Controlled Group Case Studies Ilene H. Ferenczy, Esq., APA, CPC, - - PDF document

Controlled Group Case Studies

Ilene H. Ferenczy, Esq., APA, CPC, Managing Partner, Ferenczy + Paul LLP Ilene H. Ferenczy, Esq., APA, CPC, Managing Partner, Ferenczy + Paul LLP

Ilene Ferenczy is the managing member of Ferenczy + Paul LLP with offices in Atlanta, GA, Sacramento, CA, and Knoxville, TN. Ilene particularly focuses her practice on qualified retirement plans, benefits issues in mergers and acquisitions, and advising third-party administrators of employee benefit programs on technical and practice issues. Ilene became an attorney after more than ten years as a third- party administrator, and she brings a unique and practical approach to her advice to clients.

Ilene H. Ferenczy, Esq., APA, CPC, Managing Partner, Ferenczy + Paul LLP

She is a member of the State Bars of Georgia and California, and holds designations as a Certified Pension Consultant from the American Society of Pension Professionals and Actuaries ("ASPPA”) and Accredited Pension Administrator from the National Institute of Pension Administrators. She is a nationally known speaker on benefits issues and has authored more than 70 articles and five books. Ilene is the first female co-chair of ASPPA’s Government Affairs Committee, was the 2007 recipient of ASPPA’s Educator of the Year Award, and is a Fellow in the American College

• f Employee Benefits Counsel.

Agenda

• Introduction
• Parent-Subsidiary CGs
• Brother-Sister CGs
• Combined CGs
• Attribution of Ownership
• Big Case Study

Introduction

Why Are There Controlled Group Rules?

• Congress intends that the benefits of qualified plans are

to be available only if the plans cover a broad cross- section of employees and are nondiscriminatory

• The CG rules dissuade companies from trying to bypass

these rules by using different company structures

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Effect of CG Rules

• If two or more companies are part of a controlled group,

they are treated as one company for benefits purposes for:

• Coverage (IRC §410(b))
• Nondiscrimination (IRC §401(a)(4))
• Benefits Limits (IRC §415)
• Compensation Limits (IRC §401(a)(17))
• Service Crediting (IRC §§410 and 411)
• Top-Heavy Rules (IRC §416)
• Deferral and Catch-up Limits (IRC §§401(a)(30), 414(v))

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Types of Controlled Groups

• Parent-Subsidiary
• Deals with one company owning another
• Brother-Sister
• Deals with two or more companies being owned by the same

people or entities

• Combined Groups
• Deals with entities that include some parent-subsidiaries and

some brother-sisters

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Parent-Subsidiary Controlled Groups

Parent-Subsidiary Controlled Group

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Parent Company

Subsidiary At least 80% A parent-subsidiary group exists if one company (the “parent”) owns at least 80% of another company (the “subsidiary”)

Special Rule for IRC §415

• For purposes of applying §415 limitations, the “at least

80%” ownership requirement becomes “more than 50%”

• Example:
• Mary owns 100% of M company and M company owns 70% of Z
• company. Each company sponsors a plan, and Mary (and only

Mary) participates in both plans.

• M and Z are not a controlled group for most purposes, including

coverage, eligibility, vesting because M doesn’t own at least 80% of Z.

• BUT, M and Z are a parent-subsidiary controlled group for §415

purposes, because M owns more than 50% of Z.

• So, when Mary’s maximum benefit/contribution amounts are

determined, her benefits in both the M plan and the Z plan must be aggregated.

