Rev. Rul. 69-38

Advice has been requested whether a contribution by a partnership under a qualified plan will be an "excess contribution," as defined in section 401(e) of the Internal Revenue Code of 1954, under the circumstances described below.

A partnership maintains an employees' retirement plan that meets the requirements for qualification under section 401 of the Code. The plan provides benefits for all employees, including owner-employees as defined in section 401(c)(3) of the Code, and requires that all contributions thereunder must be applied to pay premiums on the annuity contracts purchased on behalf of the participants. The plan also provides for use of the three-year averaging method, applicable to insured plans funded on a level premium basis, in determining employer contributions. Continued coverage is provided for all participants who are temporarily on leave, including those who are serving in the Armed Forces.

An owner-employee entered the Armed Forces and, as a result, he had no earned income from self-employment for the taxable year in question. Nevertheless, the partnership paid the premium on his annuity contract for that year.

Section 401(e)(1) of the Code defines an excess contribution on behalf of an owner-employee to include the amount of any contribution by the employer that is not deductible under section 404. In general, this means the amount by which the contribution exceeds the lesser of $2,500 or ten percent of the owner-employee's earned income from self-employment. However, amounts, in excess of the foregoing, that are contributed to pay premiums on annuity, endowment, or life insurance contracts are not considered excess contributions where the three-year averaging provisions of section 401(e)(3) are satisfied.

In this case the plan provides continued coverage for all participants, including the owner-employees, while they are serving in the Armed Forces. The plan also requires that employer contributions be applied to pay premiums on annuity contracts.

In view of the above, the partnership's contribution on behalf of the owner-employee while he was in the Armed Forces will not be an excess contribution, as defined in section 401(e) of the Code, if the contribution does not exceed the amount allowable as a contribution under the exception set forth in section 401(e)(3). It should be observed, however, that this contribution is not deductible under section 404(a) of the Code, since the owner-employee had no earned income from self-employment for the year involved.