Is this exclusion of NHCEs for ADP test legitimate?

[Guest 410b]

My company uses a 3rd party 401k tester.

I was studying and trying to understand the NDT test section of the results. When I inquired about the second test group which appeared to be a small group of NHCEs separated from the main employee test data I had submitted, I was told the testing procedure:

Eliminates/disaggregates NHCEs with less than one year of service as of the last semi-annual entry date of the plan.

Eliminates/disaggregates NHCEs under age 21 as of the last semi-annual entry date of the plan.

and that the tester's reporting department was confident the test had been done correctly.

The plan allows entry at age 18 but has a service requirement of 12 months which must include 1,000 hours of service. Plan entry dates are monthly, enrollments are quarterly.

Hiring and attendance policies of the company are such that it is impossible for a new employee to meet the 12 months of employment condition without also meeting the 1,000 hours of service condition.

I have stated to my plan administrator that I don't believe the testing is being done properly.

Since the plan does not allow participation until an employee has met the 12 months of employment condition, it is my contention that there are no employees with less than 12 months of service and eliminating/disaggregating such employees is a specious procedure which could cause the plan to be disqualified. I believe the testing should be redone without eliminating any plan participants due to the "service exception" mentioned in the testers manual.

I have also suggested that eliminating employees under 21 at a mid-year date is an aggressive approach. A more conservative approach would be to eliminate only the employees under 21 as of the last monthly entry date of the plan year.

I like "conservative" in relation to eliminating appearance of conflicts of interest or manipulation of tests.

Are my comments correct or incorrect?

Thanks.

[Jim Chad]

IMNTBHO I agree with you that your approach would be the more conservative one. I also agree with them that their approach is reasonable. This is a judgment call.

As the customer, you certainly have the right to request that they do it your way. And you should also expect to pay more if you take them out of their normal system.....and it might be a lot more. It might be a lot more if they have to do your Plan manually because their software is set up the other way.

FWIW I think you may want to trust their judgment.

[PAL]

I would use the enrollment/entry dates available under the plan. In the case above, I would include anyone age 21 or older with a year of service as of the last enrollment date (10/15?). If the plan has a year of service requirement, I would agree that it is unlikely that there should be any carve-outs.

From the IRS website - see page 6, last sentence in first paragraph on right column:

http://www.irs.gov/pub/irs-pdf/p6393.pdf

PAL

[Tom Poje]

this is a gray area depending on exactly which IRS official you might be talking to.

certainly the regs provide that you can test 'otherwise excludables' separately.

now, exactly how that works and who that includes has been an open debate the last few years.

1. does the document have to specify the use of 'otherwise excludables'. there seems to be some leanings in recent years that despite the fact this is a testing 'assumption', it might be best if it is described in the document.

2. do plan entry dates make a difference?

some IRS officials voice an opinion yes, other say no. The code / regs simply say refer to max age/servcie. (age 21/1 yr of service) and then the code says one must enter the first day of plan year or 6 months after meeting the requirements.

this ends up with 3 schools of thought.

you indicated the plan had monthly entry dates.

so, for a calander year plan, employee A is age 23 and hired 2/3/06. works 1000 hrs so 1 yr ends on 2/3/07.

one school of thought says monthly entry dates apply, so if ee is still working on 3/1/07 he is in the big test.

another school of thought says 'use 1/1 and 7/1 entry dates as max exclusion'. thus is ee is still working on 7/1/07 he is includable in the big test.

the final school of thought says you could have written the document to say use the absolute max entry date possible. (e.g.1st day of plan year or 6 months after meeting age 21/1 yr of service) thus this ee would be in the big test if still working on 8/3/07.

(Personally, until IRS says one way or another my leanings are in the last camp since I could have written my document that way - thus the people who are in the plan would have been excluded if I had written the document that way - hence the term 'otherwise excludable'.

since there is no requirement to use the 'otherwise excludable' assumption, there is certainly nothing wrong with including everyone, even if it makes a plan fail testing.

[Guest 410b]

Jim Chad,

Thanks for your response.

My problem is that as the taxpayer, my company and its plan administrator are responsible to the IRS. If they accept the tester’s judgment without understanding it, and that judgment is wrong, then there are accountability issues.

How is it is reasonable to apply this “if condition”:

If the plan's eligibility provisions are more liberal than what is required by the statute, disaggregation may be a permissible option.

to a situation in which the plan’s service eligibility requirement is NOT more liberal than required by the statute?

410(b)(4)(B):

(B) Requirements may be met separately with respect to excluded group

If employees not meeting the minimum age or service requirements of

subsection (a)(1) (without regard to subparagraph (B) thereof) are

covered under a plan of the employer which meets the requirements of

paragraph (1) separately with respect to such employees, such employees

may be excluded from consideration in determining whether any plan of

the employer meets the requirements of paragraph (1).

