IRS Update on Partial Terminations

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Ernie Guerriero, CLU®,ChFC®,CEBS,CPCU®,CPC®,CMS,AIF®,RICP®,CPFA

On August 3, 2020, the IRS released its Coronavirus-related relief for retirement plans and IRAs questions and answers which can be found at ir.gov/newsroom/coronavirus-related-relief.  It addressed a question on partial termination in Q&A #15. The IRS provides the question:  “Are employees who participated in a business’s qualified retirement plan, then laid off because of COVID-19 and rehired by the end of 2020, treated as having an employer-initiated severance from employment for purposes of determining whether a partial termination of the plan occurred?”

The IRS’ answer:  “Generally, no. Subject to the facts and circumstances of each case, participating employees generally are not treated as having an employer-initiated severance from employment for purposes of calculating the turnover rate (Rev. Rul. 2007-43) used to help determine whether a partial termination has occurred during an applicable period, if they’re rehired by the end of that period. That means participating employees terminated due to the COVID-19 pandemic and rehired by the end of 2020 generally would not be treated as having an employer-initiated severance from employment for purposes of determining whether a partial termination of the retirement plan occurred during the 2020 plan year.”

It appears as outlined under this guidance; the IRS will not deem a partial termination to have occurred if a plan sponsor rehires terminated employees before the end of 2020.

Some observation on this guidance. 

It would appear the plan administrator (usually the employer) must provide evidence that the turnover rate was not caused by an employer-initiated severance from employment (i.e., severance was voluntary and should not be included in the turnover rate) in order to rebut the presumption of partial termination. The more facts a plan administrator can detail and record within its personnel files to rebut this presumption, the best prepared they would be in the event of any questions from the IRS.  As with any decision, it is important for the plan administrator to diligently describe and document the underlying reasons for each employee termination that occurs and the circumstances surrounding each termination.  Also, worth noting, voluntary terminations would not be included when calculating the numerator (for the turnover rate) when determining a partial termination, the plan administrator should work to establish a record of facts that supports each voluntary termination. The more facts that a plan administrator can provide when questioned, the less likely the IRS would recast the voluntary termination as an involuntary termination under a constructive discharge theory. The IRS has indicated that an “employer’s intent, working conditions and the reasonably foreseeable impact of the employer’s conduct on the employees are factors in evaluating a constructive discharge.”

Although this guidance is helpful for employers that rehire employees by the end of 2020, it remains critical for employers to review their plans to determine if a partial termination has occurred and to clearly document and/or record the underlying facts that explain why each employee terminated their employment to accurately determine their turnover rate within the applicable period. Plan sponsors and administrators are encouraged to carefully consider all of the relevant facts and circumstances and seek the advice of their tax and/or legal counsel before deciding whether or not a partial termination has occurred.

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