Employers offering discretionary matching contributions have less discretion to set the terms of those contributions outside of plan documents, IRS recently noted in Q&As on the 403(b) preapproved plan program’s second remedial amendment cycle. Q&A-11 notes that 403(b) plan documents submitted for preapproval must include provisions on the computation period and allocation formula for a discretionary match. This likely means that, going forward, all employers using preapproved documents for their defined contribution (DC) plans — 403(b) and qualified — should expect to specify these terms in newly adopted documents. IRS has yet to indicate that sponsors offering a discretionary match under an individually designed plan must include these terms in plan documents as well, but those employers may want to consult with their ERISA counsel.
IRS’s position on the required plan language for a discretionary match is based on Treasury Regulation Section 1.401-1(b)(1)(ii), which requires a profit-sharing plan to provide a definite, predetermined formula for allocating contributions to the plan. Employers can retain discretion over the matching contribution amount, matching rate for deferrals and any limit on deferrals matched. However, to satisfy this requirement, second-cycle preapproved 403(b) plans must include the following language about a discretionary match:
IRS first indicated its position on discretionary matching contributions in discussions with preapproved document providers submitting their qualified DC plan documents for the third remedial amendment cycle. Employers using preapproved DC plans had to adopt third-cycle documents by July 31, 2022.
IRS ultimately reached a compromise with providers for third-cycle qualified DC plans. Those documents don’t have to specify the above terms. Instead, before contributing the match, employers must provide written instructions to plan administrators describing the computation period and allocation formula. Within 60 days after making the last discretionary contribution for the plan year, employers must provide a summary of the instructions to participants receiving the match.
However, IRS has made clear that it will not accept this compromise for second-cycle 403(b) plans, which must include language about the computation period, the possibility of a true-up and the allocation formula. (The submission period for second-cycle 403(b) plans ends on May 1, 2023.) Although the Q&A addresses only 403(b) plans, preapproved qualified DC plans will likely need to include these provisions for the fourth remedial amendment cycle as well.
IRS has yet to say if individually designed plan documents must include similar language about a discretionary match. However, the scant IRS guidance on this issue doesn’t suggest that the agency views the definite, predetermined allocation formula requirement as limited to preapproved plans. Employers using an individually designed plan may be reluctant to preemptively amend their document if they have a determination letter on their existing discretionary match provisions, since the determination letter wouldn’t cover those new provisions and the employer may not have an opportunity to obtain a new letter until plan termination. These employers may wish to discuss their approach with legal counsel.