March 15, 2014. The deadline for 401(k) testing has come and gone. If your clients are like many employers, they didnt do so well. Which is to say, their 401(k) plan failed to meet the 401(k) discrimination test. In other words, the highly compensated employees contributed more than allowed compared to the non-HCEs.
For 2013, not much they can do about it. They can either return excess contributions to the HCEs or make a contribution for all non-HCEs in an amount sufficient to pass the 401(k) discrimination test. This is called a qualified non-elective contribution (QNEC).
For one of our clients, it was an easy choice. Plan A would be to return approximately $17,000 in excess deferrals to the HCEs. Plan B would be to contribute approximately $165,000 to Non-HCEs. Plan A. For other employers, the choices are not as extreme.
The takeaway from this is simple: You can help your clients in future years by bringing the following planning ideas into the conversation:
- Safe harbor contribution. Subject to IRS rules, an employer can automatically pass the 401(k) discrimination test, i.e., no returns to HCECs, if the employer makes one of two kinds of safe harbor contributions. Either 3% of compensation to all eligible employees, or a matching contribution of 100% up to the first 3% of contributions, 50% up to the next 2% or contributions with a 4% maximum.
- Targeted employee communication. The objective here, of course, is to increase participation by the Non-HCEs to minimize or eliminate return to the HCEs. This may require different communication methods based on the specific demographics of the plan.
- Automatic enrollment. Part of the Pension Protection Act of 2006, automatic enrollment has been slow to catch on with the employers. But, with the growing realization that retirement readiness is a significant problem, more employers are adopting it. Simply stated, the employer automatically enrolls employees at a specific contribution level. While employees have the option to opt out, only about 9% actually do.
There are no guarantees that either targeted employee communication or automatic enrollment will be successful in increasing employee participation. But even if either one increases employee participation by just a little, that isnt such a bad thing, is it?
This information is for discussion purposes only. Taxpayers should review their individual situations with their tax advisors to obtain tax advice.
Kalish is an EBA Advisory Board Member and president of National Benefit Services, Inc., a Chicago-based third party administrator. He is a guest lecturer at John Marshall School of Law LLM Program in Employee Benefits and serves on the Great Lakes IRS Advisory Council for Tax Exempt and Government Entity Plans. He has been publishing The Retirement Plan Blog since 2006. Reach him at email@example.com and follow him on Twitter and LinkedIn.
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