Student Loan Repayment Programs: What Are They & How Will the IRS Respond?

Student Loan Repayment Programs

Employers continually search for new and creative ways to attract and retain new talent. Over the past few years, the rising amount of student loan debt has come to the attention of many employers. Paying off this debt not only affects employees’ current disposable income, but also their future retirement potential. In light of this, some employers are offering a new kind of benefit: a student loan repayment (SLR) program.

How It Works
One possible structure for an SLR program is to offer it as part of a 401(k) plan, as exhibited by the employer in this 2018 Private Letter Ruling. Under that plan, the employer would continue to make matching contributions to its employees’ retirement accounts based on employee contributions; however, the employer’s contributions would expand to include “matching” contributions based on employees making student loan repayments during the pay period that exceed a certain threshold. 

To be eligible, an employee must make a loan repayment of at least 2 percent of his or her eligible compensation for a pay period and be employed by the employer on the last day of the plan year. If these requirements are met, the employer will make a nonelective contribution to the retirement plan equal to 5 percent of the employee’s eligible compensation for the applicable pay period(s) soon after the end of the year.

The SLR program is voluntary and subject to all plan requirements, such as vesting, contribution limits and nondiscrimination testing. One important thing to note is that student loans are not offered as part of the program. An election to enroll is available to all employees, along with an option to prospectively opt out of enrollment. 

While enrolled, an employee isn’t eligible to receive a regular matching contribution from the employer for elective contributions made to the plan. Employees can, however, receive a “true-up matching contribution” soon after the end of the year for those pay periods where they only made an elective contribution and didn’t make a loan repayment. 

Concerns to Consider
The implementation of an SLR program does raise some interesting concerns while awaiting guidance from the IRS. Employers that provide qualified plans under the Employee Retirement Income Security Act of 1974 guidelines, such as 401(k) plans, can receive certain tax benefits; however, will employer contributions under an SLR affect the qualified status of a retirement plan? Benefit plans are required to meet certain nondiscrimination tests, including not favoring highly compensated individuals. How will employers meet these tests?  

Under Internal Revenue Code (IRC) Section 401(k)(4)(A), employers that make nonelective contributions cannot condition this contribution on the basis that the employee first makes an elective contribution. The above employer requested a private letter ruling from the IRS on this very point. Under the SLR program, the employer’s contributions are conditioned on whether an employee makes a student loan repayment, not on the employee making elective contributions. Furthermore, an employee who makes student loan repayments and receives a “matching” employer contribution is still permitted to make elective contributions; therefore, the employer’s contribution isn’t conditioned on the employee electing to have the employer make (or not make) contributions under the arrangement in lieu of receiving cash. While the IRS stated this employer’s plan was in line with the “contingent benefit” prohibition of IRC §401(k)(4)(A), is this how the IRS will continue to interpret this code section outside of a private letter ruling?

It’s important to keep in mind that a private letter ruling only applies to the taxpayer who requested the ruling from the IRS; however, the increasing importance of this subject has prompted the IRS to begin developing guidance applicable to all taxpayers. While a guidance project is underway, it’s customary for the IRS to put a hold on issuing further private letter rulings on the subject. Employers considering implementing a similar plan may want to hold off until broader guidance is issued.   

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