On October 2, 2024, the IRS released Notice 2024-73, which gave us long awaited guidance on the interplay between the historically permitted exclusions from participation available to 403(b) plans and the LTPT rules scheduled to become effective on 1/1/2025 for 403(b) plans covered by ERISA. This guidance corroborates many of our predictions in our original blog The LTPT Rules and 403(b) Plans and completes the picture with guidance about what exclusions are still permitted, despite the LTPT rules.
The LTPT Rules
The SECURE 2.0 Act of 2022 (“SECURE 2.0”) made the LTPT rules applicable to 403(b) plans effective on January 1, 2025. Specifically, ERISA 403(b) plans must permit employees who are at least age 21 and work 500 hours of service for two consecutive years to contribute elective deferrals to the plan. However, LTPT employees do not have to become eligible for the employer contributions. For that reason, 403(b) plan sponsors will likely elect to exclude LTPT employees from discrimination testing applicable to employer contributions.
Since the LTPT rules become effective on January 1, 2025, calendar year 403(b) plans can disregard service before January 1, 2023 for the identification of LTPT employees. For 401(k) plans, service before January 1, 2021 can be disregarded because the LTPT rules became effective in 2023.
Since SECURE 2.0 said the LTPT rules would apply to 403(b) plans, nonprofit organizations have been wondering how the LTPT rules would impact the 403(b)-specific exclusions that have been available to their plans. Could they continue to exclude student employees and employees who normally work less than 20 hours per week? Yes and No…..
Part-Time Employees Can be Out, Until They Work Their Way In
Employees who work less than 20 hours per week can continue to be excluded from the plan until they meet the LTPT eligibility requirements. Once they attain 21 and complete two consecutive years with 500 hours of service, they become an LTPT employee permitted to make elective deferrals, and we know from our previous blog post Are your Part Time Employees “In or Out” OR “In and Out”?, once the employees are in the plan, they are always in the plan, (OIAI), even if their hours drop back down below 500 per year. It’s also important to remember that the vesting clock does not start upon the achievement of the eligibility criteria, such that an excluded employee who becomes an LTPT employee on 1/1 will have two years of vesting credit, one for each of the two consecutive years with 500 hours of service.
Student Employees Can be Excluded: Out!
The LTPT rules do not apply to student employees, because the exclusion is based on an employment classification and not on service. For 401(k) plans, the IRS has taken the position that the LTPT rules do not apply to employees excluded under most classifications, but exclusions based on time worked do not prevent the employees from entering under the LTPT rules.
LTPT Employees Can Still be Excluded from the Employer Contribution and Testing
ERISA 403(b) plans can exclude LTPT employees from the employer contributions and the related nondiscrimination testing, such as the ACP test, the 410(b) coverage test, and the 401(a)(4) nondiscrimination testing. Even safe harbor plans do not have to make a safe harbor contribution to LTPT employees.
Once In, Always In (OIAI)
Once a permissibly excluded part-time employee meets the LTPT requirements, they become eligible for the employer contribution if they meet the eligibility criteria. Because of the OIAI rules, even if the LTPT employees drop below the required 500 hours that gained them eligibility, they don’t lose the eligibility to make elective deferrals, but they may not have the requisite number of hours to receive an employer contribution. When it comes to LTPT eligibility to defer, 403(b) plans are like the Hotel California, they can check out of the hour commitment, but they can never leave the plan unless they terminate employment or die. Like diamonds, LTPT employees are forever, or ‘til death or termination do us part.
