In California, charter schools are public schools that do not charge tuition or impose special entrance requirements, but are generally operated on an independent basis from local school systems. Because of the “public” nature of these schools and the fact a number of California’s more than 1300 charter schools participate in CalSTRS or CalPERS, many retirement plan advisors and consultants assume that charter schools are “governmental” for tax code (Code) employee benefit purposes. This characterization isn’t always clear cut, but the consequences of getting it wrong can be substantial.
A governmental plan, as described in Section 414(d) of the Code and Section 3(32) of ERISA, is a plan established and maintained by the Federal government, a state or local government, a political subdivision, or an instrumentality or either and is exempt from Titles I and IV of ERISA (those regulated by the DOL and the PBGC). It also is not subject to many of the tax qualification rules and requirements applicable to a private sector plan, such as coverage, nondiscrimination, post-1974 vesting, and minimum funding rules. Despite the obvious importance of this characterization or determination, there currently are no regulations interpreting Section 414(d) of the Code.
If a 403(b) plan or 401(a) plan of a charter school is not considered a governmental plan, it is subject to all of the fiduciary rules (and penalties) imposed by the DOL and would be subject to Title I’s Form 5500 reporting/filing requirements. More importantly, large, multiple employer retirement systems such as CalPERS or CalSTRS are themselves intended to be governmental plans and are not supposed to have any nongovernmental entities as participating employers.
In the fall of 2011, the IRS and Treasury Department announced their intention to provide regulatory guidance regarding the definition of a governmental plan. The task, complicated by the proliferation “governmental” and “quasi-governmental” entities, such as charter schools, to carry out the obligations of government, remains unfinished (we are without proposed regulations) almost ten years later. The situation has been exacerbated by the reluctance of the IRS or DOL to provide specific taxpayer guidance (e.g., private letter rulings or advisory opinions) while the regulation project is still pending.
One important exception to this lack of guidance was Notice 2015-07, issued by the IRS to address over 2,000 comments from members of the charter school community. The principal concern raised was whether employees of certain charter schools would be allowed to participate in state-wide public retirement systems such as CalSTRS or CalPERS. The Notice also had, and continues to have, important implications for whether any standalone 457(b), 401(a) or 403(b) plan of a charter school would be considered a governmental plan. Although the Notice is not intended to address all charter school situations, it does provide a limited “safe harbor” – the so-called (a) through (e) – requirements (Requirements). If these are met, it would seem to protect and justify a charter school’s determination of its governmental status for plan purposes.
Having gone over the Requirements with a number of charter schools, we believe that many existing schools do not currently satisfy the Requirements, particularly those whose governing boards are self-appointed or elected from the community. This raises a number of important, time-sensitive retirement, employee benefit, and payroll tax issues for these charter schools and their employees.
Jeff Chang is a partner at Best Best & Krieger LLP. He has four decades of experience skillfully evaluating benefit and retirement plan compliance to achieve maximum outcomes for public agency clients throughout California. He can be reached at firstname.lastname@example.org or (916) 329-3685.