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Part 7. Rulings and Agreements

Chapter 25. Exempt Organizations Determinations Manual

Section 9. Voluntary Employees’ Beneficiary Associations

7.25.9  Voluntary Employees’ Beneficiary Associations

7.25.9.1  (02-09-1999)
The Statute

  1. IRC 501(c)(9) exempts from Federal income tax voluntary employees’ beneficiary associations (VEBAs) providing for the payment of life, sick, accident, or other benefits to their members (or their dependents or designated beneficiaries) if no part of the net earnings inures (other than through such payments) to the benefit of any private shareholder or individual.

7.25.9.1.1  (02-09-1999)
History

  1. The predecessors of IRC 501(c)(9) were sections 103(16) of the Revenue Act of 1928 and 101(16) of the Internal Revenue Code of 1939.

    1. The law, prior to the Tax Reform Act of 1969, (TRA–69) required that 85 percent or more of the income of VEBAs be derived from amounts collected from members and, as added with retroactive effect by the Revenue Act of 1942, amounts contributed by employers.

    2. Also, prior to the enactment of the Tax Reform Act, old IRC 501(c)(10) (section 101(19) of the Internal Revenue Code of 1939) provided for the exemption of voluntary beneficiary associations composed exclusively of Federal officers and employees. See H.R. Rep. No. 855, 87th Cong. 1939–2 C.B. 504 at 508. The exemption requirements under old IRC 501(c)(10) were identical to IRC 501(c)(9) except there was no 85 percent test and membership was restricted to Federal officers and employees.

  2. With the imposition of the tax on unrelated business income on all VEBAs, Congress concluded that the 85 percent test was no longer necessary for tax-exempt status of IRC 501(c)(9) organizations and eliminated the requirement. See Senate Report No. 91–552, 91st Cong., 1st Sess. 69 (1969), 1969–3 C.B. 468. Recognizing that no substantive difference remained between IRC 501(c)(9) and old 501(c)(10), Congress combined the two categories of VEBAs into IRC 501(c)(9) effective January 1, 1970. Sec. 121, P.L. 91–172, 1969–3 C.B. 10, 40.

    1. Final regulations under IRC 501(c)(9) were published in the Federal Register on January 7, 1981 (T.D. 7750).

  3. In the Tax Equity and Fiscal Responsibility Act of 1982 (Public Law 97–248), Congress lowered the limits on amounts that could be contributed to qualified pension plans and limited the benefits that could be paid out of the plans.

    1. As a result of these restrictions, some tax practitioners began recommending that employers use VEBAs and other nonpension employee benefit organizations in order to obtain tax sheltering advantages similar to those that had existed with pension plans before 1982, but with fewer restrictions.

  4. Because Congress recognized that a potential for abuse existed, provisions of the Deficit Reduction Act of 1984 (Public Law 98–369) were enacted to provide restrictions upon employee welfare benefit plans, including VEBAs.

    1. In this legislation, IRC 505 established new nondiscrimination rules and mandatory filing requirements for organizations described in IRC 501(c)(9), effective for taxable years beginning after December 31, 1984.

    2. IRC 419 and IRC 419A provide for limits on deductibility of employer contributions to VEBA’s and to other welfare benefit plans, effective for contributions made after December 31, 1985.

    3. IRC 512(a)(3)(E) subjects income derived from contributions exceeding the account limit of IRC 419A to tax under IRC 511.

    4. IRC 4976 provides for an excise tax on disqualified benefits of VEBA’s and other welfare benefit plans.

    5. In the Tax Reform Act of 1986 (Public Law 99–514), Congress enacted IRC 89, which provided new eligibility and benefit requirements applicable to medical benefits and group-term life insurance benefits as well as to certain other benefits at the election of the employer. IRC 89 was retroactively repealed by section 202(a) P.L. 101–140 (1989).

7.25.9.2  (02-09-1999)
Exemption Requirements

  1. The regulations under IRC 501(c)(9) provide that for an organization to be a VEBA within the meaning of IRC 501(c)(9):

    1. the organization must be an association of employees;

    2. membership in the association must be voluntary;

    3. the organization’s purpose is to provide for the payment of life, sick, accident, or other benefits to its members or their dependents or designated beneficiaries, and substantially all of its operations are in furtherance of providing such benefits, and

    4. no part of the net earnings of the organization inures, other than by payment of the benefits referred to in (c), to the benefit of any private shareholder or individual.

7.25.9.2.1  (02-09-1999)
Nondiscrimination Requirements

  1. IRC 505(b) requires IRC 501(c)(9) and (20) organizations that are not collectively bargained to meet nondiscrimination requirements, effective for taxable years beginning after December 31, 1984.

