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Participant has W2 + 1099 income; he also 'deferred' from both!


BG5150

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They have an employee who (it seems) has discretion as to when to be paid on a W2 and when to be paid on a 1099-Misc.  As we know, 1099 income is not allowed for plan purposes.  Thing is, he has been ‘deferring’ from his 1099 income throughout most of 2018 and continuing into 2019.  (This may have happened in 2017, also)  I believe that the 1099 ‘deferrals’ should be considered a Mistake of Fact and the funds should get sent back to the company.

In the past, we have only been considering his income and true deferrals from his W2.  Using only that compensation, he is definitely a NHCE.  However, if we consider his roughly $150k in 1099-MISC income, he is way over the threshold.

So, I’m not sure what to do.  

(A)    Send the 1099 deferrals back and leave it as it is.  
(B)    (A) + consider the 1099 income in my testing and make him an HCE (2017 test will probably fail now).
(C)    Consider both the 1099 income AND deferrals in my test.


Your thoughts are appreciated.

QKA, QPA, CPC, ERPA

Two wrongs don't make a right, but three rights make a left.

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I don't think there's a quick answer here without more information from the employer.

There are legitimate if rare situations where an employee could also be receiving a 1099-MISC for comp outside of the normal employer/employee relationship, in addition to their W-2 wages. So I think the question that needs to be asked of the employer (and they should throw it to their counsel, not just have somebody in payroll answer) is whether the 1099 was for services the person actually performed as an independent contractor or not. From the wording of the question, it sounds like the answer is no -- that this employee just decided they want part of their pay on a W-2 and part of it on a 1099.

If that's the case then they have withholding and reporting issues that need to be sorted out. The result of sorting those issues out may be that the participant ends up getting a corrected W-2 for the year(s) in question, and it's possible the plan doesn't need to refund any deferrals -- if all of this compensation was eligible for plan purposes, it didn't become ineligible just because the employer reported it incorrectly, and a corrected W-2 showing the full amount available for deferrals should answer the question of how the plan should treat the compensation.

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I agree with duckthing the primary problem isn't a retirement law issue but an employment law issue.  It is next to impossible for a person to have be a 1099 contractor and W-2 employee.  

Once that issue is solved most of your issues are solved would be my guess as this person is most likely either all W-2 employee or all 1099 contractor.  

If by chance this person is a mix I like door #1 but can't cite anything to prove it is correct. 

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Could this be a fulltime insurance salesman /statutory employee by any chance? They usually get both. But, only the W-2 wages count for retirement plan purposes I.R.C. § 7701(a)(20).

Life and Death Planning for Retirement Benefits by Natalie B. Choate
https://www.ataxplan.com/life-and-death-planning-for-retirement-benefits/

www.DeniseAppleby.com

 

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