IRS Revenue Ruling
1998-30

 Code Sec. 401

Status: Amplified & Superseded by 2000-8


<<FULL TEXT>>

26 CFR 1.401(k)-1: Certain cash or deferred arrangements.

Qualified cash or deferred arrangement; participation. This revenue
ruling describes certain criteria that must be met before an employee's
compensation can be contributed to an employer's section 401(k) plan in
the absence of a affirmative election by the employee.


REV. RUL. 98-30

ISSUE

Will employer contributions to a profit-sharing plan fail to be
considered elective contributions, within the meaning of section
1.401(k)-1(g)(3) of the Income Tax Regulations, made under a qualified
cash or deferred arrangement, within the meaning of section 401(k) of the
Internal Revenue Code, merely because they are made pursuant to an
arrangement under which, in any case in which an employee does not
affirmatively elect to receive cash, the employee's compensation is
reduced by a fixed percentage and that amount is contributed on the
employee's behalf to the plan?


FACTS

Employer X maintains Plan A, a profit-sharing plan intended to satisfy
the requirements of section 401(a), including sections 401(k) and 401(m).
Under Plan A, any employee of Employer X, including an employee with less
than one year of service, may elect to have Employer X make contributions
on the employee's behalf to Plan A in lieu of receiving that amount as
cash compensation that would otherwise be payable to the employee. The
employee may designate the amount of these compensation reduction
contributions as a percentage of the employee's compensation, subject to
certain limitations set forth in the plan.

Under Plan A, a newly hired employee is immediately eligible to
participate in Plan A. If the employee does not affirmatively elect to
receive cash or have a specified amount contributed to Plan A, his or her
compensation is automatically reduced by 3 percent and this amount is
contributed to Plan A. An election not to make compensation reduction
contributions or to contribute a different percentage of compensation can
be made at any time. The election is effective for the first pay period
and subsequent pay periods (until superseded by a subsequent election) if
filed when the employee is hired or if filed within a reasonable period
thereafter ending before the compensation for the first pay period is
currently available. Thus, if an employee files an election to receive
cash in lieu of compensation reduction contributions and the election is
filed when the employee is hired or within a reasonable period thereafter
ending before the compensation is currently available (and if the employee
does not later elect to have compensation reduction contributions made),
then no compensation reduction contributions for the first pay period are
made on the employee's behalf to Plan A. Elections filed at a later date
are effective for payroll periods beginning in the month next following
the date the election is filed.

At the time an employee is hired, the employee receives a notice that
explains the automatic compensation reduction election and the employee's
right to elect to have no such compensation reduction contributions made
to the plan or to alter the amount of those contributions, including the
procedure for exercising that right and the timing for implementation of
any such election. The employee is subsequently notified annually of his
or her compensation reduction percentage and the employee's right to
change the percentage.

Plan A provides that compensation reduction contributions are
immediately nonforfeitable and, if the employee has not attained age 59'%,
cannot be distributed prior to the employee's retirement, death, or
separation from service except in the case of hardship (as defined in the
plan). Plan A also provides that, for each employee who has at least 1
year of service, Employer X will make matching contributions to Plan A on
account of the employee's compensation reduction contributions up to a
specified percentage of the employee's compensation. Plan A does not
permit after-tax employee contributions.

Plan A provides that both matching contributions and compensation
reduction contributions will be invested in accordance with the
participant's election among a broad range of investment funds held by the
trustee or, if no investment election is made by the participant, in the
trust's balanced fund which includes both diversified equity and fixed
income investments. <<ENDNOTE 1>>


LAW AND ANALYSIS

Section 401(k) provides that a profit-sharing or stock bonus plan, a
pre-ERISA money purchase plan, or a rural cooperative plan can meet the
requirements of section 401(a) even if it includes a qualified cash or
deferred arrangement. Section 401(k) also sets forth the requirements that
a cash or deferred arrangement must satisfy in order to be a qualified
cash or deferred arrangement.

Section 1.401(k)-1(a)(2)(i) defines a cash or deferred arrangement as
an arrangement under which an eligible employee may make a cash or
deferred election with respect to contributions to, or accruals or other
benefits under, a plan that is intended to satisfy the requirements of
section 401(a). Section 1.401(k)-1(a)(2)(ii) provides that a cash or
deferred arrangement does not include an arrangement under which amounts
contributed under a plan at an employee's election are designated or
treated at the time of contribution as after-tax employee contributions.

Section 1.401(k)-1(a)(3)(i) defines a cash or deferred election as any
election (or modification of an earlier election) by an employee to have
the employer either provide an amount to the employee in the form of cash
(or some other taxable benefit) that is not currently available or
contribute an amount to a trust (or provide an accrual or other benefit)
under a plan deferring the receipt of compensation. Section
1.401(k)-1(a)(3)(iv) provides that a cash or deferred election does not
include a one-time irrevocable election, made at the time an employee
commences employment with the employer or upon the employee's first
becoming eligible under any plan of the employer, to have contributions
made by the employer on the employee's behalf to the plan (or to any other
plan of the employer) equal to a specified amount or percentage of the
employee's compensation.

