980 is reported on Form 5330 and is due on the last day of the month following the month in which the reversion occurs. See IRC section 4980(c)(4).

7.12.1.2.9.1  (01-01-2003)
Processing Step

  1. If a reversion has occurred, prepare Form 5666 to alert the Management, EP Classification Unit that follow up action may be necessary, and a Form 5346, Examination Information Report, to inform the appropriate Examination function that an examination of the employer is recommended. In these reports, discuss whether the employer has included the reversion as income on the employer’s tax return for the year of the reversion and whether the employer has paid the excise tax on the reversion.

7.12.1.2.10  (01-01-2003)
Implementation Guidelines

  1. Implementation Guidelines for Termination of Defined