McKay Hochman - Commentary

The fourth in our series of articles on the final 401(k) regulations focuses on the aggregation and disaggregation of plans.

Aggregation and Disaggregation Rules of the 401(k) Final Regulation
The aggregation and disaggregation rules for cash or deferred arrangements (CODAs) are found in Treasury Regulation 1.401(k)-1(b)(4). The final regulations consolidate the rules regarding identification of CODAs and plans for purposes of demonstrating compliance with the requirements of section 401(k). Paragraph (b)(4) of the final regulations contains the exclusive rules for aggregating and disaggregating plans for cash or deferred arrangements. This article provides a review of this section of the final regulations (with the exception of the Qualified Separate Line Of Business (QSLOB) and collectively bargained rules which will be in a later article).

Aggregation of cash or deferred arrangements within a plan .
All CODAs included in a plan are treated as a single CODA and a plan must apply a single ADP test with respect to all such arrangements within the plan (other than the exceptions listed below). For example, if two groups of employees are eligible for separate CODAs under the same plan, all contributions under both CODAs must be treated as made under a single CODA subject to a single test, even if they have significantly different features, such as different limits on elective contributions.

Aggregation of plans
In general , for purposes of this regulation, the term plan applies after application of the mandatory disaggregation rules, and the permissive aggregation rules, as modified by below. Thus, for example, two plans that are treated as a single plan pursuant to the permissive aggregation rules are treated as a single plan for purposes of sections 401(k) and (m).

Plans with inconsistent ADP testing methods .
After the application of the aggregation and disaggregation rules, a single testing method must apply with respect to all CODAs under a plan. However, in applying the permissive aggregation rules, an employer may not aggregate plans that apply inconsistent testing methods. For example, a plan that applies the current year testing method may not be aggregated with another plan that applies the prior year testing method. Similarly, an employer may not aggregate a plan using the ADP safe harbor provisions and another plan that is subject to the ADP test.

Disaggregation of plans and separate testing
If a CODA is included in a plan that is mandatorily disaggregated for coverage, the CODA must be disaggregated in a consistent manner.

For example, a CODA that allows employees to participate before they have met the section 410(b)(1) minimum age and service requirements must be treated as two separate arrangements, one comprising all eligible employees who have met the age and service requirements and one comprising all eligible employees who have not met the age and service requirements. This disaggregation is required unless the plan performs the ADP test using all of the HCEs and only NHCEs who have satisfied age and service (as permitted in §1.401(k)-2(a)(1)(iii)(A)).

Example 1. Otherwise excludable

(i)

Employer B maintains Plan W, a profit-sharing plan that includes a cash or deferred arrangement in which all of the employees of Employer B are eligible to participate. For purposes of applying the coverage test, the Employer treats the cash or deferred arrangement as two separate plans, one for the employees who have met the minimum age (21) and service (1,000 hours within 12 months) eligibility conditions and the other for employees who have not met those conditions. The plan provides that it will satisfy the section 401(k) safe harbor requirements for those employees who have met the minimum age and service conditions and that it will perform ADP testing for those employees who have not met the minimum age and service conditions.

(ii)

Based on that election, the 401(k) plan must be disaggregated on a consistent basis with the disaggregation of Plan W. Thus, the ADP test must be applied for the applicable year by comparing the ADP of eligible HCEs who have not met the statutory minimum age and service conditions with the ADP for eligible NHCEs for the applicable year who have not met the statutory minimum age and service conditions.

Restructuring prohibited
Restructuring, i.e. breaking one plan into two or more component plans, may not be used to demonstrate compliance with the requirements of section 401(k). Restructuring (under Section 1.401(a)(4)-9(c)) permits the employer to select any group of employees and provided the group meets the nondiscimination testing and coverage testing, the group(s) created by the employer pass. This type of restructuring is not permitted with a CODA.

Modifications to section 410(b) rules
ESOP and Non-ESOP portion of plan may be aggregated for ADP/ACP testing but not for coverage.
The final regulations eliminate the mandatory disaggregation of the ESOP and non-ESOP portions of a 401(k) plan for purposes of ADP and ACP testing. In addition, the final regulations will allow an employer to permissively aggregate two section 414(l) plans, i.e., one that is an ESOP and one that is not. However, plan coverage testing would still be subject to mandatory disaggregation for ESOPs and non-ESOPs.

This is an important change because currently the contributions by HCEs to the employer’s 401(k) plan and 401(k) ESOP must be aggregated and tested for both plans while contributions by the nonhighly compensated employees (NHCEs) do not. Under the final regulations, aggregation of both the ESOP 401(k) portion of the plan and the 401(k) portion is permitted which would bring NHCEs into the total test with the HCEs.

Example 2. ESOP and non-ESOP plan
Employer C maintains Plan X, a stock-bonus plan that includes an ESOP. The plan also includes a cash or deferred arrangement for participants in the ESOP and non-ESOP portions of the plan.

According to the final regulations (paragraph 1.401(k)-1(b)(4)(v)(A)), the ESOP and non-ESOP portions of the stock-bonus plan are treated as a single cash or deferred arrangement for all 401(k) purposes. . However, the ESOP and non-ESOP portions of the plan must still satisfy coverage requirements separately.