Rev. Rul. 70-183

Advice has been requested whether a profit-sharing plan met the requirements of section 4041(a)(4) of the Internal Revenue Code of 1954 under the circumstances described below.

On January 1, 1966, a corporate employer with eight employees established a qualified pension plan for the benefit of its hourly-paid union employees pursuant to a collective bargaining agreement. The maximum annual benefit provided under the plan is a life annuity of $100 per year of service, payable at normal retirement age 65. In 1966, 1967, and 1968, six union employees participated in the plan, and the employer contributed three percent of each participant's annual compensation as required by the terms of the plan. The highest paid pension plan participant earned $10,000 in each of these years.

On January 1, 1966, the employer also established a profit-sharing plan intended to qualify under section 401(a) of the Code for the benefit of its salaried employees. The plan provides that contributions will be made out of profits in an amount to be determined annually by the board of directors. During the years 1966, 1967, and 1968, contributions equal to 15 percent of compensation were made on behalf of the plan's two participants, each of whom was a 50 percent stockholder and was 50 years of age when the plan was established. Each profit-sharing plan participant earned $25,000 in 1966, $30,000 in 1967, and $25,000 in 1968.

Computations furnished by the employer with regard to the profit-sharing plan indicated the following:

1. The contribution made in 1966 will provide each participant a life annuity of $750 at age 65, a benefit of three percent of 1966 compensation;

2. The cumulative contributions made in 1966 and 1967 will provide each participant a life annuity of $1,625 at age 65, a benefit of approximately 5.9 percent of compensation averaged over those two years; and

3. The cumulative contributions made in 1966, 1967, and 1968 will provide each participant a life annuity of $2,325 at age 65, a benefit of approximately 8.7 percent of compensation averaged over those three years.

Since coverage under the profit-sharing plan, standing alone, did not meet the requirements of section 401(a)(3) of the Code, the employer designated both the pension and profit-sharing plans as constituting one plan for qualification purposes.

Section 1.401-3(f) of the regulations provides that an employer may designate several trusts or plans as constituting one plan intended to qualify under section 401(a)(3) of the Code, in which case all of such trusts or plans, taken as a whole, may meet the requirements of that 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.

In this case, the pension and profit-sharing plans, taken as a whole, met the coverage requirements of section 401(a)(3) of the Code during the years 1966, 1967, and 1968.

Furthermore, section 401(a)(4) of the Code provides that contributions or benefits under a qualified plan must 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.

Revenue Ruling 66-15, C.B. 1966-1, 83, holds that a profit-sharing plan for employees in whose favor discrimination is prohibited will not qualify merely because the employer makes contributions to a pension plan for hourly rated employees if the contributions, or the benefits to be derived from the contributions, to the profit-sharing plan are discriminatory when compared to the contributions, or the benefits to be derived from the contributions, to the pension plan.

It is not necessary that both contributions and benefits be nondiscriminatory under a qualified plan. Whether the existence of prohibited discrimination is determined by reference to contributions or benefits depends upon the particular type of plan involved. In a pension plan (other than one of the money purchase type) there must be no discrimination with respect to benefits. See Rev. Rul. 69-253, C.B. 1969-1, 129. Conversely, in a profit-sharing plan there must be no discrimination with respect to contributions. It follows that the test for discrimination is made with respect to benefits when two or more pension or annuity plans are being compared but with respect to contributions when two or more profit-sharing, or stock bonus plans (or money purchase pension plans) are being compared. If the plans are unlike (a pension plan and a profit-sharing plan, as in this case) they will be considered comparable if it can be shown that either the benefits or the contributions are nondiscriminatory.

In this case, contributions on behalf of participants in the pension plan equaled three percent of compensation, whereas contributions on behalf of participants in the profit-sharing plan equaled 15 percent of compensation during the years in question. Thus, there was discrimination in contributions during this period within the meaning of section 401(a)(4) of the Code.

With respect to benefits, the employer's computations indicate that each participant under the profit-sharing plan will receive a benefit of 3 percent of 1966 compensation, 5.9 percent of 1966 and 1967 compensation, and 8.7 percent of 1966, 1967, and 1968 compensation. Under the pension plan, the maximum benefit is a life annuity at age 65 of $100 per year of service. Since the highest paid pension plan participant earned $10,000 in each of the years involved, his projected benefit per year of service will be one percent of compensation. Thus, during these years, there was also discrimination in benefits within the meaning of section 401(a)(4) of the Code.

Accordingly, it is held that the profit-sharing plan in this case did not meet the requirements of section 401(a)(4) of the Code for the years in question.

Revenue Ruling 66-15 is hereby amplified.