Rev. Rul. 66-176

Advice has been requested whether an employees' nontrusteed pension plan will qualify under section 401(a) of the Internal Revenue Code of 1954 where such plan contains language applying the restrictions of section 1.401-4(c) of the Income Tax Regulations, but requires the insurer to comply with such restrictions only when the employer notifies him that such provision has or will become operative.

An employer established a pension plan for the benefit of all his salaried employees. It was funded through a deposit administration group annuity contract. The plan contained language applicable to section 1.401-4(c) of the regulations which, requires that certain limitations be placed on employer contributions which may be used for benefits of any of the 25 highest paid employees in the event of termination of the plan during the ten years after its establishment. The provision was added to the group annuity contract with the intention of enabling the contract to meet the requirements of section 1.401-4(c) of the regulations. The contract, however, required that the employer notify the insurer when the terms of the provision were to become operative. In absence of such notification, the insurer would not, of his own volition, take any action with respect to the limitation provided for in the special provision.

Part 6(c) of Revenue Ruling 65-178, C.B. 1965-2, 94, at 126, states, in effect, that if benefits for employees who are officers, shareholders, persons whose principal duties consist in supervising the work of other employees, or the highly compensated employees, are funded or substantially so, because of their nearness to retirement and benefits for other employees are not similarly funded prior to termination of the plan, the prohibited discrimination will result. Consequently, if employer contributions may be used for the benefit of an employee who is among the 25 highest paid at the time the plan is established and whose anticipated annual pension exceeds $1,500, the plan must include limitations in accordance with the "termination rule". See section 1.401-4(c) of the regulations. (The rules for this purpose are set forth in Mimeograph 5717, C.B. 1944, 321, as modified by Revenue Ruling 61-10, C.B. 1961-1, 143.)

The plan, in the instant case, contains such a restrictive provision in its group contract. But, the group contract completely relieves the insurer of any responsibility, for enforcing its terms pertaining to early termination, unless the employer notifies him that such provision has or will become operative. In other words, if the employer having such a contract as a part of its plan should neglect, or elect not, to notify the insurer when the section 1.401-4(c) restrictions of its contract become operative, the plan is, in effect, completely without such a restriction.

Accordingly, it is held that if an employees' pension plan contains language applicable to section 1.401-4(c) of the regulations in an annuity contract made part of such plan, but such contract contains a provision relieving the insurer of any liability to observe such provision unless the employer notifies him that such provision has or will become operative, then such plan will fail to qualify under section 401(a) of the Code. A similar conclusion applies to a trusteed plan.