Rev. Rul. 59-13

Advice has been requested whether contributions made to a deferred payment employees' bonus or profit-sharing plan and credited to the accounts of the participants in a nondiscriminatory manner may be used as part of the basis upon which pension benefits may be computed.

An employer established an integrated pension plan and a deferred payment profit-sharing plan, each of which have been held to qualify under section 401(a) of the Internal Revenue Code of 1954 for exemption under section 501(a). Benefits under the pension plan are based upon `annual compensation' which is defined to include `bonuses whether or not pursuant to a profit-sharing plan.'

Although section 1.401-1(b) of the Income Tax Regulations mentions `compensation received' as one of the factors generally used in measuring retirement benefits and section 434(a)(1)(A), (a)(3) and (a)(7) of the Code provide that the limitation on deductions for amounts paid into qualified plans are `tied into' compensation paid or accrued, there is nothing in the Code or the regulations which specifically prohibits an employer from using the amounts contributed to an exempt profit-sharing plan as a basis for determining benefits to be provided under an exempt pension plan. Of course, if such use would, in a particular case, create conditions otherwise prohibited by the Code or the regulations, then the plan would fail of qualification.

The intent of the provisions specified in section 404(a) of the Code, relating to the use of `compensation paid or accrued' as one of the elements or bases to be used in applying the limitations on deductions, is that amounts receiving deferred tax treatment under employees' pension, profit-sharing, and stock bonus plans should be held to a certain ratio of the total compensation `otherwise paid or accrued during the taxable year to the persons who are the beneficiaries of the trusts or plans.' Whether benefits under the pension plan shall be increased by the use of certain types of compensation or by increased rate would not, of itself, affect the plan's qualification so long as the method used would not result in prohibited discrimination. In determining whether discrimination exists, reference will be had to whether the total of pension benefits and allocation of employer contributions under the profit-sharing plan, taken together, constitutes discrimination. Prohibited discrimination could arise, for example, (1) if the contributions made to the profit-sharing plan were not fully vested in all cases at the time paid into the trust; (2) if the employer's contributions to the profit-sharing trust were allocated to the accounts of the employees on a basis other than proportionately to current compensation (for example, by giving effect to years of prior service); (3) where the basis of the pension to be provided would depend upon the total compensation paid during a particular period of years (such as the average annual compensation for the five years immediately prior to retirement); etc. On the other hand, if the qualified profit-sharing plan provides a definite and continuing contribution formula and full immediate vesting, inclusion of the amounts allocated and vested in each participant in the compensation upon which the benefits are based would not create the prohibited discrimination. This principle would have equal application where the profit-sharing plan is one failing to qualify under section 401(a) of the Code, since contributions made thereto would constitute currently taxable compensation for services rendered.

Amounts contributed to a qualified exempt employee's trust do not constitute `wages' for purposes of the Federal social security program. In cases where the current annual `wages' are less than $4,800, the employee will not receive credit for social security benefit purposes on the difference between that part of his compensation constituting `wages' and his total compensation, which would include amounts paid into the profit-sharing plan for him. Therefore, pension plan benefits based on such `non-wage' compensation can not involve integration with Social Security benefits, and a uniform rate of plan benefit should be applied thereto, regardless of whether total compensation exceeds $4,800.

Accordingly, it is held that amounts contributed by an employer to a deferred payment employees' bonus or profit-sharing plan and credited to the accounts of the participants in a nondiscriminatory manner, may be used as part of the basis upon which pension benefits shall be computed.