Rev. Rul. 66-15

Advice has been requested whether a profit-sharing plan which limits participation to salaried employees while excluding hourly rated employees from participation meets the requirements for qualification under section 401(a) of the Internal Revenue Code of 1954.

A corporate employer established a profit-sharing plan for the benefit of its full-time salaried employees. The plan excludes those employees for whom the employer contributes to a pension or welfare plan, under a collective bargaining agreement. The employer has 62 employees, 6 of whom are salaried and are plan participants and 56 hourly rated employees who are ineligible for participation because they are covered under a union collective bargaining agreement which provides for participation in an industrywide pension plan. Three of the six covered employees are shareholders, officers, and supervisors and the remaining three are considered to be highly compensated.

The employer under the collective bargaining agreement contributes approximately 9 percent of annual wages to provide various benefits for members of the bargaining unit; 4 percent being allocated to a pension plan, and the remaining 5 percent being used to provide the employees with vacation, health, and welfare benefits. The salaried employees' profit-sharing plan does not contain a predetermined formula with respect to the amount the employer will contribute, but permits contributions in amounts not in excess of 15 percent of basic compensation of the covered employees.

Section 401(a) of the Code provides, in part, that a trust forming a part of a profit-sharing plan of an employer for the exclusive benefit of his employees or their beneficiaries shall constitute a qualified trust if the plan does not discriminate in favor of employees who are officers, shareholders, persons whose principal duties consist in supervising the work of other employees, or highly compensated employees.

With respect to employee coverage, an employees' profit-sharing plan established by an employer with the view to qualifying under section 401(a) of the Code must benefit a sufficient number of employees which is at least equal to that determined under the percentage provisions of section 401(a)(3)(A) of the Code, or such employees as qualify under a nondiscriminatory classification within the purview of section 401(a)(3)(B) of the Code.

Section 1.401-3(f) of the Income Tax Regulations provides that an employer may designate several trusts or a trust or tusts and an annuity plan or plans as constituting one plan which is intended to qualify under section 401(a)(3) of the Code, in which case all of such trusts and plans taken as a whole may meet the requirements of such section. The fact that such combination of trusts and plans fails to qualify as one plan does not prevent such of the trusts and plans as qualify from meeting the requirements of section 401(a) of the Code.

Coverage under the instant salaried profit-sharing plan does not satisfy the percentage requirements of section 401(a)(3)(A) of the Code; nor does it satisfy the nondiscrimination requirements of section 401(a)(3)(B) of the code, since the classification results in covering only those persons in whose favor discrimination is prohibited. Therefore, the salaried employees' profit-sharing plan standing alone cannot qualify under section 401(a) of the Code.

However, when the salaried employees' profit-sharing plan and the hourly rated employees' pension plan are viewed as a unit under section 1.401-3(f) of the regulations, it is clear that the percentage requirements of section 401(a)(3)(A) of the Code are met. Nevertheless, the determination still remains as to whether contributions or benefits are discriminatory within the meaning of section 401(a)(4) of the Code. Section 1.401-4 of the regulations states, in substance, that a trust, in order to qualify under section 401(a) of the Code, must not only meet the coverage requirements of section 401(a)(3) of the Code, but, as provided in section 401(a)(4) of the Code, it must also be part of a plan under which there is no discrimination in contributions or benefits in favor of officers, shareholders, employees whose principal duties consist in supervising the work of other employees, or highly compensated employees as against other employees. In this regard, only the cost of providing deferred benefits under a qualified plan may be taken into account. The cost of providing other benefits, such as vacation, health and welfare, and current cash distributions may not be considered. See sections 1.401-3(b) and (c) and 1.401-4(a)(1)(ii) of the regulations. See also Revenue Ruling 56-497, C.B. 1956-2, 284.

The employer contributes 15 percent of the base salaries of the participants under the profit-sharing plan, but it contributes only 4 percent of the total payroll of the participants under the hourly rated employees pension plan. Thus, the contributions, or benefits to be derived from such contributions, made to the profit-sharing plan are discriminatory when compared with contributions, or benefits to be derived from such contributions, made to the pension plan, since all of the participants in the profit-sharing plan are highly compensated when compared with those in the pension plan.

Accordingly, the nondiscrimination requirements of section 401(a)(4) of the Code are not met and the profit-sharing plan for salaried employees fails to qualify under section 401(a) of the Code.