Brother-Sister Controlled Groups

Or, For the More Cynical Among You 

Brother-Sister Controlled Groups

Brother-Sister Controlled Group

• Deals with companies owned by the same other

individuals, estates, or trusts

• Two-Part Test:
• 80% Common Control Test
• 50% Effective Control Test

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Brother-Sister Controlled Group

• 80% Common Ownership:
• Five or fewer common owners own at least 80% of each

company

• Common owners:
• Individuals
• Trusts
• Estates
• Note: not other businesses (those fall under parent-subsidiary

rules)

• Ignore common owners who own no interest in one or more of

the companies under consideration (but be careful …) – Vogel Fertilizer decision

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Brother-Sister Controlled Group: 80% Common Ownership Test

Owner Company A Company B Jonathan 70% 30% Jared 30% 60% Zoe 0% 10%

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• These three individuals own all of the two companies
• Zoe, however, has no ownership in Company A, so she is

ignored for this test

• So, Jonathan and Jared together own 100% of Company A

and 90% of Company B – 80% common ownership test is met

Brother-Sister Controlled Group: 80% Common Ownership Test

Owner Company A Company B Jonathan 70% 30% Jared 30% 10% Zoe 0% 60%

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• These three individuals own all of the two companies
• Zoe, however, has no ownership in Company A, so she is

ignored for this test

• So, Jonathan and Jared own 100% of Company A but only

40% of Company B – 80% common ownership test is failed

Brother-Sister Controlled Group

• 50% Effective Control Test:
• The same five or fewer common owners from the 80% common
• wnership test have more than 50% ownership when only

identical ownership is considered

• Identical ownership is the lowest ownership the individual has in

any of the companies being considered

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Brother-Sister Controlled Group: 80% Common Ownership Test

Owner Company A Company B Identical Ownership Jonathan 70% 30% 30% Jared 30% 60% 30% Zoe 0% 10% 0%

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• These three individuals own all of the two companies
• Jonathan’s lowest ownership is 30%
• Jared’s lowest ownership is 30%
• The total, 60%, is greater than 50% – companies are a

controlled group

Brother-Sister Controlled Group: 80% Common Ownership Test

Owner Company A Company B Identical Ownership Jonathan 90% 30% 30% Jared 10% 60% 10% Zoe 0% 10% 0%

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• These three individuals own all of the two companies
• Jonathan’s lowest ownership is 30%
• Jared’s lowest ownership is 10%
• The total, 40%, is not more than 50% - companies are not a

controlled group

Another Example

Corporation A Corporation B Identical Ownership Dylan 40% 30% 30% Maggie 20% 40% 20% Joan 35% 15% 15% Lewis 5% 0% n/a Shannon 0% 15% n/a Ownership of 5 or fewer (D, M, J) 95% 85% 65%

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• Individuals with ownership in both companies control at

least 80% (80% common control test passed)

• Same individuals have identical ownership of more than

50% (50% effective control test passed)

Be Careful When There Are More Than Two Companies

Owner Company A Company B Company C Identical Ownership Gina 20% 10% 0% 0% Barbara 35% 40% 5% 5% Louise 35% 25% 60% 5% Erica 10% 25% 35% 10% Total 80% 90% 100% 20%

• Gina has no ownership in one of the companies, so she is

ignored entirely

• The remaining 3 individuals own at least 80% of all companies

(common control test is passed)

• But, the same 3 individuals do not own more than 50% when

identical ownership is considered (50% effective ownership test is failed)

Be Careful When There Are More Than Two Companies

• Are we done?
• NO!!
• We must consider any sub-groupings of the various

companies to determine if they represent a controlled group

• Possible CGs:

A-B-C A-B A-C B-C

Be Careful When There Are More Than Two Companies

Owner Company A Company B Company C Identical Ownership Gina 20% 10% 0% 10% Barbara 35% 40% 5% 35% Louise 35% 25% 60% 25% Erica 10% 25% 35% 10% Total 100% 100% 100% 80%

• Consider first just A and B
• 4 people control 100% of both companies
• Identical ownership total is 80%
• These two companies are a controlled group

Be Careful When There Are More Than Two Companies

Owner Company A Company B Company C Identical Ownership Gina 20% 10% 0% 0% Barbara 35% 40% 5% 5% Louise 35% 25% 60% 35% Erica 10% 25% 35% 10% Total 80% 100% 100% 50%