410(a)(1)(A):

(1) Minimum age and

service conditions

(A) ) General rule

A trust shall not constitute a qualified trust under section 401 (a) if the

plan of which it is a part requires, as a condition of participation in the

plan, that an employee complete a period of service with the employer or

employers maintaining the plan extending beyond the later of the

following dates—

(i) the date on which the employee attains the age of 21; or

(ii) the date on which he completes 1 year of service.

The company’s 401(k) plan specifies age 18 and 1 year of service as participation requirements.

Employees of the company that do not meet the minimum service requirement of 410(a)(1)(A)(ii) are not covered under any plan offered by the company.

How is it then reasonable (or legal) to take a database of plan participants (all those who are eligible to defer regardless of whether they are or are not doing so) and disaggregate some who purportedly have less than a year of service when they had to have a year of service to be in the list in the first place?

[Guest 410b]

PAL,

Thanks for your response. I need to print and read that document.

The sentence you pointed me to leads to another question regarding dates.

It seems like I have learned something more about 401(k) testing each year I have pulled data for the testing company.

Fiscal year plan, FYE April. Employer does enrollment and change paperwork quarterly, first of month. May 1, etc.

Because of this, the data that I prepared for the testing company originally worked off those quarterly enrollment dates. As I began to understand more about what was going on, I spent a long time one year studying plan documents and discovered that our plan said that we have a monthly entry date, so I am now preparing the test database for the testing company that way.

I think you are suggesting combining those dates in a way I had not considered before.

My company’s plan, people qualifying in Feb. enter in Mar. Qualifiers in Mar. enter in Apr. Qualifiers in Apr. do not enter until May, and I have excluded them from the test database. February and March qualifiers are not allowed to complete enrollment paperwork and actually make deferrals until May 1.

I am interpreting your comments to mean that I do need to continue including the Feb. and Mar. qualifiers (Mar. and Apr. plan entry) in the testing database. However, for the ADP/ACP test, I think you are telling me that they can be excluded/disaggregated and put in the separate test group along with the under 21 employees since they are not allowed to actually make deferrals until May 1.

[pmacduff]

FWIW - I think that the "otherwise excludable" in this instance is the age 21, not the year of service. (Your plan eligibility is age 18, right?)

I agree with those who say this is a more aggressive approach, but not necessarily incorrect or not allowed.

my 2 cents

[BG5150]

We have never had any problems disaggregating participants who were under 21 or would have entered the plan the next plan year if the plan used semi-annual entry dates.

Would the test have passed if everyone was included? Some practitioners just automatically disaggregate the populations as a default. If the plan will pass with everyone in it, then all is good.

For the excludable people: is the census data correct for those people? Be sure they are really excludable.

Also, for "service less than a year": You could actually have people with a year of service who could be excludable. Say a person is hired in August 2006. One year anniversary is August 2007. With monthly entry dates, the person would come into the plan on Sep 1. With semi-annual entry dates, the person would come into the plan 1/1/08. So even though the person is eligible for the plan and has more than a year of service, he or she can be tested separately.

[Guest 410b]

Tom Poje,

Thanks for your response.

In regard to the otherwise excludable, I would be interested in your opinion on the "carving out issue" too. I tried to express my thought struggle on that more clearly in my response to Jim Chad.

Your comments are helpful.

I have been focused on the idea of “getting someone to see the test is wrong”, which I believe to be the case with the service part of the exclusion. However a plan amendment could address the date issue for the age part of things. I think I need to be mentioning that as part of the solution too.

Again, setting aside the question of whether the service exclusion was correct and considering only the “date to use” question, I was asked if what our testing company is doing was “industry standard” practice. I think your response tells me that instead of 1 “standard” there is a range of accepted practice and that each practice has some logic to support it that can be traced back to a code section.

Your post is very helpful to me in understanding those different date choices.

The test failure that you mention is one of the reasons for my concern over this issue.

HCE % participation has been increasing. NHCE participation remains low. The ADP test failed 3 years in a row (appropriate corrective action was taken). The ADP test passes this year, only because of what I consider to be an incorrect procedure. A situation easily correctible now, much more embarrassing later, if it is wrong.

[Guest 410b]

pmacduff,

“… more aggressive approach, … not necessarily incorrect …”

Comment noted. Thanks.

BG5150

What are the service entry requirements for your plan, 1year or less than 1 year?

All employees would have failed ADP test for 4th year in a row.

Employee census data was created based on 18 and 1 year of service. Testing company exchanged emails with me on questions, fixed clerical errors, and then made exclusions from that database based on their criteria.

