In Illinois, charter school teachers and certain administrators are eligible to participate in the Illinois Teachers’ Retirement System (TRS) and the Chicago Teachers’ Pension Fund (CTPF). Both of these pension systems are considered “governmental plans” under Internal Revenue Code section 414(d) as pension plans sponsored by the State of Illinois. Governmental plan status under Code section 414(d) is important because these plans are not subject to certain requirements under the federal tax code, to the many (sometimes onerous) requirements of ERISA, and to associated Department of Labor scrutiny. Recently, the IRS and the Department of Treasury have begun to clarify what entities may participate in a governmental plan and have initiated rulemaking to further clarify the meaning of the term “governmental plan.” While the initial guidance raised concerns that the proposed rules would work to exclude charter schools from participation in public sector pension plans, a recent notice by the IRS and Treasury suggests that, subject to certain requirements, charter school employees may remain in those plans without jeopardizing those plans’ governmental status.

Specifically, in 2011, the agencies issued an advance notice of proposed rulemaking (ANPRM) and request for comments that began the process of giving public employers clear guidance on whether the retirement plans that they sponsored were governmental plans within the meaning of Code section 414(d). The notice offered a facts and circumstances test that would further clarify what entities could participate in governmental plans.

The test that the agencies proposed in the guidance raised the question of whether a governmental pension system that admitted charter school employees, as is the case in Illinois for TRS and the CTPF, would be jeopardizing its governmental plan status under Code section 414(d). In response, members of the charter school community submitted more than 2,000 comments to the proposed rule expressing concerns that the IRS and Treasury’s guidance would require large state-funded pension plans to exclude charter school employees in order to retain governmental plan status under Code section 414(d).

In response to those comments, the agencies recently issued Notice 2015-7, which includes a clarification to the original ANPRM. In the Notice, the IRS and Treasury propose that charter schools that meet certain criteria may participate in a governmental pension plan without jeopardizing that plan’s status as a governmental plan under Code section 414(d). 

Some of the factors that the IRS and Treasury proposed with respect to charter school employee participation in public sector pension plans include whether the charter school:

  •  is a nonsectarian independent public school serving a governmental purpose that provides tuition free elementary or secondary education;
  • is operated in accordance with a specific state statute that permits the granting of charters to create independent public schools; and
  • is required or permitted to participate in the public pension plan under applicable law.

It may be a number of years before the agencies issue a final rule on this issue and it is unclear whether that final rule will limit the participation of some or all charter school employees in state and municipal pension plans. Early indications suggest that IRS and Treasury will broadly permit charter school participation in state and municipal pension plans subject to the guidelines set forth above.

 The Notice is clear that any final rule that limits the eligibility of charter school employees would not require public sector pension funds to comply immediately. The final rule would only apply prospectively with a delayed effective date which would allow charter schools to establish alternative retirement arrangements for employees.