Rev. Rul. 79-221

The purpose of this Revenue Ruling is to update and restate, under current law, the position stated in Rev. Rul. 66-312, 1966-2 C.B. 127. Rev. Rul. 66-312 concerns the question of whether an employer's contributions to a state teachers' retirement plan for an employee that are excludable from the employee's gross income may be added to the employee's "includible compensation" in order to increase his or her applicable exclusion allowance under section 403(b)(2)(A) of the Internal Revenue Code of 1954.

Employees performing services for an educational organization of a certain state participate in two retirement plans. The first is a state teachers' retirement system to which the employer makes contributions on behalf of the employee and to which the employee also makes contributions. The plan is qualified under section 401(a) of the Code. The amounts of the employer's contributions are excludable from the employee's gross income for federal income tax purposes, but the employee's own contributions are includible. The second is an annuity purchase program, described in section 403(b), where the employer purchases an annuity contract for the employee, pursuant to a valid salary reduction agreement executed by the parties meeting the requirements established by section 1.403(b)-1(b)(3) of the Income Tax Regulations.

Unless an employee makes a special election described in section 403(b)(2)(B) of the Code, the employee computes his or her exclusion allowance under section 403(b)(2)(A) of the Code and section 1.403(b)-1(d) of the Income Tax Regulations, before application of the limitations of section 415, in the following manner: The employee determines an amount by multiplying 20 percent of "includible compensation" by the number of years of service with the employer who is making contributions for him or her. The employee then subtracts from this product the employer's aggregate contributions made on the employee's behalf for annuity contracts that were excludable from the gross income of the employee for all prior years. Section 1.403(b)-1(d)(3)(i) of the regulations provides that in computing the aggregate amount of such contributions, there shall be included all contributions made by the employer for the benefit of the employee that were excludable from the employee's gross income under a qualified plan.

The term "includible compensation" is defined in section 403(b)(3) of the Code as compensation received from a qualifying employer by an employee that is includible in the employee's gross income for the most recent period that may be counted as 1 year of service. In this connection, section 1.403(b)-1(e)(1) of the regulations provides that for purposes of computing an employee's exclusion allowance for a taxable year, such employee's includible compensation in respect of such taxable year means the amount of compensation that is includible in his or her gross income.

Accordingly, the employer contributions to a state teachers' retirement system for an employee that are excludable from the employee's gross income for federal income tax purposes may not be added to the amount of such employee's "includible compensation" for computation of the applicable allowance under section 403(b)(2) of the Code. Furthermore, such employer contributions made in prior years for the employee generally fall within the scope of section 403(b)(2)(A)(ii) of the Code and section 1.403(b)-1(d)(3)(i) of the regulations and must be used to reduce the employee's applicable exclusion allowance.

Rev. Rul. 66-312 is superseded since the position stated therein is restated under current law in this Revenue Ruling.