IRS extends "same desk" rule.

In Letter Ruling 9706017, the IRS denied a retirement care company's request that its former employees at a particular facility be permitted to take Sec. 401(k) distributions. This denial signals an apparent expansion of the "same desk" rule.

Sec. 401(k) provides that a participant generally may take a distribution from a Sec. 401(k) plan only on death, disability, reaching age 59 1/2, retirement or separation from service; Sec. 401(k) plans also may be terminated and the assets distributed in the event of certain sales of subsidiaries or assets. In Rev. Rul. 79-336, the Service ruled that if a participant has a new employer because of a liquidation, merger or consolidation of the former employer, but the participant will be performing the same job in the same location for the new employer, no separation from service occurs and no right to a distribution arises; in Rev. Rul. 80-129, this "same desk" rule was extended to successor employers. The rationale is that the employee is doing the same job and can hardly be viewed as having terminated his employment. The IRS's rule is based partly on fundamental pension policy, under which plan distributions should be discouraged if possible.

In Letter Ruling 9706017, Company ran a nursing care facility staffed by its own employees. In 1996, Company decided to stop running the nursing home and to lease it to a large health care system (System), which intended to continue the facility as a nursing home. Company terminated all employees who worked at the nursing home. As part of its leasing agreement, System was allowed, but not obligated, to hire the employees terminated by Company (and did, in fact, hire certain of those employees).

As part of the arrangement, System agreed to set aside a specified number of nursing home beds for long-term clients that Company was obligated to provide for. System also agreed that if it employed any of the terminated nursing home employees, such employees would be given credit for their prior Company service (although the two entities were completely unrelated). Giving prior service credit for work with a completely unrelated entity is permitted under Regs. Sec. 1.401 (a)(4)11(d), if there is a legitimate business reason for the credit and it will be given on a nondiscriminatory basis. System hired some former Company employees, all of whom apparently retained the same jobs they previously had with Company. Company argued-that its lease of the facility caused Company's employees to be separated from service.

The Service decided that the employees were not entitled to a Company Sec. 401(k) plan distribution based on a separation from service if they ceased work with Company but were subsequently employed by System. The IRS ruled that the employees would be doing the same job at the same location and that there would be an "ongoing relationship" between Company and System.

This ruling reflects a substantial change in the "same desk" rule, and one which may have implications for transactions now occurring in the health care industry Although a letter ruling may be relied on only by the party requesting it, this letter ruling obviously reflects the Service's position that "ongoing relationships" between two otherwise separate business entities will prevent a finding of "separation from service" for those employees who work for both entities.

From Vince Amoroso, MAAA, and Martha Priddy Patterson, J.D., Washington, D.C.