• Now consider just A and C
• Ignore Gina (no ownership in Company C)
• 3 remaining people control at least 80% of both companies
• Identical ownership total is 50% - not more than 50%
• These two companies are not a controlled group

Be Careful When There Are More Than Two Companies

Owner Company A Company B Company C Identical Ownership Gina 20% 10% 0% 0% Barbara 35% 40% 5% 5% Louise 35% 25% 60% 25% Erica 10% 25% 35% 25% Total 100% 90% 100% 55%

• Now consider just B and C
• We ignore Gina, because she doesn’t own anything in

Company C

• The 3 remaining people control at least 80% of both

companies

• Identical ownership total is 55%
• These two companies are a controlled group

Wait a Minute There, Buddy!

• There are two controlled groups:
• Company A and Company B
• Company B and Company C
• What does this mean?
• Company B’s plan(s) must be tested twice for coverage (and

maybe nondiscrimination):

• Once with Company A
• Once with Company C
• Company B’s coverage and (if applicable) nondiscrimination must

be generous enough to meet both controlled group testing

Why Would Nondiscrimination Testing Be Affected By CGs?

• Scenario 1: If all three companies are in the same plan,

need separate coverage and nondiscrimination testing for the two controlled groups

• Scenario 2: If the plan covering the Company B

employees uses general testing, the average percentage test portion of the average benefits test takes into account all accrued benefits/contributions of all employees of the employer (unless the plans are subject to mandatory disaggregation). So, the test needs to include the employees in other controlled group members

Tax-Exempt Organizations

• No stock ownership
• 2007 Regulations (effective for 2009 forward):
• A tax-exempt organization is considered to be under common

control with another organization (tax-exempt or for-profit) if at least 80% of the Board of one organization is a representative of

• r controlled by the other
• 80% is reduced to 50% for§415 purposes
• “Representative” means: trustee, director, agent, or employee of

the exempt organization

• “Control” means: the other organization has ability to remove

such trustee or director and replace him/her with someone else. Based on facts and circumstances

Tax-Exempt Organizations

• Two companies with a common exempt purpose that

participate in the same plan can treat themselves as controlled if they “regularly coordinate their day-to-day exempt activities”

• The regulations contain an “anti-abuse” provision

allowing the IRS to treat two tax-exempts as a controlled group

Combined Controlled Groups

Combined Controlled Group

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Parent Sub 1 Sub 2

82% ownership 90% ownership

• This combined group contains one parent and two

different subsidiaries. A common parent creates one combined group that can be tested together

Combination of Parent-Sub and Bro-Sis Controlled Group

• In this case, the parent is part of a B/S Controlled Group,

as well as the Parent-Sub Controlled Group

• General rule: if a parent is in a controlled group, the

subsidiary of the parent is also in that other controlled group Parent Subsidiary Bro/Sis to Parent

• Penny and Leonard own 100% of the

parent, which owns 100% of Sub

• Penny and Leonard also own more

than 80% of Bro/Sis

Remember This Scenario?

Owner Company A Company B Company C Identical Ownership Gina 20% 10% 0% 0% Barbara 35% 40% 5% 5% Louise 35% 25% 60% 25% Erica 10% 25% 35% 10% Total 100% 100% 100% 40%

• We determined that there were two separate CGs (A-B and B-

C)

• But, there is not one big combined CG because the three

companies, considered together, did not meet the effective control test.

What About Companies That Are Not Corporations?

• Code Section 414(c) applies controlled group rules to

unincorporated entities

• Corporate ownership based on stock
• Partnership ownership based on profits or capital interest
• Trust based on actuarial value of beneficial interest
• Nonprofits ownership based on common control
• Are directors controlled by directors of other entity? If 80%+,

there is a controlled group

Attribution of Ownership (What’s Mine is Yours)

Attribution of Ownership

• Attribution means that one person/entity’s ownership

is considered to be owned by a related person or entity

• Family attribution
• Attribution among companies, trusts, etc.

