401k Rehire Rules Irs: A Guide to Reemployment

Reemployment after a 401k plan termination can be a complex process. The IRS has specific rules governing rehire, which are outlined in the regulations.

If you were rehired by the same employer within 30 days of termination, you may be eligible for a reduced waiting period for vesting in your 401k plan. This is because the IRS considers rehiring as a continuation of your original employment.

Prior to 2001, the IRS had a 2-year waiting period for reemployment eligibility. However, this rule was changed to make it easier for employees to rejoin their former employers.

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A participant must have experienced a bona fide termination of employment in which the employer/employee relationship is completely severed to receive a distribution from a 401(k) plan on account of severance of employment.

The IRS will consider the following facts and circumstances to determine if a termination is a sham: whether the plan sponsor followed the terms of the plan document, whether the termination and processing of the distribution followed all established administrative procedures, the time interval between termination and rehire, what documentation exists to substantiate the termination and distribution, and whether the alleged sham termination involved a highly compensated employee.

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The IRS may view a rehiring scenario as a sham termination if it was pre-arranged between the employer and participant, and both parties knew the individual would be rehired.

A plan sponsor and participant(s) who collude to stage a firing/re-hiring scenario to facilitate a qualified plan distribution are potentially putting the qualified status of the plan at risk.

The IRS may consider the following factors to determine if a termination is a sham:

The IRS has provided guidance on rehiring, and it's essential to understand the rules to avoid any potential issues with your 401(k) plan. According to Revenue Ruling 69-647, a senior executive who retired from full-time employment and continued to render services to the same company, but on a part-time basis as an independent contractor, was considered to have terminated employment.

The IRS will consider the following facts and circumstances when determining whether a rehiring is allowed: the plan sponsor followed the terms of the plan document, the termination of employment and processing of the distribution followed all established administrative procedures, the time interval between termination and rehire, the documentation to substantiate the termination and distribution, and whether the alleged sham termination involved a highly compensated employee.

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Here are some key factors to consider:

In the case of a rehiring due to unforeseen circumstances, such as the current labor shortages, the IRS has clarified that it would not prevent the retirement from being a bona fide retirement. This is according to the IRS's FAQs on workforce issues and labor shortages resulting from the COVID-19 pandemic.

The IRS has specific rules regarding rehired employees and retirement plans, particularly 401(k) plans. These rules aim to prevent employers and employees from colluding to stage a sham termination and rehire to facilitate a qualified plan distribution.

A rehired employee who previously participated in a 401(k) plan may be eligible to participate in the plan immediately upon rehire, but only if they were rehired within 5 years of their previous severance of employment. This is a general rule that may be modified by the plan's terms.

Employers should review their 401(k) plan documents to determine how rehired employees are treated under those plans. Key considerations include eligibility, credit for previous eligibility and vesting service, distributions from the plan, and restoration of forfeitures.

A distribution to a rehired employee following their severance from employment without any intention at the time of returning to employment with the company is likely bona fide. However, a distribution to an employee who had a prearrangement with the company to be rehired at a later date would not be bona fide.

Here are some key points to consider when rehiring an employee who previously participated in a 401(k) plan:

Employers should be mindful of these rules to avoid any potential issues with the IRS.