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Catchup only


ombskid
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Austin, bird, do either of you have an email or other communication from Sal (or any other source) that specifically talks about a 0% limitation applying to HCE's (or Key's or any other group OTHER THAN catch-up eligible participants, per se)?

I would venture to say that every citation I've seen so far from Sal does not contradict what mjb has been saying. In fact, I would say that using what Sal has written as justification for allowing a lower deferal limitation to a thinly disguised group of catch-up eligible participants with a large overlap with those who are so defined is likely to result in exactly what mjb is sounding the alarm over: plan disqualification or unhappy EPCRS (or worse: audit CAP) plan sponsors.

I'm fairly certain I have a citation from Sal that specifically says a zero limitation for HCE's is, at the least, inadvisable. If I get time (please, stop the cacophonous laughter), I'll search for it.

With that said, if there is a significant percentage of HCE's who are not catch-up eligible and they, too, are subject to the same deferral limitation, it is unlikely that the IRS would raise the discrimination issue under the BRF provisions of the regulations under 401(a)(4). Remember, in order for a BRF violation to occur under a4 it must result in "significant" discrimination in favor of HCE's. It is a (much?) higher standard than "amounts testing" violations of a4.

But with all that said, the fact remains that mjb's advice is spot on: there is a greater RISK of the IRS making trouble for a plan sponsor that chooses to implement an artificially deflated plan imposed limitation which can be, effectively, for no other purpose than to enable HCE's access to catch-up contributions where they would otherwise not be available. How could it be otherwise?

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Fact:

preamble says "Thus for example a plan could provide for an employer provided limit that applies to HCEs even though no employer provided limit applies to non HCEs."

so one can't disagree with that.

preamble then goes on to say:

" However, the final regulations retain the rule that an applicable employer plan is not permitted to provide LOWER employer provided limits for catch up participants."

emphasis mine.

earlier in the preamble the example is used of a plan that limits HCEs to 1% deferral the first few months and then increasing it to 15% later in the year, thus creating an artificial 'catch-up" early on. the IRS has cleary said NO, you look at catch up at the end of the year, that catch ups aren't 'created' early on in that way. (By the way, no mention is made that doing this would violate any BRF - you could do this, but in determining what amounts are treated as deferrals and waht amounts are catch-ups you still have to follow the guidelines listed under, for lack of a better term - what happens if the employer imposed limit is changed during the year.)

what has been left out from the quote from the preamble listed above was the first sentence -(which results in the whole thing (at least to me) to be taken out of context. Lets include that first sentence. "A plan will NOT FAIL the universal ability requirement solely because an employer-provided limit does not apply to ALL employees or different employer-provided limits apply to different groups, as long as each limit satisfies the nondiscriminatory availability requirements of 1.401(a)(4)-4 for BRF. Thus, for example, a plan could provide for an employer-provoded limit that applies to HCEs, even though no employer-provided limit applies to NHCEs...

hmmm. lets see. first sentence says you could provide different limits as long as you satisfy BRF. next sentence says you could limit HCEs only. apparently the govt doesn't think that is a BRF.

what you can't do (next sentence) "..not permitted to provide lower employer provided limit for catch-up eligible participants"

so that would seem to say you can't write your document to say "deferral limit is 15% for employees aunder age 50 and 5% for employees over age 49.

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Mike, I'm not relying on or looking at what Sal wrote. I'm just looking at the regs, in particular the cites that Tom has quoted and explained very nicely; I recognize that there is some apparent contradiction ("you can't provide lower limits to catch-up eligibles" but at the same time "a plan could provide a lower limit for HCEs"). I think it's clear that they just don't want some provision that would keep an NHCE from using a catchup if it is needed.

mjb, if you're going to insist on answers to your questions, maybe you should answer mine first: how is an NHCE going to be harmed by limiting HCEs?

Ed Snyder

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The NHCEs could be harmed by not obtaining the QNEC to cure ADP failure that they'd otherwise receive if this end run around the ADP test were not attempted.

John Simmons

johnsimmonslaw@gmail.com

Note to Readers: For you, I'm a stranger posting on a bulletin board. Posts here should not be given the same weight as personalized advice from a professional who knows or can learn all the facts of your situation.

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Somebody help me out, here. I seem to recall (famous last words?) that there was a requirement in the regulations which requires a participant to be eligible to make regular elective deferrals in order to be eligible for catch up contributions. Isn't a provision which limits elective deferrals to ZERO the functional equivalent of providing that such a participant is ineligible to make elective deferrals? Just testing the theories, ya' know?

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I agree with Mike! One, I believe this was stated at one of the annual conventions from the stage by one of the IRS representatives.

Two, I agree that being ineligible to defer makes one ineligible for catchup. The agument centers on the 'exceeds a 402(g), 415, or plan limit' clause. And the operative words are that a participant's elective deferral exceeds one of these limits. Well, if you cannot make a deferral (0% plan limit), then you cannot have a deferral exceed this limit.

Is therefore a $0.01 limit acceptable? In this case the Top Heavy Minimum would be to small to actually count. But we are not addressing THIS argument.

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I agree with Mike!
Geez, Reed, you make it sound like it is a once in a lifetime event!!!!!