7.25.9.2.2  (02-09-1999)
Notice Requirements

  1. IRC 505(c) provides that all IRC 501(c)(9), (17), and (20) organizations must file a notice (Form 1024) to be recognized as exempt.

    1. A full description of the benefits available to the participants must accompany the Form 1024, showing for each benefit the amount, duration, eligibility requirements, and the circumstances that will cause payment of the benefit. This information may be contained in a "plan document" , or in the creating document of the entity, such as the trust agreement or articles of incorporation.

    2. For benefits provided through policies of insurance, all such policies must be included. Where individual policies are provided to the participants, typical examples of the policies issued to participants are acceptable, provided that they adequately describe all forms of insurance available to participants.

    3. If an insurance policy has cash value, it must be owned in the name of the IRC 501(c)(9) organization.

  2. Organizations that fail to file the required notice within time limits prescribed in the regulations will not be recognized as exempt for any period prior to the filing of the notice. Reg. 1.505(c)–1T sets forth the filing requirements and time limits for organizations applying for exemption under IRC 501(c)(9), (17), and (20).

    1. IRC 501(c)(9) applicants that were organized on or before July 18, 1984, must apply before February 4, 1987. An organization organized after July 18, 1984, must apply for exemption within 15 months from the end of the month in which the organization was organized, or by February 4, 1987, whichever is later.

    2. An organization that files a timely notice and that otherwise meets the requirements of IRC 501(c)(9), will have its exemption recognized retroactively to the date it was organized. However, an organization that does not file a timely notice will not be recognized as exempt before the date on which its notice was filed.

  3. An extension of time for filing the required notice may be granted by the Area Manager if the request is submitted before the end of the applicable period and it is demonstrated that additional time is needed.

    1. An organization that files a late notice may be granted an extension of time pursuant to Reg. 301.9100–1. Rev. Proc. 92–85, 1992–2 C.B. 490, sets forth the information and representations that must be furnished by the organization and some factors that will be taken into consideration in determining whether such an extension will be granted.

  4. Although a properly completed and executed Form 1024 together with the required additional information must be submitted to satisfy the notice required by IRC 505(c), failure to file all of the information necessary to complete the notice will not alone be sufficient to deny recognition of exemption from the date of organization to the date of submission.

    1. If the notice filed by the organization within the required time is substantially complete, and the additional information requested by the Service to complete the notice is furnished within the time allowed by the Service, the original notice will be considered timely.

7.25.9.3  (02-09-1999)
Membership Requirements

  1. Generally, only employees are entitled to become members. In addition, eligibility for membership must be defined by reference to objective standards that constitute an employment-related common bond among such individuals.

    1. This “bond” can be a common employer, coverage under a collective bargaining agreement, or a labor union affiliation. In addition, employees of the VEBA and employees of the union whose members are members of the VEBA will be considered to share an employment related common bond.

7.25.9.3.1  (02-09-1999)
Multiple Employer Trusts

  1. Employees of unaffiliated employers engaged in the same line of business "in the same geographic locale" also share an employment-related common bond. Employers engaged in business in the same state, Metropolitan Statistical Area (MSA) or Consolidated Metropolitan Statistical Area (CMSA), are engaged in business "in the same geographic locale" within the meaning of Reg. 1.501(c)(9)–2(a)(1). A description of existing MSAs and CMSAs is published periodically by the Office of Management and Budget.

    1. Although the restriction of Reg. 1.501(c)(9)–2(a)(1) limiting multiple employer trusts to the same geographic locale was ruled invalid in Water Quality Employees’ Benefit Corp. v. U.S., 795 F. 2d 1303 (7th Cir. 1986), the Service believes that the holding is in error. A final resolution of this question awaits further litigation.

  2. A notice of proposed rulemaking was published in the Federal Register Vol. 57, 153 on August 7, 1992, in which Reg.1.501(c)(9)–2(a)(1) was revised by adding a paragraph (d) which further defines the term "geographic locale" .

    1. Reg. 1.501(c)(9)–2(d) of the regulations provides for a three-state safe harbor. An area is considered a single geographic locale if it does not exceed the boundaries of three contiguous states.

    2. The three-state safe harbor includes three states which share a land or river border with at least one of the others, such as South Carolina, North Carolina, and Virginia. Also, Alaska and Hawaii are considered contiguous to California, Oregon, and Washington for purpose of these regulations.

  3. In addition, the Service has authority to recognize an area that exceeds the three-state safe harbor if:

    1. It would not be economically feasible to establish one or more VEBAs to cover employees of employers engaged in the same line of business in fewer than three states and still be able to offer VEBA membership to all employees of employers in the covered states, and

    2. Employment characteristics in that line of business, population characteristics, or other regional factors support the particular states included.

