Employee Benefits Alert
Government Begins Focus on “Top Hat” Plans: Reminder to Check for Compliance
Note: The Supreme Court recently issued a groundbreaking decision that directly impacts many employee benefit plans. Please see our July, 2013 Tax and Trusts & Estates UPDATE: “Supreme Court Invalidates Key Section of "DOMA" On Constitutional Grounds.” If you have any questions concerning the impact of this decision on your employee benefit plans, please contact Jim Karas or Amanda Albert of Riker Danzig's Employee Benefits and Executive Compensation Group.
Employers that sponsor or maintain “top hat” plans should remember that these plans demand scrutiny and must be checked regularly for compliance with any applicable requirements under the Employee Retirement Income Security Act of 1974, as amended (“ERISA”), and the Internal Revenue Code of 1986, as amended (the “Code”). The federal government recently announced that it would implement a compliance check project for certain top hat plans.
Unfunded nonqualified deferred compensation plans maintained by employers for a select group of management or highly compensated employees often are referred to as “top hat” plans. In some cases, an employer may not realize that it sponsors a top hat plan, which may be contained in an executive employment agreement or separation arrangement. Top hat plans are exempt from most requirements of ERISA, such as the participation, vesting, funding and fiduciary responsibility provisions applicable to ERISA pension plans, but are subject to ERISA’s administration and enforcement provisions, as well as certain limited reporting and disclosure requirements.
A plan that would otherwise be an ERISA pension plan is considered a top hat plan only if the plan is maintained by an employer primarily to provide deferred compensation for a select group of management or highly compensated employees, and provides benefits using either or both the general assets of the employer or insurance contracts or policies with premiums paid from the general assets of the employer. See 29 C.F.R. §2520.104-23(d).1 A top hat plan satisfies ERISA’s reporting requirements through the filing of a notification letter with the Department of Labor (“DOL”) that includes: (1) the employer’s name, address and employer identif ication number; (2) a declaration that the employer maintains the plan primarily for the purpose of providing deferred compensation for a select group of management or highly compensated employees; and (3) the number of such plans and the number of employees in each plan. See 29 C.F.R. §2520.104-23(b). The top hat plan letter must be filed with the DOL within 120 days after the plan becomes subject to Part I of Title I of ERISA. This is a one-time requirement, and only one letter is needed for each employer maintaining one or more top hat plans. If a top hat plan fails to timely provide this letter to the DOL, the plan is subject to ERISA’s standard reporting and disclosure requirements.
ERISA’s general enforcement rules also remain applicable to top hat plans. For example, top hat plans are not excluded from ERISA section 503, which requires every employee benefit plan to have a claims procedure.
If a plan intended to be a top hat plan is no longer considered as such (for example, because the group of employees eligible to participate in the plan becomes overly broad), then significant adverse consequences could result, including the plan’s becoming subject to the burdensome requirements of an ERISA pension plan and being considered a nonqualified plan for tax purposes, which could result in immediate income inclusion to plan participants.
On June 24, 2013, the Internal Revenue Service announced, via its electronic newsletter, Employee Plans News, that its Employee Plans Compliance Unit will undertake a compliance check project focused on certain non-governmental top hat plans established pursuant to Code section 457(b). 2 See http://www.irs.gov/Retirement-Plans/Employee-Plans-News. This could be the first step in a larger effort by the government to focus on top hat plan compliance. As a result, employers are encouraged to review the coverage, documentation and operations of their top hat plans to avoid unintended consequences.
 Neither ERISA nor related regulations define the phrase “primarily for the purpose of providing deferred
compensation for a select group of management or highly compensated employees,” and the DOL has not articulated a bright-line standard for defining what constitutes a select group of management or highly compensated employees. However, the DOL has determined that the definition of “highly compensated employee” in Code section 414(q) is not a safe harbor for determining top hat plan status, and has also indicated that the top hat group should be limited to individuals who, by virtue of their position or compensation level, have the ability to affect or substantially influence the design and operation of the arrangement and therefore would not need the substantive rights of Title I of ERISA. See DOL Adv. Op. 90-14A (5/8/90).
 Code section 457(b) permits tax-exempt entities to sponsor nonqualified deferred compensation plans for some groups of highly compensated employees, managers, directors, or officers, and these plans are subject to the specific requirements and deferral limitations of Code section 457.