Short Initial Plan Year, Seasonal Workers, and a Brother's Company
Northline Fabrication (62 employees) adopts a 401(k) effective October 1, 2025, with a short plan year ending December 31, 2025. The owner, Ms. Pruitt, wants to exclude 14 seasonal workers laid off each November, require one year of service for all contributions, and add a 3% safe harbor nonelective. The plan will allow immediate eligibility for deferrals and one year of service for the match and profit sharing, with a last-day rule. Two employees were hired in September. Ms. Pruitt owns 100% of Northline and 30% of a separate parts company; her brother owns the other 70% of the parts company, which has 12 employees. The TPA needs adoption agreement elections before the November 15 payroll.
1. Can the plan exclude the 14 seasonal workers from the 401(k) deferral opportunity through the one-year service requirement and last-day rule? Analyze under §410(b) and the 401(k) regulations.
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No, not from the deferral opportunity. The plan gives immediate eligibility for deferrals, so the seasonal workers are eligible to defer when hired. A last-day rule cannot condition the right to make elective deferrals, and a one-year service requirement cannot be applied to deferrals if the document says immediate eligibility. For the 401(k) portion, §410(b) coverage is measured on employees eligible to make elective deferrals; with immediate eligibility, coverage is effectively 100%, and the ADP test will include the seasonal workers who are eligible.
For the match and profit sharing, a one-year service requirement and last-day rule are permissible. Under §410(b)(4), employees who have not met the plan's minimum age and service (up to age 21 and one year) may be excluded from coverage testing for those contributions. Seasonal workers with less than one year of service can therefore be left out of the match/profit sharing coverage test. Any seasonal worker who has completed a year of service is not excludable and must be counted in coverage for those contributions unless another statutory exclusion applies.
2. Does Ms. Pruitt's brother's parts company create a controlled group or affiliated service group, and how would that affect coverage?
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Apply the brother-sister controlled group test of §1563(a)(2): the same five or fewer persons must own at least 80% of each corporation and more than 50% with identical ownership. Ms. Pruitt owns 100% of Northline and 30% of the parts company; her brother owns 0% and 70%. Identical ownership is the sum of the lesser ownership percentages: min(100%, 30%) + min(0%, 70%) = 30%, which is not more than 50%. There is no brother-sister controlled group, and no parent-subsidiary group because neither owns the other.
An affiliated service group would require the parts company to be a service organization that performs services for Northline or is regularly associated with it in performing services; the facts do not show that. The 12 parts-company employees are therefore not counted, and Northline's coverage population remains 62. If the companies were a controlled group, all 74 employees would generally be treated as employed by one employer, and the plan would have to cover them or satisfy §410(b) and §401(a)(26). A separate line of business under §414(r) is not a practical fix here because it requires at least 50 employees and an IRS determination.
3. Identify the short-plan-year compliance deadlines and limits that the TPA must calendar.
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Calendar the following: (1) the 2025 Form 5500/5500-SF is due July 31, 2026, with an extension to October 15, 2026; no audit is required if the plan is under 100 participants. (2) The §401(a)(17) compensation limit is prorated for the short plan year: $350,000 × 3/12 = $87,500 for 2025. The §415(c) dollar limit is not prorated for the short limitation year, but the 100%-of-compensation limit uses actual short-year compensation. (3) The 3% safe harbor nonelective must be funded by December 31, 2026 (the last day of the 12-month period after the plan year end). (4) A safe harbor notice is required for the initial plan year and should be provided before the plan year begins or as soon as practicable for a new plan. (5) Because the plan is safe harbor, no ADP/ACP test is required, but top-heavy testing and coverage testing still apply. The top-heavy determination date is the last day of the short plan year, and the minimum is based on short-year compensation.