In regard to your last paragraph, from my post to Jim Chad above:

How is it is reasonable to apply this “if condition”:

If the plan's eligibility provisions are more liberal than what is required by the statute, disaggregation may be a permissible option.

to a situation in which the plan’s service eligibility requirement is NOT more liberal than required by the statute?

I cannot come up with a logical way to support the concept of reaching into a container and taking out something that was never put in in the first place.

[Guest 410b]

Tom Poje,

Reading again, seeing more that I missed.

Re "final thought" is that the date 6 months after (08/03/07) or the plan entry date after that 6 months period you mentioned (09/01/07).

[Mike Preston]

There is a confusion here. Maybe more than one. Maybe more than two.

1) The testing company has indicated that the actual entry dates are semi-annual (that would be 5/1 and 11/1).

Eliminates/disaggregates NHCEs with less than one year of service as of the last semi-annual entry date of the plan.

Eliminates/disaggregates NHCEs under age 21 as of the last semi-annual entry date of the plan.

But you have also indicated that "Plan entry dates are monthly."

Both can't be correct. Which is?

I'm going to assume that the entry dates for the plan are indeed monthly and that the testing company has used the semi-annual entry dates solely for purposes of determining whether a participant can be carved out.

As others have pointed out, you can not find agreement, even at the IRS, as to whether the superimposition of semi-annual entry dates solely for the purpose of determining whether an individual can be carved out is acceptable. Depending on what industry conference you might have attended in the past three years, you will find an IRS representative, possibly on tape, indicating one way and you will find another IRS representative, also possibly on tape, at another conference indicating the opposite. There are no citations I'm aware of which provide a more formal IRS view on the choice and the IRS view on both choices.

By the way, this issue has been around for years and years and the IRS has flipped and flopped on it for years and years. It is hard for me to imagine that the IRS, if push came to shove, would hold fast to either approach as being the only legitimate alternative. But as also pointed out, you, as the client, can ask that the test be done in the most conservative manner, if you wish, and the testing company should be able to do so, even if it is at additional cost.

2) Assuming that the testing company's description is solely for carve out purposes and that monthly entry dates are required by your plan's document, I also note that you have stated that the employer processes enrollment forms quarterly. If I understand you correctly, this is a qualification failure. That is, if an employee hired in February of 2007 would be eligible to enter the plan on 3/1/2008 and that employee is not given an opportunity to commence deferrals until 5/1/2008, then the plan has not operated in accordance with its terms. If this is a correct description of what is going on then the EPCRS (Employee Plans Compliance Resolution System) provides for a correction, which you should embark upon. This may involve corrections for many years and be quite expensive. If the correction is necessary and the plan sponsor finds the default correction prohibitively expensive, you might give consideration to applying to the IRS for an alternative correction under EPCRS. Competent legal counsel should be engaged if you find that correction is necessary, in either event.

3) You have indicated that there are certain participants who are being carved out, but you haven't given us an example birth, hire and work history for anyone carved out in this manner. You hit upon one category, that would be those hired in the last quarter of the year (2/1 through 4/30) who are not actually allowed to defer until the next year (5/1 following the 12 month anniversary of the 2/1 through 4/30 hire date) who definitely should be carved out if the actual entry dates are quarterly (but see the above item if the entry dates are actually monthly). If the entry dates are monthly, then those carved out would be those hired 4/1 through 4/30 of the year before. However, it is possible that those individuals aren't in your database at all.

Note that if the entry dates are indeed monthly and if the employer has been inappropriately excluding those from deferring once they have entered the plan until the next quarterly processing date, you will find that these individuals will be reflected in the final test exactly as if they were properly carved out. This is because the default correction under EPCRS is to have the employer make a corrective contribution to these individuals equal to the average of the NHCE deferral rate (with an adjustment for lost earnings). Hence, the actual NHCE average will be the same as if they were excluded.

So, can you confirm which is the correct definition of entry under the terms of the plan and whether or not the employer has inappropriately been precluding people from deferring between their actual plan entry date and the next quarterly processing date?

[Guest 410b]

Hi Mike,

Thanks for the response. I am going to answer you in two separate posts, because I am still not getting a good answer to my original basic question.

I am seeing the term "carve out" used in responses to my question, so I will use that here.

This statement showed up in one of my search hits this week:

"If the plan's eligibility provisions are more liberal than what is required by the statute, disaggregation may be a permissible option."

Our testing company's manual includes a statment along those lines. That same concept is referred to in some of the posts above, for example the last paragraph of BG5150's post.

It seems to me that that statement also implies a reverse.

If the plan's eligibility provisions are NOT more liberal than what is required by the statute, disaggregation IS NOT a permissible option.

