ABATax Employee Benefits Committee Comments

Section of Taxation
Comments from the Employee Benefits Committee

Comments Concerning Nondiscrimination Standards for Governmental Plans

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Plans Not Sponsored by Governmental Employers

The treatment of plans not sponsored by governmental employers but covering governmental employees, or employees providing services to a governmental employer, is unclear. Such plans can be sponsored either (1) by a joint board of trustees as a result of collective bargaining between a union representing governmental employees and a governmental employer or (2) by a private employer under a mandate by a governmental employer as a result of government contracting.

Plans maintained pursuant to collective bargaining are often maintained not by either the employer or the union representing the employees, but by a joint board of trustees comprised of representatives of both the employer and the union in equal number. Special rules exempt plans maintained pursuant to a collective bargaining agreement (even where the employer is a private employer) from many of the nondiscrimination rules. However, plans maintained pursuant to a collective bargaining agreement between a private employer and a union representing employees are not exempt from the Average Deferral Percentage (ADP) test (if the plan contains a cash or deferred arrangement under §401(k)) or the minimum participation standards of §410(a). Under the terms of the nondiscrimination moratorium, governmental plans are exempt from both requirements.

The DOL has opined that a governmental plan is not limited to plans established solely by governmental employers, but includes collectively bargained plans and plans jointly administered by trustees appointed by governmental entities and by labor unions if these plans were funded by the employer and covered only employees of governmental entities. The DOL has stated that governmental plan status is not "so narrow as to include only plans established by the unilateral action of employers which are governmental entities and plans which are ultimately within the exclusive control of governmental entities." 13

At least one court has held that plans established pursuant to collective bargaining between a governmental employer and a union representing governmental employees are established and maintained by a governmental employer and therefore exempt from Title I of ERISA. 14 The basis of the holding was, inter alia, the court’s belief that the legislative history of ERISA and the governmental plan exemption indicated Congressional focus on the governmental nature of public employees and public employers rather than the details of how a plan was established or maintained.

Having the same number of plan trustees represent the governmental entity as represent the union apparently is not a prerequisite for governmental plan status in the DOL’s view. 15 The key to governmental plan status appears to be whether the plan is funded by and covers only employees of governmental entities. 16

A plan can also be considered "maintained" by a governmental employer when a private employer under a mandate from a governmental employer sponsors the plan. 17 The limited PBGC guidance on the governmental plan treatment of a plan maintained at the direction of a governmental entity, but not actually sponsored by the governmental entity, focuses on whether the governmental entity is contractually required to pay benefits under the plan, including benefits that would be insured by the PBGC in the event of plan termination. 18 Maintenance of the plan under the direction of the governmental entity or the allowance of plan funding costs as a reimbursable expense under the terms of the contract is apparently not sufficient to consider a plan maintained by a private employer as a governmental plan. 19

The IRS position is that governmental plan status depends on whether the private employer is an agency of the government, and that the degree of control that the government has over the organization’s everyday operation is crucial in that regard. 20 Other factors include: (1) whether there is specific legislation creating the organization; (2) the source of funds for the organization; (3) the manner in which the organization’s trustees or operating board are selected; and (4) whether the applicable governmental unit considers the employees of the organization to be employees of the applicable governmental unit. Although all of the above factors are considered in determining whether an organization is an agency of a government, the satisfaction of one or all of the factors is not necessarily determinative. 21

Using these standards, a plan sponsored by a §501(c)(3) tax-exempt organization that was responsible for the daily operation of a municipal transit system was held to be a governmental plan. The municipal government controlled the organization’s funding and exercised substantial control over the transit operations carried out by the organization. 22 Conversely, a plan sponsored by a government contractor was determined not to be a governmental plan where the financial relationship between the private employer and the contracting governments was not significant enough for the contractor to be considered the "alter ego" of the governments. 23

This analysis is in accord with the legislative history of the governmental plan exemption from ERISA, which considers whether benefits under the plan are protected by the taxing power of a government. If the government and its taxing authority are ultimately responsible for the payment of benefits, there is no need for the protection of the plan or participants by ERISA.

