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On November 24, 2023, the Internal Revenue Service (IRS) released a proposed regulation that provides long-awaited guidance regarding the SECURE Act’s long-term part-time (LTPT) employees rules for 401(k) plans. The rules require employers to let LTPT employees join their 401(k) plan, regardless of the plan’s normal eligibility requirements. The LTPT rules take effect January 1, 2024. They are complicated. Employers with part-time employees need to prepare now.
The LTPT rules will only affect 401(k) plans whose eligibility requirements require employees to complete at least 500 hours of service in a 12-month period to participate. 401(k) plans that require fewer hours - or none at all - will never produce a LTPT employee, making the new rules moot.
Given the complexity of the LTPT rules, employers with part-time employees should consider liberalizing their plan’s eligibility requirements if they might produce an LTPT employee in 2024 or beyond. Here's what employers need to know.
Background
All 401(k) plans have eligibility requirements that define when employees can join. The maximum allowed by law is the later of 1) age 21 or 2) completion of a 12-month period during which the employee has at least 1,000 hours of service. The 1,000 hours of service requirement can make plan participation impossible for part-time employees, regardless of their length of service.
The LTPT rules are designed to help more part-time workers to save for retirement, while not affecting a plan’s nondiscrimination testing. The trade-off? LTPT employees are subject to special eligibility, testing, and vesting requirements that their employer would need to account for during annual plan administration.
Who is an LTPT Employee?
LTPT employees are SOLELY eligible for a 401(k) plan due to the LTPT rules. To meet LTPT standards, an employee must complete the applicable number of consecutive 12-month periods in which they perform at least 500 hours of service and attained age 21 by the close of the last 12-month period. The applicable number is based on whether the SECURE 1.0 or 2.0 LTPT rules apply:
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- SECURE 1.0 rules – the applicable number of 12-month periods is three. These rules are effective for plan years beginning on or after January 1, 2024,
- 12-month periods beginning before January 1, 2021 are disregarded for this purpose.
- SECURE 2.0 rules - the applicable number of 12-month periods is reduced to two. These rules are effective for plan years beginning on or after January 1, 2025
- SECURE 1.0 rules – the applicable number of 12-month periods is three. These rules are effective for plan years beginning on or after January 1, 2024,
The first 12-month computation period must commence on the employee’s date of hire. Employers can base future computation periods on employee anniversaries or the plan year. Switching the computation period to the plan year usually results in some overlap between the first and second years.
Are LTPT Employees Excludable?
Yes. Under the IRS’ proposed regulation, LTPT employees who are part of an excluded job class remain excludable if the exclusion is not a proxy for impermissible age or service requirements.
What Plan Entry Dates Apply to LTPT Employees?
401(k) plans must define the dates an employee can enter after meeting any age or service requirements. These plan entry dates apply to LTPT employees too.
How Do the LTPT Rules Affect Contributions?
LTPT employees must be allowed to contribute pre-tax elective deferrals up to the 402(g) limit, but that is it. LTPT employees can be prohibited from making catch-up and/or Roth contributions and/or receiving employer contributions – including safe harbor contributions.
How Do the LTPT Rules Affect Nondiscrimination Testing?
Under the IRS’ proposed regulation, employers can elect to exclude LTPT employees from the coverage and ADP/ACP, and 401(a)(4) nondiscrimination tests.
If a 401(k) plan is top heavy, employers can elect to exclude to exclude LTPT employees from the required minimum contribution.
How Do the LTPT Rules Affect Safe Harbor Status?
A 401(k) plan won’t lose its safe harbor status merely because the employer elects to exclude LTPT employees from safe harbor contributions. LTPT employees excluded from safe harbor contributions are not subject to the safe harbor notice requirements.
How Do the LTPT Rules Affect Vesting?
401(k) participants are only entitled to the vested portion of their account when they take a distribution. While elective deferrals and non-QACA safe harbor contributions are always 100% vested immediately, other employer contributions can be subject to a vesting schedule based on the employee’s years of service.
Under the IRS’ proposed regulation, 401(k) plans that define one year of vesting service as 12-months in which the employee performs 1,000 hours of service must lower the hours requirement to 500 for LTPT employees. LTPT employees would continue to vest at 500 hours of service in subsequent years, regardless of their LTPT status.
Avoiding LTPT Employees is Easy!
The SECURE Act’s LTPT rules become effective for most 401(k) plans on Jan. 1, 2024—a mere 25 working days after the IRS’ proposed regulations were issued. The IRS has been asked for transition relief to give employers, payroll companies, and 401(k) providers more time to analyze the new rules and adapt their systems, but relief is not guaranteed.
That said, it’s easy for employers with part-time employees to avoid the LTPT rules altogether. They just need to ensure their 401(k) plan’s eligibility requirements won’t produce any LTPT employees. To guarantee that, employers simply need to remove any hours of service requirement from their plan’s eligibility requirements. In other words, choose the “elapsed time” method for crediting employee service. Under this method, only dates of employment matter. Hours of service are irrelevant.