7.25.9.3.2  (02-09-1999)
Membership and Eligibility Restrictions

  1. Reg. 1.501(c)(9)–2(a)(2)(i) provides that eligibility for membership may be restricted by geographic proximity, or by objective conditions or limitations reasonably related to employment, such as a limitation to a reasonable classification of workers, a limitation based on a reasonable minimum period of service, a limitation based on maximum compensation, or a requirement that a member be employed on a full-time basis.

    1. Eligibility for benefits may be restricted by objective conditions relating to the type or amount of benefits offered. Any objective criteria used to restrict eligibility for membership or benefits may not be selected or administered in a manner that limits membership or benefits to officers, shareholders, or highly compensated employees of an employer contributing to or otherwise funding the employees’ association.

  2. Eligibility for benefits may not be subject to conditions or limitations that have the effect of entitling officers, shareholders, or highly compensated employees of an employer contributing to or otherwise funding the employees’ association to benefits that are disproportionate in relation to benefits to which other members of the association are entitled. For example:

    1. In the case of an employer-funded organization, a provision that excludes or effectively excludes certain employees, who are members of another organization or are covered by a different plan funded by the employer, to the extent that such other organization or plan offers similar benefits on comparable terms, will be considered a reasonable restriction.

    2. The provision of life benefits in amounts that are a uniform percentage of the compensation received by the individual whose life is covered will be considered a reasonable restriction. (See Regs. 1.501(c)(9) –2(a)(2)(ii) for other examples of reasonable restrictions).

  3. The regulations provide that an employer-funded VEBA may not restrict membership or eligibility for benefits to officers, shareholders, or highly compensated employees of the employer. Additional nondiscrimination rules in IRC 505(b) apply to plans that are not collectively bargained.

  4. Reg. 1.501(c)(9)–4(b) dealing with inurement and Reg. 1.501(c)(9)–2(a)(2) dealing with membership restrictions should be considered together in dealing with disproportionate benefit problems.

7.25.9.3.3  (02-09-1999)
505(b) Nondiscrimination Requirements

  1. IRC 505(b) provides certain nondiscrimination requirements for organizations described in IRC 501(c)(9) and IRC 501(c)(20) unless they are subject to the exception of IRC 505(a)(2) for collective bargaining agreements.

  2. The 505(b) nondiscrimination requirements were enacted to ensure that highly compensated employees are not favored over other employees. Under IRC 505(b) (1), a plan will meet the requirements of IRC 505(b)(1) only if:

    1. each class of benefits under the plan is provided under a classification of employees that is set forth in the plan and that does not discriminate in favor of highly compensated individuals; and

    2. the benefits do not discriminate in favor of highly compensated individuals.

  3. While Reg. 1.501(c)(9)–2(a)(2)(i) permits an employer to use its own objective criteria under 1.501(c)(9)–2(a)(2)(i) to exclude certain employees from participation, IRC 505(b) ensures that the result of these exclusions is not discriminatory in favor of highly compensated employees. In testing to determine whether a benefit is provided on a nondiscriminatory basis, IRC 505(b)(2) permits the exclusion of certain employees from consideration for purposes of the test. These employees that need not be taken into account include:

    1. employees with less than three years of service,

    2. employees under the age of 21,

    3. seasonal and less than half-time employees,

    4. employees covered by a collective bargaining agreement, and,

    5. certain nonresident alien employees.

  4. For taxable years beginning after December 31, 1987, the Tax Reform Act of 1986 provides that the determination as to whether an individual is a highly compensated individual shall be made under rules similar to those under IRC 414(q). IRC 414(q) covers a broader range of individuals than covered by the definition of highly compensated employees under prior law. For taxable years beginning before January 1, 1997, IRC 414(q) defines "highly compensated employees" to mean employees who at any time during the year (or preceding year):

    1. were five percent owners;

    2. had compensation from the employer in excess of $75,000 (adjusted for inflation);

    3. were in the top twenty percent of employees in compensation and had compensation in excess of $50,000 (adjusted for inflation); or

    4. were officers of the employer and received compensation in excess of 50 percent of the amount in effect under IRC 415(b)(1)(A) (adjusted for inflation) for the taxable year (or preceding year).

  5. For taxable years beginning after December 31, 1996, IRC 414(q) defines "highly compensated employee" to mean an employee who, during the taxable year (or preceding year):

    1. was a 5-percent owner at any time during the year or preceding year, or

    2. (i) had compensation from the employer in excess of $80,000 (adjusted for inflation); and (ii) if the employer elects the application of this clause for such preceding year, was in the top paid group of employees for such preceding year. The top-paid group consists of the top 20 percent of employees ranked on the basis of compensation paid during the year.

