What Is an Affiliated Service Group?

An affiliated service group (ASG) is a collection of legally separate businesses treated as a single employer for many employee benefit plan regulations. The purpose of ASG rules, found in Internal Revenue Code Section 414(m), is to prevent business owners from using multiple entities to unfairly exclude certain employees from retirement and welfare benefit plans. The rules look past the formal legal structure of companies and instead focus on the operational and ownership relationships between them. This prevents situations where a firm’s partners might enjoy generous retirement benefits while staff employed by a separate but related entity receive lesser or no benefits.

Identifying an A-Organization Affiliated Service Group

The first type of affiliated service group is the “A-Org” group, defined by the relationship between a First Service Organization (FSO) and an “A-Organization.” An FSO is an organization whose principal business is a service field like health, law, or accounting, or one where capital is not a material income-producing factor. The A-Org is an entity that is a partner or shareholder in the FSO and also collaborates with the FSO in providing services.

For an A-Org group to exist, two conditions must be met. First, the A-Org must hold an ownership interest in the FSO, with no minimum percentage required. Second, the A-Org must either regularly perform services for the FSO or be regularly associated with the FSO in performing services for third parties.

Ownership for this test includes constructive ownership rules under IRC Section 318, which attribute ownership between related parties. For instance, an individual is considered to own the stock owned by their spouse, children, grandchildren, and parents. Ownership can also be attributed from a corporation or partnership to its owners.

An example is a medical practice structured as a partnership of professional corporations. The central partnership that manages the practice is the FSO, and each doctor’s individual corporation is an A-Org. The corporations are partners in the FSO and are regularly associated with it in providing medical services, meeting both conditions.

The “regularly performs services” and “regularly associated with” clauses are based on facts and circumstances. The Internal Revenue Service (IRS) reviews the amount and consistency of service activities between the organizations to determine if the relationship is regular.

Identifying a B-Organization Affiliated Service Group

A “B-Organization” affiliated service group has a different set of criteria and does not require the B-Organization to have an ownership interest in the First Service Organization (FSO). This test focuses on a service relationship where one organization provides significant services to an FSO, combined with a cross-ownership link involving highly compensated employees (HCEs). It is designed to capture arrangements where a business outsources core functions to a separate entity owned by its HCEs.

The B-Org test has two components. The first is the “significant portion” requirement, where a significant part of the B-Organization’s business involves providing services to the FSO. These services must be of a type historically performed by employees in that service field, like paralegal services for a law firm.

Regulations provide two safe harbors to define a “significant portion.” The services-receipts safe harbor is met if at least 5% of the B-Org’s service revenue comes from the FSO. The compensation-based safe harbor is met if 5% or more of the B-Org’s compensation expense is for performing services for the FSO.

The second component is an ownership requirement. Ten percent or more of the B-Organization must be owned, in aggregate, by individuals who are HCEs of the FSO. An HCE is defined by the IRS based on ownership and compensation thresholds.

For example, consider a law firm (the FSO) whose partners are all HCEs. They form a separate company to handle the firm’s paralegal work. If these partners collectively own at least 10% of the new paralegal company and it derives a significant portion of its business from the law firm, a B-Org group is formed.

Identifying a Management-Function Affiliated Service Group

A management-function affiliated service group is formed when one organization’s principal business is performing management functions for another organization on a regular basis. This structure involves a “management organization” and a “recipient organization” and is intended to prevent companies from separating their management team into a different entity for exclusive benefits.

Management functions are the day-to-day operational and administrative duties of running the recipient organization, such as personnel management, financial control, and strategic planning. These are distinct from professional services like legal or tax advice provided by an outside consultant.

Unlike A-Org and B-Org groups, the recipient organization does not need to be a service-based business; it can be a manufacturer, retailer, or any other business type. The focus is on the relationship where the management organization’s primary business is providing these duties for the recipient.

For example, a manufacturing company might establish a separate company, “ExecuServe,” whose sole purpose is to employ the executives who manage the manufacturing company. ExecuServe is the management organization, and the manufacturing company is the recipient organization, creating a management-function ASG.

Consequences of Affiliated Service Group Status

If a group of businesses is an affiliated service group, all employees across all member entities are treated as working for a single employer for many benefit plan requirements. Failure to follow these rules can lead to severe penalties, including the disqualification of a retirement plan, which causes negative tax consequences for the employer and employees.

The primary consequences of ASG status include:

• Plan Coverage Testing: Tests under IRC Section 410(b), which require a plan to benefit a certain percentage of non-highly compensated employees, must be performed by combining the entire workforce of all member companies.
• Nondiscrimination Testing: Tests like the Actual Deferral Percentage (ADP) and Actual Contribution Percentage (ACP) for 401(k) plans are applied on a group-wide basis. The compensation, contributions, and benefits of all employees in the ASG must be aggregated for these tests.
• Service History: An employee’s service with any member of the ASG must be recognized by all other members for eligibility and vesting. An employee who moves between companies within the group does not lose their accumulated years of service.
• Contribution Limits: Statutory limits on contributions and benefits under IRC Section 415 apply to an employee as if they worked for one employer. An employee cannot exceed the annual limit by participating in plans from multiple ASG members.
• Top-Heavy Testing: The determination of whether a plan is “top-heavy,” meaning a disproportionate amount of assets are held by key employees, must be calculated by aggregating the plans and employees of the entire group.