By Alison J. Cohen, Esq.

On October 2, 2024, the Internal Revenue Service (“IRS”) released Notice 2024-73 (the “Notice”) providing guidance regarding the implementation of the long-term, part-time (“LTPT”) employee rules for 403(b) plans.  The LTPT rules apply only to 403(b) Plans that are covered under the Employee Retirement Income Security Act of 1974, as amended (“ERISA”), so non-ERISA 403(b) plans can stand down and pay no attention to this brewing nightmare.  (Remember:  although deferral-only 403(b) plans may be subject to ERISA, any 403(b) plan that has employer contributions is subject to ERISA unless it is a governmental plan or a nonelecting church plan.)

Let’s Start at the Top

The SECURE 2.0 Act of 2022 (“SECURE 2.0”) section 125 created the requirement that ERISA 403(b) plans that allow elective deferrals must permit employees who are at least age 21 and work 500 hours of service in two consecutive years to make elective deferrals to the plan.  These rules are similar to those that apply to 401(k) plans.  But unlike 401(k) plans, which had to implement these rules in 2024 – if not sooner – and finally received the proposed regulations on November 27, 2023 (a mere month before required compliance), this guidance gives service providers and plan sponsors a full quarter (insert sarcastic tone here) to make adjustments and prepare for implementation on January 1, 2025.

Just like the 401(k) LTPT rules, the law does not require that the employer make any contributions on behalf of an employee who enters a 403(b) plan solely because of the LTPT eligibility requirements.  Similar to the 401(k) LTPT rules, the 403(b) plan sponsor may elect to exclude LTPT employees from the application of nondiscrimination testing.  There is also no escaping the horrific 500 hours of service vesting requirement for LTPT employees.  The only difference with both eligibility and vesting from the 401(k) rules is that 403(b) plans disregard 12-month periods beginning before January 1, 2023, while 401(k) plans disregard periods beginning before January 1, 2021.

Permissive Exclusions for 403(b) Plans

The Notice provided some key guidance regarding a 403(b) plan’s ability to have, or retain, traditional excluded classifications, such as part-time employees that normally work fewer than 20 hours (the “part-time employee exclusion”) and student employees.

There is always a catch, and the permission to retain the part-time employee exclusion in an ERISA 403(b) plan is conditioned on the requirement that, should such a part-time employee attain age 21 and complete the two consecutive years with 500 hours of service, the employee must be treated as an LTPT employee and permitted to make elective deferrals.  The Notice explicitly clarified that this differing treatment of part-time employees would not violate the consistency requirement under Treasury Regulations section 1.403(b)-5(b)(4)(i).

Example:  Friendly Charity sponsors a calendar year 403(b) plan, under which all employees can defer, except employees who normally work fewer than 20 hours per week and who do not satisfy the LTPT rules. Bob and Barbara (both over age 20) are hired January 1, 2024, and neither is expected to work 1,000 hours per year. The plan excludes them both from deferring.  Bob works 400 hours each year, and never enters the plan. Barbara works 600 hours in 2024 and 550 hours in 2025.  She becomes an LTPT employee on December 31, 2025, and becomes eligible to defer January 1, 2026.  At that point, the plan will credit her with two years of service for vesting.

Student employee exclusions, to the contrary, may remain intact and would NOT be subject to the LTPT employee requirements.  The reason for the difference between the 20-hour rule and the student-employee exclusion is that the student employee exclusion is based on a classification and not on service.  The IRS has taken the position that the LTPT rules do not apply to employees excluded under most classifications, but exclusions based on time worked do not prevent the employees from entering under the LTPT rules.

Applying LTPT Rules to Employer Contributions

ERISA 403(b) plans, just like a 401(k) plan, may exclude LTPT employees from receiving employer contributions and from certain nondiscrimination requirements, including the ACP test, coverage testing under Code Section 410(b), and nondiscrimination testing under Code Section 401(a)(4).  Should a plan sponsor have a safe harbor formula in its ERISA 403(b) plan to satisfy Code section 401(m)(2), in accordance with 401(m)(11) and (12), it would also be permitted to exclude LTPT employees from the safe harbor contributions.

Should an LTPT employee satisfy the plan’s eligibility requirements and become a former LTPT (lovingly called a “Flat Pat” by our nerd herd), the employee will become eligible to receive all employer contributions just like other participants and be included in the nondiscrimination testing.  (This should all be starting to sound familiar.)

Comments Requested and 401(k) Teaser

If anyone wants their voice to be heard in the finalization of these rules, comments are due to the IRS by December 20, 2024.

The Notice also left a small Easter egg for the 401(k) community indicating that the IRS is working on final regulations to be released in the coming year, which will apply no earlier than to plan years that begin on or after January 1, 2026.  Anyone want to start a Vegas betting line on when those will be released?

Form 5500:  Ogden Is at it Again

Unrelated to the Notice and LTPTs, once again, it appears that the IRS processing center in Ogden, UT is making a mess of things.  We have received reports from service providers that some of their plan sponsor clients have received penalty notices for timely filed Forms 5500.  Additionally, for the third year in a row, plan sponsors are also getting notices claiming that the Form 5558 was received late, even though they have proof of timely delivery.  The IRS has yet to publish the annual mea culpa notice, but that has historically come out in November.

Take a breath.  Assure your clients that the IRS is mistaken and be sure to assist them in preparing a written response to the IRS at Ogden and send via Certified Mail, along with the IRS notice received.  We have also recently been told that the Ogden fax processing group is nearly 12 weeks behind in logging correspondence received via facsimile.  So, Certified Mail is recommended.

If you, or your client, needs any assistance with the LTPT regulations or the insanity at Ogden, always remember that we are your ERISA Solution!  Give us a call.