    3. Inflation adjustments for the above compensation levels are published annually in the Internal Revenue Bulletin. For example, see Notice 96–55, 1996–47 I.R.B. 7, for 1997 adjustments.

  6. IRC 505(b)(3) provides that if a particular benefit is subject to the nondiscrimination requirements of another Code provision, that benefit must be tested under the requirements of the other provision rather than under IRC 505(b)(1). The following benefits must be tested under the IRC provisions noted below:

    1. Group term life insurance benefits under IRC 79;

    2. Self-insured medical benefits under IRC 105;

    3. Qualified group legal service plan benefits under IRC 120;

    4. Educational assistance benefits under IRC 127; and

    5. Dependent care assistance benefits under IRC 129.

7.25.9.3.3.1  (02-09-1999)
Nondiscrimination Safe Harbor

  1. Regulations under IRC 501(c)(9) concerning the nondiscrimination requirements of IRC 505(b) have not been published. However, it is clear from the statute that discrimination is prohibited in favor of highly compensated individuals. To allow cases to be processed until regulations are published, the Service will consider a plan that falls within certain safe harbor guidelines as meeting the nondiscrimination requirements of IRC 505(b).

    1. In testing to determine whether a plan meets the safe harbor guidelines under the nondiscrimination standards of IRC 505(b), all employee welfare benefits offered by the plan are considered.

    2. A plan will come within the safe harbor guidelines only if every plan benefit meets the specific safe harbor provisions applicable to the type of benefit offered. A VEBA will not fail to qualify merely because the part of a particular benefit that the VEBA funds is discriminatory in favor of highly compensated individuals when considered alone, provided that the benefit is offered on a nondiscriminatory basis by the plan considered as a whole.

    3. A plan will not fail the safe harbor guidelines merely because it offers a benefit that is not a permissible benefit described in Reg. 1.501(c)(9)–3 for an organization described in IRC 501(c)(9). However, such a benefit may not be funded by or through the VEBA in more than a de minimis amount. Further, the benefit must comply with all legal and administrative requirements that may be applicable to the type of benefit offered, and must further comply with the nondiscrimination safe harbor requirements applicable to benefits that are not income replacement benefits unless specific nondiscrimination rules of the Internal Revenue Code are otherwise applicable to the benefit.

  2. The safe harbor guidelines permit two or more related employers to be considered a single employer.

    1. A plan that provides benefits for employees of two or more unrelated employers will only satisfy the safe harbor guidelines if the plan is nondiscriminatory with respect to the employees of each unrelated employer considered separately.

    2. The test used to determine the particular nondiscrimination standard to be applied depends upon the type of benefit offered.

    3. For benefits that are income replacement benefits (such as disability, supplemental unemployment compensation, severance, or life insurance), see IRM 7.25.9.3.2 through IRM 7.25.9.3.4 below. For the test to be applied in the case of benefits that are not income replacement benefits (such as health, dependent care, and educational benefits), see IRM 7.25.9.3.4.3 through IRM 7.25.3.4.8.

7.25.9.3.4  (02-09-1999)
Income Replacement Benefits

  1. An income replacement benefit is a benefit that is designed to protect against a contingency that interrupts or impairs earning power. Such benefits are commonly provided as a fraction or multiple of an employee’s compensation. Examples of income replacement benefits are life insurance and death benefits, disability benefits, severance benefits, and supplemental unemployment compensation benefits. A sick pay or vacation pay benefit intended to replace earnings during the absence of an employee from work is also an income replacement benefit.

    1. Life benefits, accidental death and dismemberment benefits, severance benefits, disability benefits, supplemental unemployment compensation benefits, or other income replacement benefits may be offered as a uniform percentage of total compensation, or of the basic or regular rate of compensation, of the employees covered by the plan.

  2. An income replacement benefit that is not an employer-provided group-term life insurance benefit described in IRC 79 or that is a church plan benefit will be considered to satisfy the nondiscrimination safe harbor if:

    1. the benefit offered to each highly compensated individual does not bear a larger ratio to that individual’s compensation than the average benefit offered to lower paid employees bears to their average compensation;

    2. no employee receives a benefit the amount of which is based upon a level of compensation that exceeds $150,000 (adjusted for inflation) for plan years beginning after December 31, 1993, or that exceeds $200,000 (adjusted for inflation) for plan years beginning before January 1, 1994;

    3. the terms and conditions for eligibility are nondiscriminatory; and

    4. in the case of supplemental unemployment compensation benefits, the applicable specific nondiscrimination rules are followed.

