SOLUTIONS IN A FLASH – RETIREMENT PLAN CORRECTION SOLUTION:
Gru’s Nefarious Transition Period

By: Carolyn Cumbee, Esq.

Felonious Gru owns 100% of Criminal Masterminds, Inc., a super-villain consulting company that assists villains with their various types of evil plans. Recently, Gru has been considering expanding into the villain weaponry industry (considering he loves a good freeze ray) and thinks it could be another service to provide to his villain clientele. As luck would have it, Gru’s friend and colleague, Dr. Nefario, has decided to retire from the business. Dr. Nefario approaches Gru about selling his villain weaponry business, Super Villain Supplies. Because neither patience nor due diligence is his strong suit, Gru jumps on the chance and quickly acquires 100% of the stock of Dr. Nefario’s business. Gru doesn’t really consider the ramifications of the acquisition on his current business, since he intends to operate the two companies as completely separate entities.

Since 2010, Gru has offered a 401(k) plan to help his minions save for retirement. (After all, you can’t be a minion forever.) He has a local third-party administrator (“TPA”), Lucy Wilde, providing administrative services for his 401(k) plan. On the annual data collection form for 2024, Gru notices a glaring question about the acquisition and/or ownership of other businesses. He realizes at that moment that he should probably let his TPA know about his new business venture. Then panic sets in….. Since the acquisition was done in February 2024, Gru fears this is going to be a huge problem for his plan. He knows enough about the administration of his plan to suspect that he has to cover a certain number of the acquired employees. With trepidation, Gru calls Lucy to see what the damage will be. Gru’s trusty TPA informs him that this may not be an immediate problem.

The Transition Period

Internal Revenue Code (the “Code”) §410(b)(6)(C) provides a grace period called the “Transition Period” when a business purchase or sale occurs. This grace period allows entities involved in a business transaction time to assimilate the new entity and staff before requiring them to cover newly acquired employees in the retirement plans. This means the Transition Period could permit two retirement plans to operate separately for a limited period of time without having to worry about covering enough employees in each plan. The Transition Period runs from the date of the transaction until the last day of the plan year following the year in which the transaction occurred. Since Gru’s acquisition of Super Villain Supplies occurred during 2024, the Transition Period runs until the last day of the 2025 plan year, or December 31, 2025, for the Criminal Masterminds 401(k) Plan.

Transactions such as an acquisition of stock, acquisition of assets, or merger of entities all qualify under this rule, provided the transaction involves a change in the members of the group of employers aggregated under the Code. We will refer to these as §410(b)(6)(C) Transactions.

Related entities under the Code’s controlled group or affiliated service group rules are considered to be the same Employer for plan purposes. Therefore, all employees under related entities are considered when performing coverage testing. Gru’s acquisition of 100% of Super Villain Supplies constitutes an acquisition that caused Criminal Masterminds and Super Villain Supplies to be a brother-sister controlled group under the Code. (If Criminal Masterminds owned Super Villain at the end of the acquisition, that would be a parent-subsidiary controlled group (or Master-Minion relationship).)

Lucy reminds Gru that in order to use the Transition Period, the plan must have passed §410(b) coverage testing immediately prior to the acquisition. This isn’t a problem for Gru, since all his minions in Criminal Masterminds were eligible to participate in the 401(k) plan before the acquisition and no one was excluded.

During the Transition Period, a plan must operate according to its terms. Therefore, if the plan terms automatically include the acquired group, the employees of the acquired entity must enter the plan when they have met the eligibility requirements. The Transition Period doesn’t permit a Plan Administrator to ignore plan terms but rather provides a grace period for coverage testing. So, a Plan Administrator must review the plan terms as of the acquisition to determine if the acquired employees are excluded from entry during the Transition Period. This isn’t automatically true for all plan documents.

It is a good thing that Gru’s TPA had the forethought to consider this for its clients. The pre-approved plan document for the Criminal Masterminds 401(k) Plan specifically excludes employees acquired in a §410(b)(6)(C) Transaction during the Transition Period, even though the plan document otherwise includes all related entities automatically. This provision allows Gru to exclude the Super Villain Supplies employees from the plan until 2026, while he figures out what he wants to do with benefits. Had this exclusion not been in the document, the Transition Period would not have saved Gru from having issues for the 2024 plan year.

But couldn’t Gru just amend the Criminal Masterminds 401(k) Plan to exclude Super Villains, if the Plan didn’t already do so? No. Any significant amendment to the Plan during the Transition Period, particularly one that changes the covered employees, causes the Transition Period to end, and coverage must be met in the normal fashion. (Because it’s only amendments during the Transition Period that cause a problem, and the Transition Period begins on the date of the transaction, employers who understand the rules and have foresight may be able to amend their plan before the transaction to exclude acquired employees during the Period.)

Lo and behold, Dr. Nefario drops the bomb (the non-villain kind) that he has been maintaining a SIMPLE IRA for the Super Villains employees for the last few years. Gru is worried that this blows up his plan’s use of the Transition Period for the Criminal Masterminds 401(k) Plan. Not so! The Transition Period applies separately to each plan. So, even if there was a problem with the SIMPLE, the 401(k) Plan would not be affected.

Lucy requests to review the SIMPLE IRA and finds that the SIMPLE IRA was not drafted on IRS Model Form 5304, which would provide that all employees of any related entity under the Code are eligible to participate. Instead, the SIMPLE IRA provides a two-year grace period for employees acquired through a §410(b)(6)(C) Transaction, which applies to SIMPLE IRA plans if the plan document permits. Luckily for Gru, Lucy finds that the SIMPLE IRA may operate separately (and not include the Criminal Masterminds employees) until at least the expiration of the two-year grace period or until Criminal Masterminds either terminates or also adopts the SIMPLE IRA as an adopting employer. (And, since SIMPLEs must be the exclusive plan of an employer once this period ends, terminating the SIMPLE makes the most sense.)

More About Amendments

After his conversation with his TPA, Lucy, Gru realizes he wants to make some changes to the Criminal Masterminds 401(k) Plan. He now has a bigger employee base to consider, so he wants to add eligibility requirements, as well as allocation conditions to receive the employer non-elective contributions. Gru wants these changes to be made before the Super Villain Supplies employees enter the plan. Lucy informs him that he can’t make those changes now without affecting the Transition Period. As discussed above,  §410(b) terminates the Transition Period if there is a significant plan amendment. If a plan’s terms are amended, the Plan must comply with §410(b) as of the date of the amendment. Under the Code, regulations, and other guidance, the amendment must be “significant” to terminate the Transition Period.  Therefore, name changes or other cosmetic modifications are of no consequence, while amendments to benefit or allocation formulas are generally significant.

After speaking with his TPA, Gru feels much better. Effective January 1, 2026, he has a plan to terminate the SIMPLE and amend the Criminal Masterminds 401(k) Plan to better suit his growing evil empire and additional minion employees.

If you or your client are contemplating a business purchase or sale, now is the time to get advice about the plan. If you have questions about the Transition Period, or anything else for the Plan, call us!  After all, we ARE your ERISA solution!

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