The IRS should modify its existing guidance concerning when a plan sponsored by a non-governmental employer will be considered a governmental plan to consider whether the governmental employer has ultimate liability for the payment of benefits from the plan. A plan maintained under the direction of a governmental employer, such as through a collective bargaining agreement, should be considered a governmental plan as long as the governmental employer is responsible for the funding of the plan. A plan sponsored and maintained by a private employer or a tax-exempt organization should be considered a governmental plan if the government has responsibility for the payment of benefits in the event such benefits could not be paid from the plan funds.

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Plans Benefiting Governmental and Private-Sector Employees

Under existing guidance concerning Title IV, a plan that includes both government and non-government employers and employees cannot be a governmental plan, while such a plan may be a governmental plan for purposes of Title I of ERISA. It is not clear whether governmental plan status will extend to such plans for purposes of the nondiscrimination moratorium under the Code.

As a general matter, it is desirable to have rules that are consistent for all purposes of ERISA and the Code. A plan that is a governmental plan for purposes of Title I of ERISA should be considered a governmental plan for purposes of the Code and Title IV of ERISA. So far, all of the recommendations of this comment follow that precept. However, that may not be possible with respect to plans covering both governmental and non-governmental employees.

The PBGC has opined that a plan covering both government employers and private employers is not a governmental plan and, therefore, is covered by Title IV of ERISA. 24 While the ruling was clear that section 4044 would apply to the entire plan upon plan termination, it was not clear, because key portions of the ruling are redacted, whether PBGC premiums were due for the government employees.

The position of the DOL is even less clear. While the DOL has indicated that allowing employees or former employees of a non-governmental entity to participate in a plan could jeopardize governmental plan status, 25 the Department has opined that a plan would maintain its governmental plan status even though it provided benefits to a few non-governmental employees. 26 Whether this latter opinion can be read expansively is unclear, since the only non-governmental employees provided benefits under the plan were former employees of a private employer taken over by the governmental employer.

Given that a position consistent with Titles I and IV of ERISA may not be possible, the IRS should apply the governmental plan nondiscrimination exemption in a manner consistent with the Congressional intent supporting the provision. According to the legislative history, the moratorium was extended to governmental plans because of "the unique circumstances applicable to governmental plans and the complexity of compliance." 27 This indicates the moratorium should not be interpreted or applied in a narrow manner.

The inclusion of some non-governmental employees should not preclude governmental plan status for this purpose. The unique circumstances applicable to governmental plans may include allowing the participation in a governmental plan of some non-governmental employees, and the complexity of compliance for such plans is clearly not diminished by the inclusion of such participants.

A governmental employer may, for example, include in its plan employees working for a public service agency that is later determined not to be a governmental agency. Given the myriad forms of organization used by governmental and non-governmental organizations, the misclassification of an organization as a governmental agency is a potentially real scenario. The accidental inclusion of such employees should not result in the loss of governmental plan status or the application of the nondiscrimination rules to the plan.

Additionally, a governmental unit may find it necessary in order to provide needed services to constituents to include certain non-government employees in the governmental plan. In order to provide health care services to the indigent, for example, a governmental employer may have to contract with a private health care provider. Part of that contract could be the participation in the governmental plan of some of the health care provider’s employees. While the IRS might consider such a situation potentially abusive, there are legitimate reasons why a governmental employer might determine that such an arrangement is necessary to provide needed services. Even if some non-governmental employees participate in the plan, the operation and administration of the plan is still subject to all the unique circumstances and the complexity of compliance applicable to governmental plans. Such a plan should still be exempt from the nondiscrimination requirements as a governmental plan.

Fortunately, the IRS has already established a position that protects governmental plans and plan sponsors in such a situation. The IRS has taken the position that up to fifty percent of a plan’s population may be non-governmental employees without affecting the plan’s status as a governmental plan for purposes of the Tax Reform Act of 1986 effective dates and remedial amendment period. 28 This fifty percent rule is a simple rule that governmental plan sponsors could follow.

The IRS should issue guidance stating that if at least fifty percent of the participants in a plan are employees of a governmental employer, then the plan is exempt from the Code’s nondiscrimination requirements. If the IRS is unwilling to extend the fifty percent standard it has already established to the nondiscrimination moratorium, it should at least provide guidance stating that the inclusion of a de minimis number of non-governmental employees does not preclude governmental plan status. While the fifty percent standard is clearly preferable, a de minimis standard would at least provide some assurance to governmental employers that the nondiscrimination requirements will not be applied to the plan upon the inclusion of a small number of private sector employees.

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