  3. In the case of an employer-provided group term life insurance benefit described in IRC 79 (other than a church plan benefit), the rules contained in IRM 7.25.9.3.4.2 are used in lieu of these guidelines.

    1. An income replacement benefit that is offered only to highly compensated individuals, or that is in any way offered upon more favorable terms to highly compensated individuals than to lower paid employees (except as provided as no more than a uniform percentage of compensation), will not meet the nondiscrimination safe harbor even if another type of benefit is offered exclusively to lower paid employees.

    2. A plan that offers a particular benefit under terms that favor employee classifications that contain a significantly greater than proportionate percentage of highly compensated individuals, when compared to the total number of participants in the plan, will not meet the nondiscrimination safe harbor.

    3. An income replacement benefit is not normally considered to be offered at a uniform percentage of compensation for purposes of the nondiscrimination safe harbor if the percentage of compensation upon which the benefit is based increases with the participant’s length of service with the employer. However, if highly compensated individuals are not disproportionately represented in the groups with the longest period(s) of service, the benefit may nevertheless be provided under a formula that takes years of service into consideration.

    4. Certain employees may be excluded from consideration for purposes of the nondiscrimination safe harbor. Those employees that may be excluded are those listed in IRM 7.25.9.3.4.4.

  4. For purposes of the nondiscrimination safe harbor, a plan need not make a particular benefit available to all employees not otherwise excluded from consideration under the above paragraph. However, if the benefit is not made available to all such employees, the ratio of highly compensated individuals eligible to receive the benefit to the total number of highly compensated individuals who are not otherwise excluded from consideration may not exceed the ratio of lower paid employees eligible to receive the benefit to the total number of lower paid employees not otherwise excluded from consideration.

    1. To illustrate this rule, the following chart sets forth an employer’s work force where a particular benefit is offered in 1997 only to managers and drivers who are over 21 years of age and who have at least one year of service with the employer.

    2. Because employees under 21 years of age and with less than 1 year of service may be excluded from consideration, the work force that must be taken into consideration in this example is comprised only of the drivers, managers, and other employees who are over 21 and have at least one year of service. In this case, the number of highly compensated individuals eligible to receive the benefit (17) when compared to the total number of highly compensated employees not excluded from consideration (18), yields a ratio of 17/18, or 94.4%. The number of eligible lower paid employees (45), when compared to the total number of lower paid employees not excluded from consideration (82), yields a ratio of 45/82 or 54.9%. Because the ratio of eligible highly compensated individuals to the total number of nonexcludable highly compensated individuals (94.4%) exceeds the comparable ratio of lower paid eligible employees to nonexcludable lower paid individuals (54.9%), the plan does not meet the nondiscrimination safe harbor with respect to the benefit.

    Highly Compensated Lower Paid
    Under 1 year service 1 21
    Under 21 1 15
    Drivers (over 21; 1 year) 10 42
    Managers (over 21; 1 year) 7 3
    Other employees (over 21; 1 year) 1 37

7.25.9.3.4.1  (02-09-1999)
Supplemental Unemployment Compensation Benefits

  1. Supplemental unemployment compensation benefits are defined in IRC 501(c)(17)(D) as benefits paid to an employee because of his involuntary separation from employment (whether or not temporary) resulting directly from a reduction in force, the discontinuance of a plant or operation, or other similar conditions; and sick and accident benefits that are subordinate to such benefits.

    1. For purposes of the nondiscrimination safe harbor, subordinate sick and accident benefits are considered benefits that are not income replacement benefits and are consequently subject to the applicable rules with respect to non-income replacement benefits.

    2. A supplemental unemployment compensation benefit is considered to meet the nondiscrimination safe harbor if the benefit satisfies the nondiscrimination provisions of IRC 501(c)(17)(A) and (B) and the underlying regulations. These provisions allow a plan to make certain benefit reductions and to exclude employees who may receive supplemental unemployment compensation benefits from other sources.

    3. For taxable years beginning after December 31, 1986, discrimination is prohibited in favor of highly compensated employees defined in IRC 414(q).

    4. A plan that provides supplemental unemployment compensation benefits may exclude from consideration employees listed in IRM 7.25.9.3.4.4.