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Attribution Among Spouses

• A spouse is generally considered to own all the

stock owned by his/her spouse

• Exception:
• Spouse has no direct ownership in owner’s business
• Spouse is not a director or employee of the business, nor does

he/she participate in management of the business

• No more than 50% of the income is derived from passive activity
• No disposition restrictions in favor of spouse or minor children
• Community property state problem: each spouse is

considered to own 50% of community

• So does the exception apply?

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Attribution Among Parents and Children

• Parent considered to own stock of minor children
• Parent considered to own stock of adult children if parent
• wns more than 50% of the business
• Minor child is considered to own stock of parent
• Adult child is considered to own stock of parent only if

child owns more than 50% of the business

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Example: Adult Kids

• Jerry owns an accounting firm and his adult son,

Jonathan, owns a comic book store. Neither has an interest in the other’s business.

• A parent’s ownership in a company attributes to a child
• nly if the child owns at least 50% of the company. Jerry
• wns nothing in the comic book store to attribute to

Jonathan.

• A child’s ownership in a company attributes to a parent
• nly if the parent owns at least 50% of the company

Jonathan owns nothing in the accounting firm to attribute to Jerry.

Example: Adult Kids

• Suppose instead that Jerry and Jonathan each own 10%
• f the other’s business.
• Jerry’s interest in the comic book store would attribute to

Jonathan, because Jonathan owns more than 50% of the comic book store (so, Jonathan’s actual and attributed interest total 100%)

• Jonathan’s interest in the comic book store does not attribute to

Jerry, because Jerry does not own 50% of the store

• Jonathan’s interest in the accounting firm would attribute

to Jerry, because Jerry owns more than 50% of the accounting firm (so, Jerry’s actual and attributed interest total 100%)

• Jerry’s interest in the accounting firm does not attribute to

Jonathan, because Jonathan does not own 50% of the firm

Attribution Between Grandparents and Grandchildren

• Grandparent considered to own stock of grandchild if

grandparent owns at least 50% of the company

• Grandchild considered to own stock of grandparent if

grandchild owns at least 50% of the company

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The “Minor Child” Problem

• Suppose Ilene owns a law firm and her husband, Jerry,
• wns an accounting firm and neither is involved in the
• ther’s company
• They do not live in a community property state
• Pursuant to the spousal exception, their company

interests do not attribute to each other because of the spousal exception

• But, their daughter, Zoe, is a minor

The “Minor Child” Problem

• Ilene’s interest in the law firm attributes to Zoe, who is a

minor child

• Jerry’s interest in the accounting firm attributes to Zoe
• Zoe is considered to own 100% of both companies

through parent-child attribution

• The companies are in a controlled group as the spousal

exception is not an exception to child attribution (Yikes!)

Attribution Among Siblings

• None

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Example

• Besides Jonathan (the comic book store owner), Ilene

and Jerry have another son: Jared, who owns a record store.

• Jared and Jonathan’s interest in their respective businesses do

not attribute to each other (or to their sister, Zoe)

• There is no attribution between Ilene and Jerry and their sons, as

there is no cross-ownership and ownership only attributes between adult kids and their parents if one of them owns 50% of the company

Double Attribution

• Generally, there is no double attribution among family

members

• Double Attribution:
• The ownership of a company attributes from one family member

to another … and then attributes to a third family member who is not related to the original owner

• Example 1 (no double attribution):
• Ilene’s interest in her company attributes to her husband, Jerry
• Ilene’s interest in her company attributes to her minor child, Zoe
• Example 2 (double attribution):
• Ilene’s interest in her company attributes to her husband, Jerry
• Jerry’s interest in Ilene’s company then attributes to his daughter

from an earlier marriage (i.e., not Ilene’s child), Mergatroid

Business Attribution - Partnerships

• 5% partner is considered to own a proportionate share of

a company owned by the partnership

• This rule also applies to LLCs that elect to be taxed as a

partnership, and LLPs

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Example 1

• Susan and Barbara are partners in a partnership, SB.

