Just in time for the new year, the Internal Revenue Service issued proposed regulations to assist with the implementation of the long-term, part-time employee (LTPT) rules that affect the service requirements under 401(k) plans (and ERISA-covered 403(b) plans). Beginning January 1, 2024, the SECURE Act of 2019 (SECURE Act) and the Secure 2.0 Act of 2022 (SECURE 2.0) require employers to permit LTPTs to participate in, and make deferrals under, employer-sponsored 401(k) and ERISA-covered 403(b) plans.

Who is an LTPT?

An LTPT is an employee who is eligible to participate in a cash or deferred arrangement plan solely because the employee completes at least 500 hours of service in three consecutive 12-month periods (reduced to two consecutive 12-month periods beginning January 1, 2025) and otherwise satisfies an age 21 requirement. The LTPT rules allow employees who are normally unable to meet traditional hour of service eligibility requirements, such as 1,000 hours worked within a 12-month period, to participate in a 401(k) plan (or an ERISA-covered 403(b) plan) and make deferral contributions. Only service commencing on or after January 1, 2021, is counted.

The proposed regulations clarify that an employee who is eligible to participate in an applicable plan by reasons other than completing at least 500 hours of service in three consecutive 12-month periods is not considered to be a LTPT. For example, some plans have completely eliminated service requirements for eligibility purposes. Other plans have implemented service requirements that do not measure service by actual hours worked. For example, a plan might use the elapsed time method to determine an employee’s eligibility to participate in the plan. Under the elapsed time method, an employee’s eligibility to participate is not based upon the actual completion of a specified number of hours worked during a 12-month period, but rather on the passage of time as an employee (e.g. three months of service). Because an employee who becomes eligible to participate in a plan on an elapsed time basis is not eligible to participate solely because the employee completed the applicable number of consecutive 12-month periods with at least 500 hours worked, the proposed regulations clarify that the employee would not be considered an LTPT.

Eligibility of LTPTs to Make Deferrals

Effective January 1, 2024, employees who are LTPTs cannot be excluded from eligibility to make employee deferrals based on stricter service conditions. A plan’s eligibility conditions (where hours worked are counted) may not be based on service in excess of the earlier of 500 hours/three years of service (two years of service effective January 1, 2025) or 1,000 hours/one year of service.

Employer Contributions for LTPTs

LTPTs may be excluded from eligibility to receive safe harbor contributions and/or other employer contributions, including top-heavy contributions. However, if an employer wants to exclude LTPTs from safe harbor contributions and/or top-heavy contributions, the plan document must be drafted to provide for such exclusion. If an employer wishes to exclude LTPTs from such contributions effective January 1, 2024, the plan must be amended prior to January 1, 2024.

Vesting Rules Applicable to LTPTs

To the extent that LTPTs are eligible under the plan to receive employer contributions, an LTPT who is solely eligible to make deferrals under the plan based on LTPT status must also receive vesting service credit for each consecutive 12-month period with at least 500 hours of service. Only service commencing on or after January 1, 2021, is counted. Employees who are eligible to participate in the plan on another basis (i.e., under the elapsed time method) continue to be subject to the plan’s normal vesting schedule. Regular break in service rules and deemed distribution rules still apply.

Note that employees who become “former” LTPTs remain subject to the 500-hour vesting rule and are deemed to continue to be LTPTs. A former LTPT is an LTPT who becomes eligible to participate in a plan solely because of the employee’s status as an LTPT and later satisfies the plan’s normal service requirements (generally, 1,000 hours of service within a 12-month period requirement).

Exclusion of LTPTs from Nondiscrimination Testing, Coverage Testing, and Top-Heavy Contribution Requirements

If LTPTs are excluded from receiving employer contributions, they can also be excluded from nondiscrimination and coverage testing, as well as top-heavy benefit requirements. If an employer wishes to exclude LTPTs from eligibility for employer contributions effective January 1, 2024, the plan must be amended prior to January 1, 2024, to exclude LTPTs and make an affirmative election to exclude the LTPTs from testing (or, for non-safe-harbor plans, include language to enable the employer to choose to exclude LTPTs for testing purposes). Similarly, employers that wish to exclude LTPTs from top heavy benefit contributions for the 2024 plan year will need to amend their plans prior to January 1, 2024, for that exclusion.

It is important to note that an exclusion of LTPTs from nondiscrimination and coverage testing must apply to all nondiscrimination and coverage tests. In addition, this relief from inclusion in such testing is only available to plans under which LTPTs participate solely due to their status as LTPTs.

Exclusions of LTPTs from Catch-Up and Designated Roth Contributions

While most plans will likely be administered to allow LTPTs to make both catch-up contributions and designated Roth contributions, note that if the plan is drafted to exclude LTPTs from nondiscrimination testing and coverage testing, it may also be drafted to exclude LTPTs from making catch-up contributions and/or designated Roth contributions.

Reliance on Proposed Regulations

In addition to the above, the proposed regulations provide clarity in a number of other areas relating to LTPTs. The proposed regulations are open for comments until January 25, 2024, and a hearing is scheduled for March 15, 2024. In the meantime, employers are encouraged to rely on the proposed regulations in implementing the LTPT requirements.