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The information on this page should be used as a guideline only. The definitions here do not constitute legal definitions, but exist only to help you gain a better understanding of some of the statutes and regulations that may govern the operation of your plan. To ensure compliance with all necessary regulations governing your plan(s), please consult your legal or financial advisors, or contact The Omega Pension Group.
1). 401(a)(26) - Participation tests 2). 414(s) - Compensation definition 3). 410(b) - participation requirements test 4). 401(a)(4) - benefit nondiscrimination requirements test 5). 401(k) - Nondiscrimination test (employee deferrals) 6). 401(m) - Nondiscrimination test (employer matching 7). 415(c) - Annual additions limit 8). 404(a)(3) - Deductibility limits 9). 401(a)(17) - Eligible compensation dollar limit 10). 402(g) - Employee deferral dollar limit 11). 416 - Top Heavy plan rules 12). ERISA 404(c) - Fiduciary Compliance Regulations 13). 401(a)(17) - Highly Compensated Employee Definition 14). 416(i)(1) - Key Employee Definition 15). 414(g) - Family aggregation rules 16). 4975 - Prohibited Transactions
1). 401(a)(26) - Participation tests If a plan benefits the lesser of 50 employees or 40% of all non-excludable employees (<age 21, 1 year of service), the plan passes the test. A plan's failure to satisfy this 50-40 test will result in each highly-compensated (HC) employee having to include his/her vested accrued benefit in income for that year. This test was repealed as of 1/1/97 for Defined Contribution plans, but is still in effect for Defined Benefit Pension plans. 2). 414(s) - Compensation definition If bonuses, overtime, and/or other taxable income are excluded from plan compensation, then either the Aggregate, Individual, or Combination method of discrimination testing must be used to prove that the plan's definition of plan compensation is non-discriminatory. The Inclusion percentage (I%) needs to be calculated - the formula is PLAN COMP/TOTAL COMP. If I% for HC employees is greater than the I% of NHC employees, the plan definition of compensation may be discriminatory. You must be able to justify the difference. Total Compensation is defined by 414(s) to be compensation as defined by 415(c), but you may add 401(k) deferrals & Sec.125 employee contributions to to 415(c) Compensation to get Total Compensation. Generally, 415(c) compensation means wages which are taxable for federal income tax purposes. The IRS prefers the individual method, which works similarly to 401(k) testing, only you're determining I%, not deferral %. 3). 410(b) - participation requirements test This test ensures that the required percentage of non-highly compensated employees are covered by the plan. The code section calls for a plan or plans of an employer to pass one of two tests. The first, called the Ratio Percentage Test, says that the ratio of Non-Highly compensated employees benefiting under the plan, divided by the ratio of Highly-Compensated employees benefiting under the plan, must be 70% or more. The second, more complex test, is called the Average Benefit test. It consists of two sub-tests; The Nondiscriminatory Classification test, and the Average Benefit Percentage test. Union employees, non-resident alien employees, and employees who are excluded because of not reaching age 21, and/or do not have one year or more of service, do not have to be included in any 410(b) test. In addition, family members were aggregated into a group, and that group was treated as a single person for purposes of the test. This family aggregation requirement has been repealed. 4). 401(a)(4) - benefit nondiscrimination requirements test This test makes sure that benefits received by plan participants do not discriminate in favor of Highly-compensated participants. This is an extremely complex test. Luckily, as long as a plan utilizes "safe harbor" benefit/contribution formulas, it is not required to be tested. Many plans have benefit/contribution formulas that fall into the "safe harbor" category. 5). 401(k) - Nondiscrimination test (employee deferrals) A 401(k) plan must meet one of the following tests: (a). the Average Deferral Percentage (ADP) for the highly-compensated participants must not be more than 1.25 times the ADP for the non-highly compensated group; or (b) the ADP for the highly-compensated participants must not be more than two (2) percentage points higher than the ADP for the non-highly compensated participants, and the ADP of the highly-compensated group cannot be more than two (2) times the ADP for the non-highly compensated group. If the ADP of the non-highly-compensated group is: 1). 8% or higher, then the ADP of the highly-compensated group can't exceed 1.25 times the ADP of the non-highly compensated group; 2). 2% or less, then the ADP of the highly-compensated group can't exceed two (2) times the ADP of the non-highly-compensated group; 3). between 2% and 8%, then the ADP of the highly-compensated group can't be more than 2% points above the ADP of the non-highly compensated group. The ADP only applies to employee deferral contributions. 