IRS rules for exclusion of part-time employees from 403(b) plan participation
Universal Availability Rule
In general, pre-tax salary reduction deferrals and Roth 403(b) contributions are subject to the “Universal Availability Rule,” under Internal Revenue Code Section 403(b)(12)(A). The Universal Availability Rule is satisfied only if the 403(b) plan permits every eligible employee (subject to limited exceptions) to have the opportunity to make deferral contributions of at least $200 annually.
In order to satisfy the Universal Availability Rule, at least once each plan year a 403(b) plan sponsor must provide every eligible employee with a notice informing them of:
- the opportunity to make or change deferral contributions elections
- the time for making those elections
- the maximum amount permitted, and
- any additional conditions on those elections.
One of the permissible exclusions to the Universal Availability Rule is the category of employees who normally work less than 20 hours per week. If a 403(b) plan document permits this exclusion, it must apply the rule equally to all employees. In other words, a 403(b) plan sponsor is not permitted to apply the "less than 20 hours per week" exclusion to one group of employees, but not to another group of employees.
Under the final 403(b) regulations issued in 2007, the IRS provided that an employee is considered to work fewer than 20 hours per week only if:
- For the 12-month period beginning on the date the employee’s employment began, the employer reasonably expects the employee to work fewer than 1,000 hours of service in such period; and
- For each plan year ending after the close of the 12-month period beginning on the date the employee’s employment commenced (or, if the plan provides, each subsequent 12-month period), the employee worked fewer than 1,000 hours of service in the preceding 12-month period.
When the IRS issued Revenue Procedure 2013-22, which opened a pre-approval program for 403(b) plans and included sample language that could be leveraged by filers seeking IRS approval of a 403(b) plan document it clarified the "less than 20 hour per week" exclusion by stating:
“Once an Employee becomes eligible to have Elective Deferrals made on his or her behalf under the Plan under this standard, the Employee cannot be excluded from eligibility to have Elective Deferrals made on his or her behalf in any later year under this standard.”
This means, under the “less than 20 hours per week” exclusion, if an employee completes 1,000 hours of service in any year, then the employer must allow that individual to participate in the 403(b) plan in any later year, regardless of the number of hours of service that individual subsequently completes. This is known as the “once in, always in” rule. That is, the only way that an employee could be excluded as having worked fewer than 20 hours per week is if that employee never completes at least 1,000 hours of service in any year. The following is an example:
- ABC School’s 403(b) plan document excludes employees from making elective deferrals if the employee works fewer than 20 hours per week.
- Ms. Y, a teacher at ABC school, is hired and is not permitted to participate in the ABC 403(b) plan in the year of her hire since she is reasonably expected to complete less than 1,000 hours of service per year. However, in the year of hire, Ms. Y completes 1,050 hours of service.
- Since Ms. Y completed more than 1,000 of service in her first year at ABC school, she must be permitted to make elective deferrals to the ABC 403(b) plan in all subsequent years, regardless of the number of hours she subsequently performs under the “once in, always in” rule.
- Additionally, ABC School must remember to provide Ms. Y, as an eligible employee, with the annual Universal Availability Notice informing her of the opportunity to participate in the school’s 403(b) plan.
If a plan sponsor has elected the “less than 20 hour per week” exclusion in its 403(b) plan document but fails to administer the provision in accordance with IRS guidance, then the plan sponsor would need to correct the failure. The IRS offers a 403(b) Plan Fix-it Guide that walks through correction methods for common mistakes made by 403(b) plan sponsors, including the failure to properly include all eligible employees for the purposes of making pre-tax salary reduction deferrals and Roth 403(b) contributions. The following is a link to the section in the Guide on correcting the mistake of excluding otherwise eligible employees from 403(b) plan participation:
If a 403(b) plan sponsor believes that it is improperly excluding eligible employees from participating in their 403(b) plan, the sponsor should work with their legal counsel to correct the mistake in accordance with IRS guidance under one of the IRS correction programs.
IRS Circular 230 Disclosure. Any tax discussion contained in this communication was not intended or written to be used, and cannot be used by the recipient or any other person, for the purpose of avoiding any Internal Revenue Code penalties that may be imposed on such person. Any tax discussion contained in this communication was written to support the promotion or marketing of the transactions or matter discussed herein. Any taxpayer should seek advice based on the taxpayer's particular circumstances from an independent tax advisor. Neither Voya Financial® or its affiliated companies or representatives offer legal or tax advice. Please seek the advice of a tax attorney or tax advisor prior to making a tax-related insurance/investment decision.