Choosing Service Requirements for 401(k) Plan Eligibility Purposes
By Kristoffer Aas, EdM
Employers that establish 401(k) or similar qualified retirement plans often have definite ideas on how, and when, employees become eligible to participate. Choosing eligibility requirements is one of many important decisions that employers must make when they establish such plans. Although it can appear to be fairly straightforward, there are certain nuances that employers must be aware of.
Service Crediting Methods
Age and/or a period of service may be established as conditions that must be met in order to become eligible to participate in the employer’s plan. If a period of service is required, the service crediting method chosen by the employer is one factor that affects an employee’s eligibility. Employers generally have three options: the actual hours of service method, the equivalency hours of service method, and the elapsed time service method.
Actual hours of service method – employees receive credit for the hours during which they performed services for the employer, as well as certain hours for which they were paid, but no services were performed (e.g., paid time off, sick pay, or maternity/paternity leave).
Equivalency hours of service method – employees receive credit for a defined number of hours based on working at least one hour during a specified period. For example, under monthly equivalency, an employee would receive 190 hours of service for each month that he worked at least one hour.
Elapsed time service method – Under this method the employer does not keep track of hours worked, either by actual hours or by equivalency. Instead, the employer considers a period of employee service from start date to the present (or end date).
NOTE: The service crediting method must be specified in the plan document. The employer may use different methods for different purposes.
How Does it Work on the Ascensus Document?
Employers who use the actual hours of service method or the equivalency hours of service method to determine eligibility must define the service required for eligibility purposes in Section Two: Eligibility, Part D: Service Required for Eligibility Purposes of the Ascensus adoption agreement. (It’s important to note that this section does not apply when using the elapsed time method).
Employers have two options when completing this section.
Employers can elect how many hours of service will be required to comprise a year of eligibility service (no more than 1,000 hours).
Employers can elect how many hours of service are required to avoid a break-in-eligibility service (not more than 500, but less than the elected hours of service specified in the first option).
When a plan’s service requirement is the one year of eligibility service, the elected hours of service listed in Part D will define the number of hours that must be worked to receive credit for a year of service.
When a plan’s service requirement is a fractional year of service (less than one year), the hours elected in Part D will not apply until an employee fails to satisfy the plan’s fractional service requirement. Then, the requirement reverts to one year of eligibility service as defined by the hours elected in Part D.
To illustrate this, let’s look at a few examples.
ABC Company has elected a one-year service requirement. The plan defines one year of service as 1,000 hours and requires more than 500 hours to avoid a break-in-eligibility service (the hours elected in Part D apply).
DEF Company has elected a six-month service requirement with an 800-hour requirement. Employees will become participants once they accrue 800 hours within six months from their date of hire and satisfy the age and plan entry date requirements (the hours elected in Part D do not apply).
John, who started working for DEF Company on May 2, 2023, accrued less than 800 hours during his first six months, so he must now satisfy a year of service, from his date of hire, defined by the hours elected in Part D. Because DEF Company elected to define a year of service as 1,000 hours and requires more than 500 hours to avoid a break-in-eligibility service, John must accrue at least 1,000 hours from May 2, 2023, to May 2, 2024, and satisfy the age requirement in order to enter the plan on the following plan entry date.
NOTE: A break-in-eligibility service, which occurs when an employee fails to complete the required number of hours during the eligibility computation period, can affect when an employee becomes eligible, depending on the length of the break, whether he was a participant before the break, and whether the plan imposes additional criteria. See the plan document to assist with the determination.