Is therefore a $0.01 limit acceptable? In this case the Top Heavy Minimum would be to small to actually count. But we are not addressing THIS argument.
Well, I will. I think that there is a fuzzy line here. Intentionally. If the plan sponsor draws this line (in any manner) then it falls on said plan sponsor to justify its use and be able to prove that it isn't a fake line, drawn for no purpose other than creating catch-ups where there otherwise might not have been any (or many). Not that I like this result, but I do think it is the natural implication of the way the rules have been crafted (and that we are stuck with). In essence, this falls squarely in the mjb camp of saying that the plan sponsor is assuming some level of risk by drawing the line and assumes more risk by drawing this line closer to zero allowed elective deferrals than farther from it. fwiw
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Mike:

"I'm fairly certain I have a citation from Sal that specifically says a zero limitation for HCE's is, at the least, inadvisable. If I get time (please, stop the cacophonous laughter), I'll search for it."

no need to search for it, I don't think you will find it. On page 11.272 (section XI part B.3.b.2)f (2006 edition)

its even a particular paragraph

Could a 401(k) plan impose a zero percent deferral limit?

Yes...blah blah blah

and then the last sentence in bold

Applying zero limit to a specific group. A zero limit also could apply to a specific group of participants (e.g., only to HCEs or only to key employees)

unless he has changed his mind in the 2007 edition, it doesn't sound like he is saying it is 'inadvisable'.

the only place where he implies it is inadvisable is that he says this reduces the deferral rate available to someone substantially.

(If you carry the argument further, then cap the HCEs a 1 cent. that should satisfy you.)

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(If you carry the argument further, then cap the HCEs a 1 cent. that should satisfy you.)
But it doesn't. See my prior message. I think you devolve into a facts and circumstances test.
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Sal has a cautionary note on page 11.278 of the 2007 ERISA Outline Book:

"It should be noted that, when the catch-up regulations were in proposed form, there was an example exactly on point, where a plan set the plan imposed deferral limit at 0%, but also included a catch-up provision. This example was absent from the final regulations issued under IRC Section 414(v). Treasury officials have not discussed their reasoning for removal of this example, or whether it represents a decision by the Treasury that a 0% deferral limit is improper, or that they simply didn't want to promote such a plan design by way of a regulatory example. Clearly, a plan could set $1 as the deferral limit and there would be no question it is acceptable, so setting a $0 limit shouldn't make a difference. Some would argue that with a $0 limit, the plan really doesn't have a 401(k) arrangement. But that argument fails to recognize that, even with a $0 limit, those employees who are catch-up eligible could make elective deferrals, so the 401(k) arrangement is still available, just not to all eligible employees."

I'm not personally advocating Sal's position or Mike's (or mjb's), just adding Sal's comments. I hope that's okay to enter in here. Sal has other things to say about this in the book, but you can just get the 2007 EOB if you need.

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Of course it is ok to enter here.

Looking just at the 2006 EOB, there are two sections which bear on this issue. The question is which one takes precedence.

The first was alluded to, above. Sal states that "A zero limit also could apply to a specific group of participants (e.g., only to HCEs or only to key employees)." But immediately after that he has the phrase "See Section XII (Part E.2.d.) of this chapter for details." In said E.2.d there is this little gem:

E.2.d.5)a) Limits may not be based solely on whether participant is eligible to make catch-up contributions. The universal applicability rule *is* violated if the plan imposes a lower elective deferral limit just on catch-up eligible participants. In other words, the class has to be based on criteria other than whether the employee is eligible to make catch-up contributions. This way, a lower limit could not be placed on catch-up eligible HCE's in order to treat a greater portion of these employees' elective deferrals as catch-up contributions and, thus, exempt from the ADP test.

I think you need to look to all of what is written, not just a small portion. The above seems cautionary enough for me, even without the elaboration in the 2007 EOB.

I'm not saying I know where the IRS will draw the line. I'm merely saying that there is a line, somewhere, and the client should be made aware of the fact that if they draw it differently from the way the IRS draws it, there is a risk.

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No one has suggested that a limit can be placed on catch-up eligible participants. The limit is being placed on HCE's. The fact that some HCE's are also catch-up eligible is a coincidence.

And Mike, just so we're all clear, assume the document limits HCE's to 5% of pay. You're position also includes that if a sufficient number of NHCE's are also limited to 5%, that such a plan design would be allowable? Or have I misunderstood your concerns with respect to BRF's?

Austin Powers, CPA, QPA, ERPA

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I'm not so sure I'd need ANY NHCE's to be limited before the plan would be "ok". Note that it isn't a BRF issue, it is an effective availability issue. At least I think that is the concern. But I would be concerned if 100% of the HCE's deferred 5% plus 100% of the catch-up limitation, while none of the NHCE's contributed more than 5%. Think of the movie Labrynth and hear these words: "Smells baaaaaaaaaaaaaaaaad."

Again, I'm not saying I know where the line is drawn. I'm saying we have precious little guidance on how to draw said line.

Are you saying there is no line?

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Just that I'm comfortable based on a literal reading of the regs that this falls well within the line. The only grayness is the 0% limit, in my opinion. But I am omfortable by the "catch-ups are elective deferrals too" argument. Plus the fact that an example was in the proposed regs (which I did not know) and then removed with no explicit explanation and/or prohibition is a tacit confirmation that we (me and TP and Bird) are on the correct side of the line.

Austin Powers, CPA, QPA, ERPA

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And quite the entertaining and informative read it usually is.

What exactly would the risk be in this instance? Realistically... Seems to me like this almost boils down to a facts and circumstances issue. I can't imagine that the IRS would come down too heavy handed on it given that it can be reasonably be argued the other way AND it could have been resolved leaving the example in the final regs or issuing comment on why it was pulled.

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The NHCEs could be harmed by not obtaining the QNEC to cure ADP failure that they'd otherwise receive if this end run around the ADP test were not attempted.

Thanks for responding. I agree that that could happen, but I should have been more specific; I was wondering how an NHCE could not be able to make catchups if needed if a similarly situated HCE has a specific limit.

Ed Snyder

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