Any year can be an unpredictable one for your business, not just 2020. Significant corporate events, such as an economic downturn or an office or plant closure, could also coincide with layoffs of a significant percentage of workers. So, what qualifies as a partial retirement plan termination, and what should you be communicating with your firm administrator?

What triggers a partial plan termination?

Imagine this scenario: You have full-time employees on a 401(k) plan, and you run into a bad year for your business. If you experience significant layoffs of employees (say, this year, due to COVID-19), depending on how many you have, it may qualify as a partial plan termination.

More than 20% of plan participants were laid off in a given year

The IRS considers the plan to be partially terminated if over 20% of your plan participants were laid off in a given year. While the term sounds scary, what it means is that participants didn’t leave on their own – they were terminated from the plan. Because of this, they are subject to accelerated vesting for each plan.

What may happen due to a partial plan termination?

In a normal scenario, if an employee left their job, they would only be entitled to the amount vested by the matching plan commensurate with the number of years they worked and the percentage that was vested by then. However, in a partial plan termination, the employee is entitled to all contributions at the fully vested amount, since leaving was not under their control. All contributions become vested at 100% immediately.

Some employees, upon receiving these funds, may roll them over immediately into an IRA. If you, as an employer, are not communicating with your record keeper or firm administrator, they may start dispersing funds inappropriately. And if you don’t do this right, it can be a costly error.

Communicate with your plan administrator after major personnel changes

Remember, without communicating with your plan administrator, they might not know during the year if you’re having events that would trigger a partial plan termination. They are generally not actively getting participant counts from clients and not actively asking about layoffs, terminations, furloughs, etc. Because of this, employers or plan sponsors have to be proactive.

If you’re an employer and have had terminations or a group of layoffs, contact your plan administrator and tell them what’s happening. Let them know how many are involved. Administrators can determine whether it counts as a partial plan termination – while the general calculation is 20%, you should rely on firm administrators to do the calculation for you (this is something we would leave up to the administrator and not do for our clients).

Who shouldn’t worry about partial plan termination?

If your plan does not include an employer contribution, you do not have to worry about partial plan terminations. It does not apply to you. However, for any other plan that involves employer contributions subject to vesting, if you have had significant layoffs, this is something you need to explore.

Have more questions? Contact a member of your Chortek team today or send us a message.