New IRS guidance on long-term, part-time employees in defined contribution plans

On November 24, 2023, the Internal Revenue Service (IRS) released a proposed regulation related to long-term, part-time (LTPT) employee rules for cash or deferred arrangements (CODA) under section 401(k). The regulation is proposed to apply to plan years that begin on or after January 1, 2024, and may be relied on until further guidance is published. LTPT employee eligibility requirements were first established under section 112 of the Setting Every Community Up for Retirement Enhancement Act of 2019 (SECURE Act) and later modified under sections 125 and 401 of the SECURE 2.0 Act of 2022 (SECURE 2.0).

Qualified retirement plans generally cannot require employees to complete a period of service that extends beyond the later of the date on which they attain age 21 or complete one year of service (at least 1,000 hours during a 12-month period) to begin plan participation. The SECURE Act expanded this eligibility requirement for 401(k) plans to include special requirements for LTPT employees. SECURE 2.0 made changes to shorten the initial LTPT eligibility requirements and expanded them to include 403(b) plans.

LTPT employees must be allowed to participate in the plan if they meet the eligibility requirements outlined below. However, employers are not required to make nonelective or matching contributions to these individuals even if such contributions are made to other eligible employees. Employers may also elect to exclude LTPT employees from all coverage and nondiscrimination testing,¹ and from top-heavy vesting and minimum benefit requirements. Plans that permit catch-up and Roth elective contributions are not required to provide such options to LTPT employees when the nondiscrimination testing exception applies.

Who are LTPT employees?

LTPT employees are employees who are eligible to participate in a qualified CODA solely by reason of completing the applicable number of consecutive 12-month periods with at least 500 hours of service and attaining age 21 by the end of the last 12-month period. Of note:

• For plan years beginning prior to January 1, 2025, the applicable number of 12-month periods is three (disregarding 12-month periods beginning before January 1, 2021).
• For plan years beginning after December 31, 2024, the applicable number of 12-month periods is two.

The eligibility requirements above apply regardless of the employer’s classification of the employee (e.g., temporary, seasonal) unless they are covered by a collective bargaining agreement or are nonresident aliens. However, if an employee meets different participation requirements than those specified above (e.g., the employee works at least 1,000 hours in a 12-month period or participates in the plan immediately), they would not be considered an LTPT employee because they did not become eligible to participate in the CODA “solely” by reason of the period defined above.

A plan may impose additional conditions to the LTPT eligibility requirements (for example, job classification) as long as these extra conditions do not have the effect of an age or service requirement and do not extend the minimum participation date beyond the maximum allowable period of the earlier of age 21 or the completion of one year of service (at least 1,000 hours during a 12-month period) or the LTPT period defined above. However, any employees who would otherwise become eligible to participate under the LTPT definition above but who are not eligible due to the added requirements by the plan must be included in the plan’s nondiscrimination and coverage testing and top-heavy minimum benefits.

Who are former LTPT employees?

If an employee becomes eligible to participate in the qualified CODA portion of the plan under the LTPT definition above, but later ceases to be a LTPT by working at least 1,000 hours in a 12-month computation period, they will become a former LTPT (FLTPT) employee at the beginning of the plan year following the period in which the 1,000 hours were met. Employer elections to exclude LTPT employees from the nondiscrimination and coverage testing and top-heavy benefit provisions do not apply to FLTPT employees. Therefore, FLTPTs must be included in these going forward, even if such employees later complete one or more 12-month periods with at least 500 (but fewer than 1,000) hours of service.

Crediting service for LTPT employees

The proposed regulation describes the date(s) when LTPT employees can begin participating in the plan, acceptable methods for crediting service, and how the 12-month periods may be determined. The 12-month period used for eligibility purposes could be different from the 12-month period used for vesting. Of particular note:

• The plan may use the same entry date rules for LTPT employees as it uses for other eligible employees.
• The elapsed time method of crediting service (measuring the period of time elapsed during employment, not counting hours of service) cannot be used for purposes of the definition of an LTPT employee because it does not count the number of hours completed in a 12-month period.
• If an “hours equivalency” method is used to count hours of service for purposes of the LTPT employee definition, the proposed regulation does not reduce the customary required number of hours that must be credited under the plan’s applicable equivalency method (e.g., 10 hours for a day, 45 hours for a week, 95 hours for a semi-monthly payroll period, or 190 hours for a month), irrespective of part-time status.
• Plans can shift the 12-month determination period from the employee’s anniversary year to the plan year within the initial 12-month period for purposes of the LTPT employee definition. This could result in a potential overlap between the initial 12 months of employment and the plan year. In such cases, employees who work at least 500 hours (but fewer than 1,000) in each 12-month period will have completed two consecutive 12-month periods for purposes of plan eligibility.

Comments on the proposed rule are due by January 26, 2024. A public hearing will be held on March 15, 2024, for individuals who request to speak by January 26, 2024.

Please contact your Milliman consultant to discuss how these LTPT rules may impact your plan(s).

¹ The LTPT exclusion does not apply to nonelective and matching contributions for SIMPLE 401(k) plans.