IRS Private Letter Ruling Allows Employer to Increase Plan Design Flexibility

The Internal Revenue Service recently approved a private letter ruling to an anonymous employer that allows its employees to elect where they would like that employer’s nonelective contributions to employee accounts to be allocated.

While this ruling only applies to the employer that requested this design, it could serve as an example for other employers who wish to implement a similar matching structure, according to plan consultants at Willis Towers Watson, which served as the unnamed company’s strategic adviser. Other employers interested in pursuing a similar choice program would need to seek their own PLR to get approval.

The unnamed employer, which WTW declined to name, requested the PLR to provide eligible employees with a choice to make an annual irrevocable election before the start of each year to direct employer funds to be dispersed either to the employee’s 401(k) plan, a retiree health reimbursement arrangement, an educational assistance program or the employee’s health savings account.

The IRS approved that eligible employees would make their election during open enrollment. If no election is made by the employee, the employer contribution would automatically be made to the employee’s 401(k) plan. The employer would be required to make the employer contribution in accordance with the employee’s election by March 15 of the following year.

In addition, the employer proposed to amend its educational assistance program to provide student loan payments if an employee designates the employer contribution to the educational assistance program. According to the PLR, this would allow for student loan payments—through December 31, 2025—to be paid directly to employees for any qualified education loans.

The IRS also clarified that the proposed amendments do not allow the employer contribution to be paid in cash (or some other taxable benefit) or made to a plan that defers the receipt of compensation.

Benefits of Flexibility

WTW, in addition to advising the company on the IRS request, assisted with developing the plan design.

Chris West, the defined contribution strategy leader at WTW, says employees at the company will now be able to divide up the nonelective employer contribution how they choose. For example, they could designate 50% of the employer contribution to their 401(k) and the other 50% toward their student loan balance.

She explains that if an employee elected the contribution to go toward their student loans and they ultimately are paid off, the contributions would then default to the participant’s 401(k) account.

West says many employers that WTW works with have shown interest in creating a more flexible plan design, but they are often limited by the legal, compliance, tax and administrative challenges associated with an “employee choice” program.

“We believe that this [PLR] is really groundbreaking, because it is about flexibility and choice,” West says. “This employer has received approval to do that, so down the road if other employers want to do the same thing or a version of it, the flexibility and choice is there. They just need to figure out what their ultimate design would look like.”

She adds that other organizations may offer different benefits than this particular company, so they could potentially set up allocations of employer dollars to different buckets than the ones chosen in this ruling.

“From a financial well-being and resilience perspective, this actually could be really advantageous.” West says. “If I’m paying off my student loan today with my own dollars, and I’ve elected for my employer contribution to go toward my student loan debt, perhaps maybe I then take my own dollars and redirect them to other debt I have that I wasn’t able to really tackle before. Now I’m paying off both [loans] and helping my overall financial resilience.”

Katie Bjornstad Amin, a partner at Groom Law Group that worked on the PLR with this employer, says since the PLR has come out, several employers have asked about implementing similar arrangements. She says employers are realizing that when serving employees of all ages, participants have different preferences. Some younger employees, for example, may prefer extra contributions to go toward student loan payments, as opposed to retirement savings.

Administrative, Compliance Considerations

West notes that there are still feasibility and cost considerations for employers looking to implement this or a similar design.

For example, according to WTW, allowing employees to choose where employer dollars are allocated will lead to non-uniform employer contributions to the DC plan, HSA, retiree HRA and educational assistance plan. As a result, WTW recommended modeling the effect of the choice program on nondiscrimination testing results based on the employer’s specific employee demographics, plan provisions, existing elections and expected participant choice behavior.

Alexander Olsen, a partner in Wagner Law Group, says an employer would need to make sure it is tracking the different contributions it provides and that the employer is keeping them separated, especially so employee contributions do not become taxable.

“That would cause a problem that would not be passed by the IRS,” Olsen says. “It’s important for the administrator of the plan to go ahead and track those employer contributions and ensure they remain categorized as such so that when they are paid out, they don’t all of a sudden become taxable because of the election factor.”

In addition, the design would add complexity to plan administration. WTW pointed out that the election would require cooperation across multiple vendors, and employees would need to ensure employees are not making excess contributions above HSA or education assistance plan limits. For instance, the HSA limit is $4,300 for individual coverage and $8,550 for family coverage, so contributions cannot exceed those totals.

The employer in the PLR included safeguards so that employees who elect to have the employer contribution go into the HSA are not eligible to make pre-tax payroll contributions to the HSA until after March 15, when the choice contribution is funded, according to Olsen. Similarly, employees who elect to have the employer contribution used for student loan repayments are not eligible to receive other benefits from the educational assistance program until after March 15.

Olsen adds that a change in plan design like this would require an amendment to the plan documents, followed by a distribution of summary material modifications to plan participants.