6). 401(m) - Nondiscrimination test (employer matching and employee after-tax contributions) A 401(k) plan with matching and/or employee after-tax contributions must, in addition to the ADP test, meet one of the following additional tests: (a). The Average Contribution Percentage (ACP) for the highly-compensated participants must not be more than 1.25 times the ACP for the non-highly compensated group; or (b) the ACP for the highly-compensated participants must not be more than two (2) percentage points higher than the ACP for the non-highly compensated participants, and the ACP of the highly-compensated group cannot be more than two (2) times the ACP for the non-highly compensated group. The ACP test only applies to employer matching and employee after-tax contributions 7). 415(c) - Annual additions limit for Defined Contribution Plans All contributions (employer, employee deferral, employer matching, employee voluntary, forfeitures, etc.) allocated to a participant's account must in total be no more than the lesser of 100% of the participant's compensation or, currently (2010), $49,000, per plan year. 8). 404(a)(3) - Deductibility limits Beginning in 2002, for 401(k) and Profit Sharing plans, an employer can deduct no more than 25% of total eligible participant compensation per plan year. In a 401(k) plan, this 25% limit is applied to total compensation including all employee deferrals. In other plans, the plan document specifies whether or not deferrals are included in the plan definition of compensation. 9). 401(a)(17) - Eligible compensation dollar limit For all plans, for purposes of determining benefits and contributions, participant compensation is limited per individual to a specific dollar amount each plan year. Currently (2010), that amount is $245,000. If, for example, a participant earns $300, 000 in a given plan year, the participant's contribution or benefit can only be based on $245,000, not $300,000. 10). 402(g) - Employee deferral dollar limit For 401(k) plans, employee deferral amounts are limited to a specific dollar amount each year. However, unlike most other plan limitations, which are based on a plan year, this limitation is based upon a calendar year. The current (2010) dollar limitation is $16,500. So, a participant can defer no more than $16,500 in calendar year 2010 to his/her 401(k) plan account. There is an exception for those participants who are 50 years old and older. Those participants can defer an additional amount called a "Catch-up" deferral. Currently (2010) that "Catch-up" amount is $5,500. 11). 416 - Top Heavy plan rules A top heavy plan is defined by the Internal Revenue Code as a plan in which the aggregate of the accounts of all key employees exceeds sixty percent (60%) of the aggregate of the accounts of all employees. This rule impacts several aspects of the plan's operation, including the vesting schedule and participant benefits. If a plan is top-heavy, the employer-provided benefits must vest at a pace no slower than either 20% per year after the first year of service, or 100% after the first three years of service with no vesting in the first two years. A top-heavy defined benefit plan must provide an annual accrued benefit to non-key employees equal to the lesser of 2% of annual compensation times years of service, or 20% of compensation. A top-heavy defined contribution plan must provide a contribution to non-key employees equal to the lesser of 3% of compensation, or a percentage of compensation equal to the key employee whose contribution constituted the highest percentage of compensation for the year. 12). ERISA 404(c) - Fiduciary Compliance Regulations The Employee Retirement Income Security Act of 1974 (ERISA) includes Act Section 404(c) containing a limited exemption from the normal plan fiduciary duties for plans where participants exercise control over the investments in their individual accounts. In October 1992, the Department of Labor issued final regulations interpreting and explaining how Act Section 404(c) actually works. The following is addressed to plan fiduciaries and provides a summary of those regulations. WHAT DO THE REGULATIONS DO? The new regulations limit your potential liability as a fiduciary for the investment of plan assets. If the conditions of the final regulations are met, you as the plan sponsor or fiduciary responsible for selection of your plan's investment alternatives will not be subject to fiduciary liability for account losses attributable to participants' elections for investment of their account balances. If your plan conforms to the regulations, the Department of Labor will not view it as a breach of fiduciary responsibility if one of your participants elects to participate in a plan investment option and later realizes an account loss due to a market decline. HOW DO YOU CONFORM YOUR PLAN TO THE FINAL REGULATIONS? •Your plan must offer at least three investment alternatives, each one of which is diversified and has materially different risk and return characteristics. •Your plan must permit participants to elect to transfer funds between investment alternatives at least