(b)lines Ask the Experts – Section 115 Government Instrumentalities

David Levine, Groom Law Group, answers:  

In deciding what types of pension plans may be offered by a Code section 115 “government instrumentality”, it is key to remember that each type of plan – 401(k), 403(b), 457(b), etc. has its own set of eligibility rules, so it is important to look at these rules rather than assuming that because an entity is a Code section 115 “government instrumentality” it automatically satisfies these rules.  Below we briefly review a number of common types of plan and the eligibility rules that apply to them: 

• Code Section 401(a) Defined Benefit Plans.  Defined benefit pension plans (most commonly, “traditional” pension or cash balance plans) can generally be maintained by any type of entity.  However, if an entity is a “governmental plan” described in Code section 414(d) (and as to be clarified in guidance expected from the Internal Revenue Service) certain defined benefit plan rules, such as the Code’s eligibility and vesting rules, generally do not apply. 
• Code Section 401(a) Defined Contribution Plans.  There are two key types of Code section 401(a) defined contribution plan most governmental entities sponsor: 
• Money Purchase Pension Plan.  This is a type of plan to which there are generally no elective employee contributions.  Many governmental entities maintain this type of plan.  However, using the “pick-up” rules in Code section 414(h)(2), “units of government” (which generally follow a similar, but not identical definition to the “governmental plan” definition in Code section 414(d)) may treat certain mandatory employee contributions as employer contributions, thus allowing “units of government” to have mandatory employee contributions made to their money purchase pension plans. 
• 401(k) Plan.  This is a type of plan that permits employee pre-tax contributions to be made under a cash or deferral election.  Unless covered by a grandfather rule applicable to 401(k) plans in effect on May 6, 1986, most governmental entities are ineligible to maintain a 401(k) plan pursuant to Code section 401(k)(4)(B)(ii).    
• Code Section 403(b) Plans.  403(b) plans may be maintained by governmental entities for employees who performs services for certain educational organizations (such as public schools)  or for separately incorporated 501(c)(3) entities which are agencies or instrumentalities of the State or a political subdivision of the state, such as some county hospitals .  Pursuant to Code section 403(b)(1)(A)(ii), an employee’s governmental employer must be “a State, a political subdivision of a State, or an agency or instrumentality of any one or more of the foregoing.”  
• Code Section 457(b) Plans.  457(b) governmental eligible deferred compensation plans may, pursuant to Code section 457(e)(1)(A), be maintained by a State, political subdivision of a State, and any agency or instrumentality of a State or political subdivision of a State.   
• Simplified Employee Pension.  Code section 408(k) simplified employee pensions (SEPs) may be maintained by governmental entities.  However, pursuant to Code section 408(k)(6)(E), state and local entities may not maintain a salary reduction arrangement (a SARSEP) as part of their SEPs.  
• SIMPLE.  Code section 408(p) SIMPLE retirement accounts may generally be maintained by a small governmental entity (generally with less than 100 employees) if  the governmental entity does not maintain another plan within the meaning of Code section 219(g)(5)(A) and (B).  
• Nonqualified Plans.  Code section    457(f) applies to non-qualified (i.e., not 457(b) plans) of a “State, political subdivision of a State, and any agency or instrumentality of a State or political subdivision of a State”.  In addition, Code section 409A applies broadly to governmental entities unless a specific exception under 409A applies. 

As you can see, the definitions can vary from the plan-to-plan, so careful analysis is recommended. 

NOTE: This feature is to provide general information only, does not constitute legal advice, and cannot be used or substituted for legal or tax advice.