7.25.9.3.4.2  (02-09-1999)
Employer provided Group-term Life Insurance Benefits

  1. A life insurance benefit described in Reg. 1.501(c)(9)–3(b) is considered an income replacement benefit.

  2. An employer-provided group-term life insurance benefit described in IRC 79 is not considered nondiscriminatory unless one of the following conditions is met:

    1. the benefit is provided to 70 percent or more of all employees of the employer;

    2. at least 85 percent of all employees who are participants are not “key employees” defined in IRC 416(i); or

    3. the facts and circumstances show that the group term life insurance benefit is not offered under terms that favor employee classifications that contain a significantly greater than proportionate percentage of key employees, when compared to the total number of participants in the plan.

  3. Further, an employer-provided group term life insurance benefit must not in any way be offered upon more favorable terms to key employees than to other employees (except as provided as no more than a uniform percentage of compensation).

    1. For these purposes, it makes no difference whether the amount of life insurance coverage exceeds $50,000. Also for these purposes, and for the nondiscrimination safe harbor requirements generally, there may be excluded from consideration employees who have not completed 3 years of service, part-time or seasonal employees, employees not included because they are covered under a collective bargaining agreement under which group-term life insurance benefits were the subject of good faith bargaining with the employer or employers, and nonresident aliens with no United States source income from the employer (under IRC 861(a)(3)).

7.25.9.3.4.3  (02-09-1999)
Non-Income Replacement Benefits

  1. Benefits that are not income replacement benefits include any benefit that is not provided as a substitute for wages. Examples of such benefits include:

    • health and accident benefits;

    • vacation facilities;

    • childcare assistance and facilities;

    • recreational activities and facilities;

    • education and training expenses; and

    • personal legal service benefits.

7.25.9.3.4.4  (02-09-1999)
General Nondiscrimination Safe Harbor Requirements for Non-Income Replacement Benefits

  1. The nondiscrimination safe harbor requirements generally apply to benefits that are not income replacement benefits. However, some benefits are in full or in part tested under other nondiscrimination requirements. The following benefits are tested under other standards.

    • Self-insured medical benefits;

    • Group legal services benefits;

    • Educational assistance benefits; and

    • Dependent care assistance benefits.

  2. A benefit that is not an income replacement benefit satisfies the nondiscrimination safe harbor only if it is offered to participants in equal amounts under equal terms, eligibility requirements, and conditions, without regard to salary level, position, or ownership interest in the employer.

    1. A benefit that is not an income replacement benefit does not meet the nondiscrimination safe harbor if the terms or operation of the plan in any way provides a greater benefit for highly compensated individuals than for lower paid employees. Thus a vacation facility that is provided on a preferential basis to participants with a certain minimum period of service under the employer (except as may be excluded from consideration under paragraph (d)) will not satisfy the nondiscrimination safe harbor if highly compensated individuals are disproportionately represented in the group with the longer period of service.

  3. For purposes of the nondiscrimination safe harbor, a plan need not make a particular benefit available to all employees not otherwise excluded from consideration. However, if the benefit is not made available to all such employees, the ratio of highly compensated individuals eligible to receive the benefit to the total number of highly compensated individuals (who are not otherwise excluded from consideration) may not exceed the ratio of lower paid employees eligible to receive the benefit to the total number of lower paid employees (who are not otherwise excluded from consideration).

7.25.9.3.4.5  (02-09-1999)
Health and Accident Benefits

  1. The nondiscrimination safe harbor rules for non-income replacement benefits are applicable to all health and accident benefits except self-insured medical reimbursement benefits.

  2. A plan that includes a self-insured medical reimbursement benefit must meet one of the following eligibility requirements as set forth in Reg. 1.105–11(c)(2):

    1. the plan must actually cover at least 70 percent of all employees;

    2. at least 70 percent of employees must be eligible for coverage of which at least 80 percent must actually be covered; or

    3. the classification test of Reg. 1.105–11(c)(2)(ii) is satisfied. Generally, this requires an analysis under 1.410(b)–4.

  3. A self-insured medical reimbursement plan must meet the nondiscriminatory benefits requirements of Reg. 1.105–11(c)(3). These requirements will not be met unless all benefits provided for participants who are highly compensated (or their dependents) are provided for all other participants (or their dependents) on the same basis.

    1. There may be excluded from consideration employees described in Reg. 1.105–11(c)(2)(iii). The term “highly compensated individuals” is defined in Reg. 1.105–11(d).

7.25.9.3.4.6  (02-09-1999)
Group Legal Services Benefits

  1. Group legal services benefits are tested for nondiscrimination under the rules of IRC 120 for years beginning before July 1, 1992. IRC 120 does not apply to taxable years beginning after June 30, 1992. Group legal services benefits provided as a result of collective bargaining are not subject to the nondiscrimination rules of IRC 505 (b)(1). See also, IRM 7.25.19 (Qualified Group Legal Services Plans).

