Year- End Testing Often Requires Corrective Action
Each year, 401(k) plans must pass a series of compliance tests to ensure that the company owners and key personnel are not benefitting disproportionately compared to lower paid employees. To pass these tests, plan metrics must fall within certain mathematical limits.
If you happen to receive failing results, you may need to act quickly to take corrective action to maintain the tax qualified status of your plan. These actions may include making taxable distributions to highly compensated employees (HCEs) or making additional employer contributions for other employees.
Plans operating on a calendar year will soon be receiving 2017 year-end testing results, if you haven’t already. The following is a summary of the most common types of testing failures and the dates by which plan sponsors must correct them.
ADP/ACP Testing
The Actual Deferral Percentage (ADP) test limits the percentage of compensation the HCEs can defer into the plan relative to the percentage deferred by non-highly compensated employees (non-HCEs). The Actual Contribution Percentage (ACP) test ensures that employer match and after-tax employee contributions for HCEs are not disproportionately higher than those for non-HCEs.
Correcting Failed Testing
If the non-HCEs are not actively participating and saving in the plan, HCEs will be limited as to how much they can put into the plan. HCEs may have to distribute some of their salary deferrals from the plan to get their savings rates to a level that will pass the tests. Excess contributions should be distributed within 2½ months following the close of the testing year (March 15, 2018 for a calendar-year plan). If distributions are not made by this date, plan sponsors may still make corrective distributions until the end of the following plan year, but they will have to pay a 10% employer excise tax. Another option for correcting a testing failure is for the plan sponsor to make qualified non-elective contributions (QNECs) or qualified matching contributions (QMACs) to the eligible non-HCEs. Corrections made after the 12-month period must be made under the IRS’s Employee Plans Compliance Resolution System (EPCRS).
Top Heavy Testing
A plan is top heavy if more than 60% of its total assets are held by key employees as of the last day of the preceding plan year (December 31 for a calendar-year plan). If the plan fails the top-heavy test as of December 31, 2017, it will be considered top-heavy for the 2018 plan year.
For 2017, a key employee is one who
- Owns more than 5% of the employer,
- Owns more than 1% of the employer and earns more than $150,000, or
- Is an officer of the employer and earns more than $175,000
The Printers401k can help you understand your testing results and improve your results.
Low participation and savings rates by rank-and-file employees can negatively affect year-end testing results. We help plan sponsors identify factors that may be contributing to testing failures and devise a plan of action plan to increase plan participation. In most case we are able dramatically increase the participation rate and savings rates without increasing company cost. I have provided some recent results of our efforts below:
Note: HCE can defer 2% above the NHCE rate. In the case studies shown above, that would be 6.02% for Case Study 1 and 7.19% for Case Study 2, plus catch up if you are over the age of 50.
Contact us and see how we can help your plan, increase participation, lower cost and improve the quality of investment options. Joe@diversifiedfa.com or 800.307.0376. Let's have your company be our latest case study!
The Printers401k® is an exclusive member benefit only available to you because of your membership in the Printing Industry.