403(b) Compliance Check – Universal Availability and the Student-Employee and Part-Time Employee Exclusions
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If you administer a 403(b) plan you should be familiar with the term “universal availability”. This concept means that, as a general rule, all employees must be allowed to make elective deferrals into the plan immediately upon hire. Thus, 403(b) plans generally cannot have eligibility requirements for elective salary deferrals into the plan and employees must be provided notice of their right to defer when they are hired and annually thereafter. There are a few limited exceptions to this rule that permit the plan sponsor to exclude certain groups of people including, among others, those who normally work less than 20 hours per week (the “part-time exclusion”) and student employees.

Many educational institutions, take advantage of these exclusions because they often employ large numbers of part-time and student employees and want to avoid the time-consuming compliance difficulties associated with tracking these employees’ hours and eligibility. Compliance with these two exclusions, however, is often akin to traversing a minefield.

Part-Time Employee Exclusion (Once in, Always In)

Widespread confusion about the application of the part-time exclusion found in the 403(b) regulationsled the IRS to issue Notice 2018-95. The Notice explained that the regulations have three requirements for the part-time exclusion to apply:

  1. First year exclusion – For the 12-month period beginning on the date the employee's employment commenced, the employer reasonably expects the employee to work fewer than 1,000 hours.
  2. Preceding-year exclusion – For each plan year after that (or employment anniversary year, if elected) that ends after the initial 12-month employment period, the employee must have actually worked fewer than 1,000 hours in the prior 12-month period.
  3. Once in Always In (OIAI) - Once an employee does not meet the part-time exclusion conditions, either in the initial year of employment or for any exclusion year, the employee may no longer be excluded from making elective deferrals under the 20-hours-of-service exclusion.

So once an employee meets either one or two of the points above they may no longer be excluded from making elective deferrals into the plan while employed, no matter how many hours they work. This would be true even if they change status or jobs – e.g. full-time to adjunct professor. In addition, there is a consistency requirement. If any employee who meets the conditions of the part-time exclusion may make elective deferrals, than no employee who meets those conditions may be excluded under the part-time exclusion. For more information about the Notice see our previously blog.

Student Employee Exclusion

The second exclusion covers students who perform services described in Internal Revenue Code section 3121(b)(10) also known as the  Student FICA exemption.  This is a limited exclusion that only applies to those students whose compensation is not considered wages for FICA purposes. This would be compensation for services performed in the employ of a school, college, or university, if the service is performed by a student who is enrolled and regularly attending classes at the institution and who performs services "as an incident to and for the purpose of pursuing a course of study" at the institution.

Rev Proc. 2005-11 provides guidelines for whether an individual is a student for purposes of the exception. The guidance provides that the exclusion does not apply if the individual is eligible to:

  1. Receive vacation, sick leave, or paid holiday benefits
  2. Participate in any qualified retirement plan
  3. Receive employer contributions under a 403(b) plan other than contributions described in section 402(g)
  4. Make deferrals into a 457(b) plan or to receive a non-elective employer contribution to a 457(b) plan
  5. Receive reduced tuition (other than qualified tuition reduction provided to a teaching or research assistant who is a graduate student)
  6. Receive life insurance, qualified educational assistance, dependent care assistance programs, or adoption assistance

The revenue procedure must be applied in a reasonable manner based on applicable facts and circumstances. It is not clear from those instructions whether OIAI also applies to student employees.

SECURE 2.0 & Long-Term Part-Time Employees

Beginning with the 2025 plan year, SECURE 2.0 will require that all long-term part-time (LTPT) employees of ERISA-covered 403(b) plans who worked at least 500 hours in the prior two years be allowed to make elective deferrals into the plan. As SECURE 2.0 is drafted, both the part-time exclusion and the student-employee exclusion are subject to the LTPT rule. Therefore, it appears that even if a plan includes one or both of the exclusions, once an employee works 500 hours or more in two consecutive years, the employee is able to make elective deferrals. Note, however, that exclusions based on bonafide job-based classifications are still permitted as long as they represent a bonafide and nondiscriminatory class exclusion and are not a way to impose an otherwise impermissible service condition.

Late last year, the IRS issued proposed regulations about the LTPT rules for 401(k) plans, but they have not provided clarification for 403(b) plans. Because the 403(b) part-time and student employee exclusions are so closely intertwined with the LTPT rules, we can hope that the IRS will provide more definitive guidance on the intersection of the rules before operational compliance is due next year.

If you want to discuss any concerns you may have about your treatment of part-time or student employees for purposes of your 403(b) plan or any other 403(b) compliance issues, please reach out to any of the attorneys in our Employee Benefits group.

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