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414(h) “Pick Up” Plans

“What is a “414 pick-up” plan?”

ERISA consultants at the Retirement Learning Center Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings plans. We bring Case of the Week to you to highlight the most relevant topics affecting your business.

A recent call with a financial advisor from Texas is representative of a common inquiry involving plan types.

Highlights of Discussion

A 414 pick-up plan is a type of governmental plan[1] where mandatory designated employee (after-tax) contributions are treated as employer contributions as long as the employing unit formally “picks up” the contributions.[2] When picked up, the employing unit treats the amounts as employer contributions for federal income tax purposes and does not include these amounts in the participating employees’ current gross income. Such amounts remain tax deferred until later distributed.

IRS Revenue Ruling 2006-43 defines what the employing unit must do in order to formally pick up the contributions. It must

  1. Specify that the employee contributions are being paid by the employer. In order to accomplish this, an authorized person of the employing unit must take formal action to ensure the contributions will be paid by the employing unit in lieu of employee contributions. The action can only apply prospectively and must be evidenced by a written document (e.g., minutes of a meeting, a resolution, or an ordinance).
  2. Not permit a participating employee as of the pick-up date to have a right to make a cash or deferred election with respect to the contributions. For example, participating employees may not opt out of the pick-up, or receive the contributed amounts directly instead of having them paid by the employing unit to the plan.

Further details of these requirements, including how they are treated for Social Security and Medicare tax purposes, are contained in Revenue Ruling 2006-43 and the IRS’ summary of pick up plans.

Conclusion

IRC §414(h)(2) provides that for any plan established by a governmental unit, where the contributions of employing units are designated employee contributions, the employer–through written authorization–may pick up the contributions, and treat the amounts as employer contributions for federal tax purposes. As employer contributions, such amounts are not included in the taxable income of plan participants until later distributed from the plan.

[1] An IRC §401(a) qualified plan established by a State government or political subdivision thereof, or by any agency or instrumentality of the foregoing. Governmental pick-up contributions also apply to certain plans established and maintained by Indian tribal governments.

[2] IRC §414(h) plan

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