Rev. Rul. 69-253

Advice has been requested whether, under the circumstances described below, a pension plan that provides benefits for self-employed individuals may qualify under section 401 of the Internal Revenue Code of 1954 where the owner-employee participating under the plan is older than any of the common-law employees.

A sole proprietorship established a non-contributory pension plan covering all employees, including the owner-employee, who is older than any of the common-law employees. The plan contains the provision, required by section 401(d)(2)(A) of the Code, that contributions on behalf of a participant are nonforfeitable when made. The plan provides that the employer will make the level annual contributions necessary, on an individual basis, to provide for each participant, on his normal retirement date, a monthly retirement benefit equal to 15 percent of his average monthly compensation. However, the annual contribution on behalf of the owner-employee is limited to the lesser of $2,500 or 10 percent of his earned income from services rendered to the business. If these contributions are not sufficient to provide the owner-employee's benefit upon retirement, his benefit will be reduced to that which can be provided with the contributions theretofore made on his account.

Section 1.401-10(a)(1) of the Income Tax Regulations specifies that certain self-employed individuals may be covered by a qualified pension, annuity, or profit-sharing plan for taxable years beginning after December 31, 1962. Neither this section nor any other provision of the Code or regulations limits such pension plans solely to the money purchase type.

Section 401(a)(4) of the Code provides that contributions or benefits provided under a plan intended to qualify must not discriminate in favor of employees who are officers, shareholders, supervisors, or highly compensated. Section 1.401-11(d) of the regulations states, in part, that a self-employed individual, by reason of the contingent nature of his compensation, is considered to be a highly compensated employee, and thus is a member of the group in whose favor discrimination is prohibited.

It is not necessary that both contributions and benefits be nondiscriminatory under a qualified plan. Whether the absence of prohibited discrimination is determined by reference to contributions or benefits depends upon the particular plan involved. It is sufficient in a pension plan, under section 401(a)(4) of the Code, that there be no discrimination in favor of the owner-employee with respect to benefits only.

The proprietorship in this case is limited to making level annual contributions on behalf of the owner-employee in an amount that does not exceed the lesser of $2,500 or 10 percent of his earned income from services rendered to the business. Furthermore, if these contributions are insufficient to purchase the owner-employee's expected benefit upon retirement, his benefits will be correspondingly reduced. This provision, as well as the required provision that participants' rights to contributions on their behalf be nonforfeitable when made, assures that no contribution on behalf of any other participant may ever be used for the benefit of the owner-employee.

Accordingly, the pension plan in this case may qualify under section 401 of the Code even though the owner-employee participating under the plan is older than any of his common-law employees.