Susan’s interest is 4% and Barbara’s interest is 96%.

• SB owns 20% of another company, ABC.
• Because Barbara owns 5% or more of SB, she is

attributed a pro-rata share of the stock in ABC: 96% (her

• wnership of SB) x 20% (SB’s ownership of ABC) =

19.2% of ABC is deemed to be owned by Barbara

• Because Susan’s interest in SB is less than 5%, she is

attributed none of the stock in ABC.

Example 2: A Variation of Example 1

• Susan and Barbara are partners in a partnership, SB.

Susan’s interest is 5% and Barbara’s interest is 95%.

• SB owns 20% of another company, ABC.
• Because Barbara owns 5% or more of SB, she is

attributed a pro-rata share of the stock in ABC: 95% (her

• wnership of SB) x 20% (SB’s ownership of ABC) = 19%
• f ABC is deemed to be owned by Barbara
• In this example, Susan owns 5% of SB. Therefore, she

now is attributed her pro-rata share of the ABC stock

• wned by SB: 5% x 20% = 1%

What Is Partnership Ownership?

• Ownership of either capital or profits share of the

partnership counts for attribution purposes.

• Example:
• Martha is a nonequity partner in a legal partnership. She has no

capital ownership, but gets 10% of the profits.

• She would be attributed her pro-rata share of any entity that the

partnership owns.

Business Attribution - Corporations

• 5%+ shareholders are considered to own proportionate
• wnership in stock owned by the corporation
• Note: ownership is based on value, so you would aggregate the

value of all the various classes of stock

• Owner of options considered to own the relevant share of

the company

• Treasury stock is attributed to no one

Example 1

• Erica and Aaron are 50% shareholders in a corporation,

EA, Inc.

• EA, Inc. owns 40% of another entity, XYZ.
• Erica and Aaron are each deemed to own 20% (50% x

40%) of XYZ.

Example 2

• Erica is a 4% shareholder and Aaron is a 96%

shareholder in a corporation, EA, Inc.

• EA, Inc. owns 40% of another entity, XYZ.
• Aaron is deemed to own 38.4% of XYZ.
• There is no attribution to Erica, because she does not
• wn at least 5% of EA.

Example 3

• Continuing the facts of Example 2 (Aaron owns 96% and

Erica owns 4% of EA):

• Aaron has granted Erica an option in half of his shares of EA.
• Erica is deemed to own 48% of EA, plus her direct interest of 4%,

for a total of 52% of EA.

Attribution from Estates and Trusts

• Beneficiary considered to own actuarial share of stock
• wned by trust/estate if such interest is 5% or more
• Grantor of trust is considered to own the stock owned by

the trust

Big Case Study

Big Case Study

• Facts: The Ward Family and the Farmer Family share
• wnership in WF, Inc. and Ward-Farmer Manufacturing,
• Inc. Members of the Ward Family also have ownership in

another company.

• Question: Are there any controlled groups?
• Companies at issue:
• WF, Inc.: 40% by Mark Ward, 10% by Marta Ward, 10% by Scott

Farmer, 5% by Macie Farmer, 5% by Les Farmer, 30% by Farmer Family Trust

• Brynne Management, Inc.: 100% by Brynne Ward
• Ward-Farmer Manufacturing, Inc.: 10% by Marta Ward, 50%

by Lisa Farmer 10% by Les Farmer, 30% by Macie Farmer,

Big Case Study

• Family Relationships:
• Ward Family:
• Mark and Marta are married
• Brynne is their adult daughter
• Farmer Family:
• Lisa and Scott are married
• Les is their adult son
• Macie is their minor daughter
• Lisa and Scott are grantors of the

