Every now and then, the idea that plan documents should include language which automatically forfeits the non-elective portion of a participant’s account balance if the participant leaves the employer and goes to work for a competitor. This language is known as a “Bad Boy Clause” in the plan document.
The concept is fairly simple – employers do not want to provide profit sharing or matching contributions to an employee who leaves to work for a competitor. The plan language often will refer to such a forfeiture as a penalty for violating the participant’s non-compete agreement.
The IRS’ position on bad boy clauses is also fairly simple – bad boy clauses are not permitted in qualified plans. Treasury Regulation 1.411(a)-4T(c) states:
(c) Examples. The rules of this section are illustrated by the following examples:
Example (1). Corporation A’s plan provides that an employee is fully vested in his employer-derived accrued benefit after the completion of 3 years of service. The plan also provides that if the employee works for a competitor he forfeits his rights in the plan. Such provisions could result in the forfeiture of an employee’s rights which are required to be non-forfeitable under section 411 and therefore the plan would not satisfy the requirements of section 411. If the plan limited the forfeiture to employees who completed less than 5 years of service, the plan would not fail to satisfy the requirements of section 411 because the forfeitures under this provision are limited to rights which are in excess of the minimum required to be nonforfeitable under section 411(a)(2)(A).
The language in this example is clear – a qualified plan cannot include a bad boy clause and still remain qualified. Even though employers may feel betrayed by an employee who goes to work for a competitor, the employer is not permitted to forfeit the employee’s accrued benefit, or vested non-elective contributions, in order to punish the employee. Once an account balance is vested, the employer cannot forfeit it because the employee violates their non-compete agreement.
Technorati Tags: Pension Protection Act, ppa, pension, retirement, bad boy clause, non-compete, noncompete, vesting, forfeiture, ERISA
3 responses so far ↓
1 Lawrence Zeller // May 5, 2008 at 1:40 pm
If a plan has an accelerated vesting schedule that provides vested percentages greater than the minimum statutory required percentages, the plan may provide a bad boy clause that reduces the vested percentage down to the statutory minimum in the event that the employee commits a bad boy act.
2 Suzanne Wynn // May 5, 2008 at 4:35 pm
Thank you for your comment. I could see how the last sentence of Treas. Reg. 1.411(a)-4T(c) could be interpreted this. What authority has the IRS accepted for taking a vested benefit from a participant for violating a non-compete clause?
3 Jeremy Rodriguez // May 15, 2009 at 12:12 pm
The following citations involve court cases dicussing the application of the bad boy clause. I can’t remember if any explicitly address non-competes, but I know Sal Tripodi in the ERISA Outline book uses non-competes as an example of “causes” in a bad boy clause.
1) Hepple 622 F.2d 962 (8th Cir. 1980)
2) Hummell 634 F.2d 446 (9th Cir. 1980)
3) Noell 764 F.2d 827 (11th Cir. 1985)
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