Many employers have had to terminate or furlough employees in 2020 due to COVID-19. Under IRS rules, a partial termination of a retirement or 401(k) plan may occur when there is a significant reduction (generally more than 20%) in plan participation due to employer-initiated terminations or layoffs during the plan year. If a partial termination occurs, affected participants (those who are terminated) become 100% vested in their plan benefit, even if they have not yet satisfied the vesting schedule under the plan. An employer’s failure to vest participants correctly can potentially disqualify the plan or subject the employer to additional claims from affected participants.
The Coronavirus Aid, Relief and Economic Security Act (CARES Act) was silent on the partial termination issue, which is a significant concern since many employers use the forfeitures of terminated participants to pay plan expenses or offset employer contributions. Also, if forfeitures are insufficient, employers may have to make additional contributions to fully vest terminated employees’ accounts.
Fortunately for employers, the IRS has recently updated its CARES Act guidance to provide that employees who are terminated, laid-off or furloughed in 2020 due to a COVID-19 downturn do not have to be counted as terminated participants for partial termination purposes if they are rehired or called back before the end of this year.
This should be welcome news for employers that have reduced their workforce and are planning to bring back workers by the end of 2020. Employers may avoid a significant vesting expense if they rehire employees and can reduce the turnover rate to less than 20%.
Please contact Vandeventer Black LLP if you have any questions or would like additional information on these issues.