RECENT CASES AND RULINGS.

• Author: Fiore, Nicholas J.

RECENT CASES AND RULINGS

PROCEDURE & ADMINISTRATION

Plan Contributions by Salary Reductions of State Employees Were Subject to FICA

Pursuant to Section 218 of the Social Security Act of 1950, New Mexico state employees are covered by the Social Security, system. In addition, New Mexico administers two qualified pension plans: one under the state Public Employees Retirement Act (PERA) and educational employees under the state Educational Retirement Act (ERA). Employee participation in these plans is mandatory.

Under Sec. 414(h)(2), contributions to state and local pension plans are treated as employer contributions, if the employer "picks up" the contribution; in this way, these contributions are not included in wages for FICA or income tax purposes. Effective July 1, 1983 (for contributions to the ERA plan) and May 21, 1986 (for the PERA plan), New Mexico picked up all designated employee contributions as employer contributions.

In 1983, Congress amended Sec. 3121 (v)(1)(B), stating that "picked up" amounts treated as employer contributions under Sec. 414(h)(2) would be considered FICA wages. In 1984, Congress again amended Sec. 3121(v)(1)(B) to reflect that any employee contributions picked up by the employer pursuant to a salary reduction agreement were FICA wages.

New Mexico challenged its FICA liability for 1983-86, arguing that, because the pickup and resulting salary reductions were mandated by state law, there was no salary reduction "agreement" and the state was not liable for FICA taxes on those contributions. After review by the Social Security Administration, New Mexico brought suit; the district court held for the government. The Court of Appeals (opinion Tacha, J.) affirms; even though the employer contributions were mandated by state law, they are made pursuant to a "salary reduction agreement."

Before discussing salary reduction agreements, we must first address what is meant by an employer "pickup" under Sec. 414(h) (2). The meaning of that term dictates understanding what a "salary reduction agreement" is under Sec. 3121(v)(1)(B). Congress did not define the phrase "pickup" and it is not readily apparent what Congress meant by use of the phrase. Accordingly, the IRS has interpreted this term in Rev. Ruls. 81-36, 81-35 and 77-462.

Contributions are deemed "picked up" by the employer under Sec. 414(h)(2) if two criteria are satisfied. First, the employer must specify that the contributions, although designated as employee...