January 5, 2021

Partial Plan Termination Relief

Last March & April, we notified our Plan Sponsors that there could be an inadvertent consequence from the many layoffs & furloughs we saw happening.  Under normal rules, if an employer experiences a significant reduction in workforce due to business reasons, they may be required to escalate the plan’s vesting schedule to 100% vesting for participants who separate from service in that year.  This comes under the IRS rules for a partial plan termination.  The general rule of thumb for this escalation in vesting occurs when 20% or more of the plan’s participants are terminated in a plan year, unless the plan sponsor’s normal turnover is greater than that threshold.  What this could mean is that any participant who was not back to work by year-end and who had taken a distribution of his or her partially vested account, would be due a restoration of their forfeited amount and a subsequent additional payment. 

One small part of the massive most recent COVID-relief legislation concerns this issue specifically for plan sponsors impacted by the pandemic.  It provides a temporary rule preventing partial plan termination and eliminates the requirement for full vesting in a year that would have otherwise resulted in that requirement.

With so many businesses suffering economic loss as a result of the COVID-19 pandemic, the Consolidated Appropriations Act, 2021, which was signed into law on Dec. 27, 2020, includes a temporary rule preventing certain partial plan terminations.  Specifically, the legislation provides the following:

A plan shall not be treated as having a partial termination (within the meaning of 411(d)(3) of the Internal Revenue Code of 1986) during any plan year which includes the period beginning on March 13, 2020, and ending on March 31, 2021, if the number of active participants covered by the plan on March 31, 2021 is at least 80 percent of the number of active participants covered by the plan on March 13, 2020.  

The legislation was designed to acknowledge that an employer might need to lay off a significant percentage of its staff for a brief period, but plan to rehire once the economic crisis passed. Because of the new legislation, there would be no partial plan termination if the active participant count as of March 31, 2021, is at least 80% of the active participant count on March 13, 2020 (the date the national emergency was declared). 

The percentage is based on the total number of active participants, thus the 80% does not have to be comprised of the same participants that were initially terminated. However, if there are eligibility conditions that would delay plan entry for new employees beyond the March 13, 2021 date, then a partial plan termination could actually occur if the 80% threshold is not met as of that date.

In view of the continued economic uncertainty, it is likely that we will see further guidance on this legislation prior to March 13th.  If you have specific questions on this issue, please consult with your Plan Administrator, who can help determine your options and the most appropriate course of action to help you protect the tax qualification of your retirement plan.