7.25.9.3.4.7  (02-09-1999)
Educational Assistance Benefits

  1. Educational assistance benefits are tested for nondiscrimination under IRC 127. In the past, this provision was under frequent threat of termination. Under Pub. L. No. 107-16, IRC 127 is under no threat of termination until taxable years beginning after December 31, 2010.

    1. Standards for determining discrimination requirements for purposes of the nondiscrimination safe harbor before June 1, 1997, are provided in Reg. 1.127–2(e).

    2. Discrimination is prohibited in favor of highly compensated employees described in IRC 414(q).

    3. No more than 5 percent of the amounts paid or incurred by the employer for educational assistance during the year may be provided for the class of individuals who are shareholders or owners (or their spouses or dependents), each of whom on any day of the year owns more than 5 percent of the stock or profits interest in the employer.

    4. IRC 127 excludes post-graduate educational assistance. Post-graduate educational assistance is treated as a benefit to which the nondiscrimination rules of IRC 505(b) apply.

7.25.9.3.4.8  (02-09-1999)
Dependent Care Assistance Benefits

  1. Dependent care assistance benefits are tested for nondiscrimination as to eligibility requirements under the provisions of IRC 129(d). Rules similar to those in effect applicable to educational assistance benefits under IRC 127 are used to determine whether the nondiscrimination requirements of IRC 129(d) are met. IRC 129 has no termination provision. Consequently, the nondiscrimination standards of IRC 505(b)(1) and the nondiscrimination safe harbor for non-income replacement benefits will not be applicable to dependent care assistance benefits.

    1. The rules and definitions applicable to the class of persons against which discrimination is prohibited, and the employees that may be excluded from consideration, are the same as those applicable to educational assistance benefits described in IRC 127.

7.25.9.4  (02-09-1999)
Employee Defined

  1. Reg. 1.501(c)(9)–2(b)(1)) defines the term "employee" broadly. A person is considered to be an employee if that person first becomes entitled to participate in the association by reason of being an employee. Thus, a person and the dependents of a person may receive benefits even though the person is on a leave of absence, working temporarily for another employer or as an independent contractor, or terminated from employment by reason of retirement, disability, or layoff.

    1. Further, because it is consistent with exemption for a plan to provide benefits to retired employees, an organization will not be disqualified from exemption merely because it provides benefits only to retirees, if such benefits are merely a continuation of benefits that have been provided to those employees while they were actively employed.

    2. It is permissible to have non-employee members if at least 90% of the total membership of the association on one day of each quarter of the association’s taxable year consists of employees, and the non-employee members share an employment related bond with the employee members. Such individuals may include, for example, the proprietor of a business whose employees are members of the association.

    3. The surviving spouse and dependents of an employee are "employees" if they are considered to be members of the association. Thus, if the surviving spouse and dependents meet this condition they will not be subject to the 10% limitation on non-employees.

7.25.9.5  (02-09-1999)
Voluntary Defined

  1. The regulations require that the VEBA must be an entity having an existence independent of the member-employees or their employer(s), and that it be controlled by either its membership, by independent trustees, or by trustees or other fiduciaries some of whom are designated by the membership.

    1. A financial intermediary such as a bank, acting in a fiduciary capacity, generally will be considered to be an independent trustee.

    2. A VEBA will also be considered to be controlled by independent trustees if it is an “employee welfare benefit plan” as defined in section 3(1) of the Employee Retirement Income Security Act of 1974 (ERISA) and, as such, is subject to the requirements of Parts 1 and 4 of Subtitle B, Title 1 of ERISA.

  2. Under section 3(1) of ERISA the term “employee welfare benefit plan” means any plan established or maintained by an employer or by an employee organization, or by both, for the purpose of providing for its participants or their beneficiaries, through the purchase of insurance or otherwise:

    1. medical, surgical, or hospital care or benefits, or benefits in the event of sickness, disability, death or unemployment, or vacation benefits, apprenticeship or other training programs, or day care centers, scholarship funds, or prepaid legal services, or;

    2. any benefit described in section 302(c) of the Labor Management Relations Act of 1947 (other than pensions on retirement or death, and insurance to provide such pensions).

  3. Section 302(c) of the Labor Management Relations Act of 1947 does not apply to any employee welfare benefit plan if:

    1. such plan is a governmental plan (as defined in section 3(32) of ERISA);

    2. such plan is a church plan (as defined in section 3(33)) with respect to which no election has been made under IRC 410(d);

    3. such plan is maintained solely for the purpose of complying with applicable workmen’s compensation laws or unemployment compensation or disability insurance laws;

    4. such plan is maintained outside of the United States primarily for the benefit of persons substantially all of whom are nonresident aliens; or

    5. such plan is an excess benefit plan (as defined in section 3(36) of ERISA and is unfunded.