Farmer Family Trust

Mark Marta

Brynne

Scott Lisa

Les Macie

Big Case Study

• Actual Owners:

WF, Inc. Brynne Mgmt Ward - Farmer Mfg Mark W. 40% 0% 0% Marta W. 10% 0% 10% Brynne W. 0% 100% 0% Scott F. 10% 0% 0% Lisa F. 0% 0% 50% Les F. 5% 0% 10% Macie F. 5% 0% 30% Farmer Trust 30% 0% 0% Total 100% 100% 100%

Big Case Study

• Because no company owns another company, we do not

have any parent-subsidiary CGs – everything is either a B-S group or not controlled

Big Case Study

• Attribution of Ownership: Family
• Because we need to attain a certain level of ownership to get a

controlled group, I find the best way to do this is to attribute as much as possible to one person in the family, then do other layers of attribution to lesser owners

• If there is no attribution from a given entity to the one person I

picked, does it attribute to anyone else in the family?

Big Case Study – Ward Family Attribution

WF, Inc. Brynne, Inc. Ward-Farmer Mfg. Mark 40% + 10% from Marta (spousal) No attribution from Brynne, as she is an adult 0% + 10% from Marta Marta 10% - 10% attributes to Mark No attribution from Brynne, as she is an adult 10% - 10% attributes to Mark Brynne 0% no attribution from either parent, as she is an adult 100% 0%

Big Case Study – Farmer Family Attribution

WF, Inc. Brynne, Inc. Ward-Farmer Mfg. Scott 10% - 10% attributes to Lisa 0% 0% Lisa 0% +10% from Scott + 5% from Macie (she’s a minor) + 30% from Farmer Trust 0% 50% + 10% from Les (she owns 50% so gets attribution from adult son) + 30% from Macie Les 5% no attribution to/from either parent, as he is an adult and they do not own 50% 0% 10% - 10% attributes to Lisa Macie 5% - 5% attributes to Lisa 0% 30% - 30% attributes to Lisa Farmer Trust 30% - 30% attributes to Lisa (grantor) 0% 0%

OK, Let’s Re-Look at Ownership

• Attributed Owners:

WF, Inc. Brynne Mgmt Farmer Mfg Mark W. 50% 0% 10% Marta W. 0% 0% 0% Brynne W. 0% 100% 0% Scott F. 0% 0% 0% Lisa F. 45% 0% 90% Les F. 5% 0% 0% Macie F. 0% 0% 0% Farmer Trust 0% 0% 0% Total 100% 100% 100%

Let’s Apply the Rules (to all 3 Cos)

Owner WF, Inc. Brynne Mgmt Farmer Mfg Identical Ownership Mark 50% 0% 10% 10% Brynne 0% 100% 0% 0% Lisa 45% 0% 90% 0% Les 5% 0% 0% 0% Total 100% 100% 100% 10%

• No one has ownership in all 3 companies, so they cannot be a

controlled group

• Brynne is the only owner of Brynne Management, and she
• wns nothing in any of the other companies, so Brynne

Management cannot be a part of a CG with any of these entities

Let’s Apply the Rules (to just WF and FM)

Owner WF, Inc. Brynne Mgmt Farmer Mfg Identical Ownership Mark 50% 0% 10% 10% Brynne 0% 100% 0% 0% Lisa 45% 0% 90% 45% Les 5% 0% 0% 0% Total 95% 100% 100% 55%

• Eliminate Brynne and Les from consideration because they do

not own anything in one or both of the companies

• 3 remaining individuals own at least 80% of both companies
• The same 3 individuals own more than 50% when identical
• wnership is considered
• These two entities make up a Brother-Sister Controlled Group

QUESTIONS?

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Contact Information

ILENE H. FERENCZY

Ferenczy + Paul LLP 2200 Century Parkway, Ste. 560 Atlanta, Georgia 30345 (678) 399-6602 ilene@ferenczypaul.com

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