quarterly. •You must automatically provide participants with certain investment information and make additional information available on request. WHAT INFORMATION MUST YOU GIVE TO PLAN PARTICIPANTS? •An explanation that the plan is intended to constitute a Section 404(c) plan and that plan fiduciaries may be relieved of liability for losses that are the result of participants' investment elections. •A description of all of the plan investment alternatives, including a general description of the risk and return characteristics of each alternative. •Identification of the designated investment manager(s) for each investment alternative. •An explanation of how participants are to give investment instructions and any limits or restrictions which apply to their ability to give instructions. •A description of any transaction fees or expenses which are charged to participants' accounts. •A description of additional information that will be made available upon request. •A specimen 404(c) Notice to Plan Participants is attached. You may adapt the notice draft to meet your particular plan's characteristics. WHAT INFORMATION MUST YOU MAKE AVAILABLE UPON PARTICIPANT REQUEST? •A description of the annual operating expenses that apply to each investment alternative. •Copies of financial statements and other reports for each investment alternative. •A listing of investment portfolio holdings or the name of the insurance company issuing insurance or annuity contracts. •A summary of current and past investment results. •The participants' account balance in each investment alternative as of the most recent plan valuation date. WHEN DID THE REGULATIONS TAKE EFFECT? The regulations took effect with the beginning of the second plan year beginning after October 13, 1992. For a calendar-year plan, the regulations became effective January 1, 1994. IF I MEET ALL OF THE ABOVE REQUIREMENTS, AM I GUARANTEED 404(c) COMPLIANCE PROTECTION? Unfortunately, no. The final regulations did not provide any provisions for proactive Department of Labor certification of a plan's status under 404(c). Actual compliance is determined by the Department of Labor based on the facts and circumstances discovered in the course of a Department plan audit. Evidence of a plan sponsor's good faith efforts at 404(c) compliance will be considered in the event of an audit. Section 404(c) liability protection is limited to the protection discussed above. 404(c) compliance will not insulate a plan fiduciary from losses which are not the result of a participant's exercise of investment control, but which instead are the results of a fiduciary's act or omission in the selection and monitoring of plan investments or other breaches of fiduciary duty. Compliance with 404(c) regulations is not mandatory. Each plan sponsor needs to make their own compliance decision based on their particular circumstances. However, most plan sponsors will find total or substantial compliance with the above requirements to be of significant value in helping plan participants make informed decisions about their retirement savings and in improving employee satisfaction with their retirement plan. 13). 401(a)(17) - Highly Compensated Employee Definition An employee is considered to be highly compensated if: a. He/she is a 5% owner of the employer at any time during the current (determination) or preceding (look-back) year (this definition also includes a person who is the spouse, child, parent, or grandparent of someone who is a 5% owner of the employer), or b. He/she has compensation in the preceding (look-back) year in excess of a specific dollar amount ($105,000.00 for 2008, $110,000.00 for 2009, $110,000 for 2010). The highest paid officer requirement is repealed. This is effective for plan years beginning after 1996. 14). 416(i)(1) - Key Employee Definition Key employees are defined as: (a) Officers with annual salary greater than $135,000 (annually indexed for cost-of-living adjustments) - $160,000 for 2010; (b) Employees with more than 5% company ownership (family attribution rules apply here); (c) Employees with more than 1% ownership and annual salary greater than $160,000 (family attribution rules apply here). 15). 414(g) - Family aggregation rules Nondiscrimination rules requiring the aggregation of highly compensated family members (regardless of level of individual income) into one highly compensated employee. This "super employee" is then to be used in discrimination tests. This required aggregation has been repealed for plan years beginning after 1996. 16). 4975 - Prohibited Transactions The Internal Revenue Code prohibits certain actions between a retirement plan and other parties. These actions may occur between the plan and the employer, the plan and a fiduciary, the plan and a participant, or the plan and another identified third party. We are providing two links to web sites that explain the prohibited transaction rules. For a reasonably short synopsis of the prohibited transaction rules, click here. If you would prefer a much more in-depth discussion of the rules, click here (you will find a complete Table of Contents at the top of this site's page) |