  4. Thus, the vast majority of employee welfare benefit plans would meet the control requirement by coming under section (3)1 of ERISA. However, in Lima Surgical Associates v. U.S., 20 Ct.Cl. 674, 90-1 USTC ¶ 50329 (1990), affirmed on other grounds, 944 F.2d 885 (Fed. Cir. 1991), the court found that an organization was neither independently controlled nor an employee welfare benefit plan under section (3)1 of ERISA. Because the organization paid a benefit upon retirement it was considered to be a pension plan rather than an employee welfare benefit plan.

  5. An association will be considered to be controlled by its membership if it is controlled by one or more trustees designated pursuant to a collective bargaining agreement (whether or not the bargaining agent of the represented employees bargained for and obtained the right to participate in selecting the trustees). (See Reg. 1.501(c)(9)–8 for the effective date of these provisions).

7.25.9.6  (02-09-1999)
Permissible Benefits

  1. IRC 501(c)(9) organizations can provide life, sick, accident, and other benefits to members, their dependents, and designated beneficiaries. Dependents include a member’s spouse, his or her minor children, children who are students, other minor children living with the member. Dependents also include any other individual who an association, relying on information furnished to it by a member, in good faith believes is a person described in IRC 152(a).

    1. The regulations provide that substantially all of an IRC 501(c)(9) organization’s operations must be in furtherance of providing permissible benefits. This means that while an organization may provide some nonqualifying benefits, it will not qualify for exemption if it systematically and knowingly provides nonqualifying benefits of more than a de minimis amount.

7.25.9.6.1  (02-09-1999)
Life Insurance Benefits

  1. Life benefits are benefits payable on the lives of a member or a member’s dependents. The regulations permit the payment of benefits that are either furnished pursuant to a contract of insurance with a life insurance company or paid directly by the VEBA.

  2. The regulations require that "life benefits" consist of current protection only, and generally do not permit various forms of "permanent" life insurance contracts. There are three exceptions to this general rule.

    1. A VEBA may provide to a participant in a group life insurance contract a certificate of eligibility for individual coverage without evidence of insurability on termination of the member’s relationship with the association.

    2. "Life benefits" generally include any "permanent benefit" provided in the manner prescribed in the regulations under IRC 79. This is relevant to employer-funded organizations and permits, to the extent provided in the regulations under IRC 79, the provision of permanent benefits, the cost of which is required to be included currently in the gross income of the employee.

    3. A VEBA that is funded with employee, rather than employer, contributions generally may offer "life benefits" that involve permanent protection. Where permanent benefits are allowed, cash surrender and policy loan benefits are permitted as these are commonly provided in permanent life insurance contracts.

  3. The regulations permit settlement of a life insurance policy in the form of an annuity where the treatment of the annuity is the same as if the annuity had been taken in lieu of a lump sum, that is, where the interest element in the periodic annuity payment is includable in the recipient’s gross income.

  4. The Joint Committee on Taxation Explanation to the Deficit Reduction Act of 1984 indicates that life insurance benefits may not be integrated with social security benefits for purposes of meeting nondiscrimination requirements.

7.25.9.6.2  (02-09-1999)
Sick and Accident Benefits

  1. The term "sick and accident benefits" means amounts furnished to or on behalf of a member or a member’s dependents in the event of illness or personal injury. These benefits may be provided through reimbursement for amounts paid by a member or through the payment of premiums to a medical benefit or health insurance program. (See Reg. 1.501(c)(9)–3(c)).

7.25.9.6.3  (02-09-1999)
Other Benefits Defined

  1. The regulations provide that "other benefits" are those that are similar to life, sick, and accident benefits. A benefit is similar if:

    1. It is intended to safeguard or improve the health of a member or a member’s dependents, or

    2. It protects against a contingency that interrupts or impairs a member’s earning power.

7.25.9.6.4  (02-09-1999)
Specific Other Benefits

  1. In addition to the benefits described in the paragraphs below, examples of other benefits include vacation pay and facilities, child care payments and facilities and subsidizing recreational activities.

    1. The regulations permit benefits in the form of temporary living expense loans at times of disaster, such as fire or flood, but do not allow such organizations to provide loans to members in the ordinary course of a banking or financing business.

    2. The regulations provide that job readjustment allowances may be paid as an example of a benefit provided to protect against a contingency which interrupts earning power, as it allows a worker to bridge the period between jobs without the loss of income.

    3. Supplemental unemployment compensation benefits are permitted and are defined in IRC 501(c)(17)(D)(i).