Employers who sponsor 401(k) plans know that distributions from those plans can be made only on certain allowable events, such as separation from service. While an employee is still employed, distributions can be made after age 59½ or as a result of financial hardship. Defined benefit pension plans face similar restrictions on in-service distributions before age 62. The IRS recently issued a private letter ruling to the effect that employees who “retire” in order to qualify for a pension benefit with the explicit understanding that they will be immediately rehired have not in fact “retired” under qualified plan rules. A plan allowing a distribution under such circumstances could be disqualified.
In a recent Seventh Circuit Court of Appeals decision, an employer was faced with the situation of striking workers who quit in order to access their 401(k) balances. The employer then failed to reinstate strikers after the union made an unconditional offer to return to work. Generally speaking, under labor law, when a union makes such an offer the employer must rehire the striking workers who have not yet been permanently replaced and who have not permanently abandoned their positions. The employer refused to rehire those who had quit to access their 401(k) balances, arguing that such employees had permanently abandoned their jobs and that allowing them to be reinstated would violate the Internal Revenue Code and the employer’s fiduciary duty to follow the terms of the 401(k) plan.
The Seventh Circuit disagreed. According to the court, the question as to whether these strikers had permanently abandoned their employment was a factual question for the National Labor Relations Board to determine and the Board had determined that the employees did not intend to abandon their jobs. The Circuit Court was not troubled by the possible conflict with the tax code or ERISA. According to the court, whether the employee intended to abandon employment permanently is a factual question “distinct from the question whether an employee resigned for tax or ERISA purposes.” The court noted that the employer had not developed its argument in depth and did not cite to relevant regulations, revenue rulings or other authoritative statements addressing the particular situation before it.
Because this employer did not develop well the argument that an employee can receive a 401(k) distribution on termination of employment only if the employee does not have an expectation of rehire, it is possible that a future court might find in a similar situation that an employer does not need to rehire a striking worker who quits to access 401(k) balances. However, with this Circuit Court precedent on the books, an employer faced with striking workers who quit to access 401(k) balances could be placed between the proverbial rock and hard place, potentially violating either labor laws or tax laws. Employers faced with such a choice would want to consult with competent labor and benefits counsel.