Section 1.401(k)-1(e)(2) provides generally that a qualified cash or
deferred arrangement must provide that the amount that each eligible
employee may defer as an elective contribution is available to the
employee in cash.

Section 1.401(k)-1(g)(3) defines elective contributions as employer
contributions made to a plan that were subject to a cash or deferred
election under a cash or deferred arrangement. Such contributions are
elective contributions without regard to whether the cash or deferred
arrangement is a qualified cash or deferred arrangement.

The definition of a cash or deferred election in section
1.401(k)-1(a)(3)(i) requires that the employee have an election between
the employer paying cash (or some other taxable benefit) to the employee
or making a contribution to a trust on behalf of the employee. The
regulation does not require that the employee receive an amount in cash in
any case in which the employee does not make an affirmative election to
have that amount contributed to the trust. Thus, a cash or deferred
election will not fail to be made under a qualified cash or deferred
arrangement merely because, when an employee fails to make an affirmative
election with respect to an amount of compensation, that amount is
contributed on the employee's behalf to a trust, provided that the
employee had an effective opportunity to elect to receive that amount in
cash. The employee has an effective opportunity to elect to receive an
amount in cash as required under section 1.401(k)-1(a)(3)(i) if the
employee receives notice of the availability of the election and the
employee has a reasonable period to make the election before the date on
which the cash is currently available.

If Plan A were to permit after-tax employee contributions, then the
amounts contributed to the plan would have to be designated or treated, at
the time of the contribution, as pre-tax compensation reduction
contributions or after-tax employee contributions.

Compensation reduction contributions made by Employer X to Plan A
(including those made if the employee has not filed an election to the
contrary) are amounts contributed pursuant to a procedure under which the
employee receives a notice explaining his or her rights to have no
compensation reduction contribution and, after receiving the notice, the
employee has a reasonable period before the cash is currently available in
which to elect to receive the cash in lieu of having an employer
contribution made to the plan in that amount. Thus, an eligible employee
has an effective opportunity to elect to receive cash or have a
contribution made to the plan on the employee's behalf. In addition,
compensation reduction contributions made under the plan are not
contributions made pursuant to a one-time irrevocable election because the
employee can change the election in the future. Consequently, the
compensation reduction contributions under Plan A are made pursuant to a
cash or deferred election and satisfy the requirement in section
1.401(k)-1(a)(3)(i) that the amount that each eligible employee may defer
as an elective contribution be available to the employee in cash. The
result would be the same if the plan required a period of service
(permitted under section 401(k)(2)(D)) before an employee became eligible
for elective contributions.


HOLDING

Where, as in this case, an eligible employee has an effective
opportunity to elect to receive cash or have that amount contributed by
the employer to a profit-sharing plan, those employer contributions made
on the employee's behalf to the plan in lieu of receipt of cash
compensation will not fail to be considered elective contributions within
the meaning of section 1.401(k)-1(g)(3) made under a qualified cash or
deferred arrangement within the meaning of section 401(k) merely because
they are made pursuant to an arrangement under which, in any case in which
an employee does not affirmatively elect to receive cash, the employee's
compensation is reduced by a fixed percentage and that amount is
contributed on the employee's behalf to the plan.


PAPERWORK REDUCTION ACT

The collection of information contained in this revenue ruling has been
reviewed and approved by the Office of Management and Budget (OMB) in
accordance with the Paperwork Reduction Act (44 U.S.C. 3507) under control
number 1545-1605.

An agency may not conduct or sponsor, and a person is not required to
respond to, a collection of information unless the collection of
information displays a valid OMB control number.

The collection of information in this revenue ruling is in the sixth
paragraph in the section headed "LAW AND ANALYSIS." This information is
required in order for certain employee elections to meet the requirements
of section 401(k). The collection of information is required to obtain a
benefit. The likely respondents are businesses or other for-profit
institutions, and not-for-profit institutions.

The estimated total annual reporting burden is 1,000 hours. The
estimated annual burden per respondent is 1 hour. The estimated number of
respondents is 1,000.

Books or records relating to a collection of information must be
retained as long as their contents may become material in the
administration of any Internal Revenue law. Generally, tax returns and tax
return information are confidential, as required by 26 U.S.C. 6103.


DRAFTING INFORMATION

The principal author of this revenue ruling is Roger Kuehnle of the
Employee Plans Division. For further information regarding this revenue
ruling, call the Employee Plans Division's taxpayer assistance telephone
service at (202) 622-6074/6075 (not toll-free numbers) between 1:30 and
3:30 p.m. Eastern Time, Monday through Thursday.


<<ENDNOTES>>

1/ The Department of Labor has advised Treasury and the Service that,
under Title I of the Employee Retirement Income Security Act of 1974
(ERISA), fiduciaries of a plan must ensure that the plan is administered
prudently and solely in the interest of plan participants and
beneficiaries. While ERISA section 404(c) may serve to relieve certain
fiduciaries from liability when participants or beneficiaries exercise
control over the assets in their individual accounts, the Department of
Labor has taken the position that a participant or beneficiary will not be
considered to have exercised control when the participant or beneficiary
is merely apprised of investments that will be made on his or her behalf
in the absence of instructions to the contrary. See 29 CFR section
2550.404c-1 and 57 FR 46924.

<<END RULING>>
 

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