Professional employer organization (PEO)

What a PEO is

In a PEO arrangement, the PEO pays wages and employment taxes and gives access to its benefit plans, while the client directs the day-to-day work. The IRS runs a voluntary certification program for PEOs. A certified PEO (CPEO) takes sole responsibility for federal employment taxes on the wages it pays.

Why it matters to employers

For retirement plan purposes the IRS treats the client, not the PEO, as the employer of its worksite employees. That is why a PEO’s 401(k) has to be a multiple employer plan in which each client is an adopting employer, and why testing is done client by client. A client can usually join the PEO’s plan or sponsor its own. Leaving the PEO later means moving your part of the plan to a new one.

Example

A 30-person company joins a PEO and adopts the PEO’s 401(k). The PEO files one Form 5500 for the whole plan. Two years later the company leaves the PEO, and its employees’ balances are transferred to a new standalone 401(k) after a blackout period.

Common mistakes

• Assuming the PEO carries every fiduciary duty. The adopting employer still has to choose the plan prudently and monitor it.

• Forgetting that controlled group rules still count employees at related companies that are not in the PEO.

• Leaving the PEO without a plan for the 401(k) transfer.