My plan is NOT more liberal than the statute in regard to service requirements. It equals the plan. Therefore I don't think it is correct to do "carve out' based on a service requirement. I DO have to work on understanding the date issues which you and Tom Poje have raised. However, my first, basic, core question is not which date pattern is the proper one to use for a "carve out". It is whether or not "carve out" is correct at all for our plan. (Conceptually, it seems to me that the testing company is saying that they can take rocks out of a bucket I provide, even though I never put any rocks into it.) Because I can't follow the logic of the test "carve out" procedure, I have put myself in the position of saying to our Plan Administrator, our CPA, and our testing company that I believe it is incorrect to be doing a service based "carve out" at all and that it could cause our plan to be disqualified by allowing higher than proper HCE contributions. I am wanting to know if I have made a correct or incorrect analysis of that issue and what the support is for whichever answer is right.

If my analysis is correct, then I think we should be able to say to the testing company that they have not been performing code compliant tests on our account and that they should do proper tests at no additional charge to us. If I am wrong, I have a very red face and another annual learning experience about 401(k) testing. In either case my company has a better knowledge about the testing properly supporting HCE contribution limits.

[Blinky the 3-eyed Fish]

My plan is NOT more liberal than the statute in regard to service requirements. It equals the plan. Therefore I don't think it is correct to do "carve out' based on a service requirement.

Ah, but your service eligibility IS more liberal because of the entry dates. You could have entry 6 months after satifying the 1 year of service requirement. You have monthly (or quarterly) entry dates. Does what everyone is saying make more sense now?

[Kimberly S]

My plan is NOT more liberal than the statute in regard to service requirements. It equals the plan. Therefore I don't think it is correct to do "carve out' based on a service requirement. I DO have to work on understanding the date issues which you and Tom Poje have raised. However, my first, basic, core question is not which date pattern is the proper one to use for a "carve out". It is whether or not "carve out" is correct at all for our plan. (Conceptually, it seems to me that the testing company is saying that they can take rocks out of a bucket I provide, even though I never put any rocks into it.) Because I can't follow the logic of the test "carve out" procedure, I have put myself in the position of saying to our Plan Administrator, our CPA, and our testing company that I believe it is incorrect to be doing a service based "carve out" at all and that it could cause our plan to be disqualified by allowing higher than proper HCE contributions. I am wanting to know if I have made a correct or incorrect analysis of that issue and what the support is for whichever answer is right.

If my analysis is correct, then I think we should be able to say to the testing company that they have not been performing code compliant tests on our account and that they should do proper tests at no additional charge to us. If I am wrong, I have a very red face and another annual learning experience about 401(k) testing. In either case my company has a better knowledge about the testing properly supporting HCE contribution limits.

For the moment, ignore the entry date issue and focus on a more clearly defined piece of the puzzle. Your plan is more liberal than the statute because it allows people in at age 18, and the statute says you can make them wait until 21. Anyone in your plan who is 18, 19 or 20 can be excluded from the test because you didn't have to include them in the plan and therefore should not be penalized because you were generous and let them in.

Does that help clear up the concept of carving out certain people?

FWIW, testing by excluding "otherwise excludable" employees is an industry standard, albeit with some questions raised above about exactly how to define that group.

[Guest 410b]

Hi Kim,

You are starting to touch on exactly what my point is.

To avoid the date definition issue, I will use THE DATE.

In our 2006 testing package, there were 2 lists of NHCEs to be used in our 2007 tests. The second list -Participants who do not meet Statutory Minimum- contained 47 names.

8 employees were considered non-statutory because of DOB after THE DATE used for determination of age 21.

1 employee was considered non-statutory because of Term before THE DATE following attainment of age 21.

35 employees were considered non-statutory because of DOH After THE DATE.

3 employees were considered non-statutory because of Term before THE DATE following 1 year of service.

My contention is that there are 38 employees on that list of 47 that it was not according to code to put there. There are 9 that fall under the age issue you posted about. For those 9 there could be a discussion about the proper date.

[Guest 410b]

Hi Mike,

I’ll not try to quantify the number of confusions, but I agree that there are some. Also stress. I just went for a caffeinated pop.

Fiscal year plan – May 1 ---- to April 30 ----.

I understand that you are indicating there is a problem with the way dates are being used now, but I am going start by stating that situation as best I can.

From the SUMMARY PLAN DESCRIPTION:

ENTERING THE PLAN:

-Once you have satisfied the eligibility requirements, you will become a participant on an ‘entry date’. The entry dates are the first day of each calendar month.-

Three additional statements I find in the SUMMARY PLAN DESCRIPTION:

-You may change the rate of your contributions up or down effective as of the first day of any quarter of any plan year.-

-You may stop contributing entirely at any time. If you stop contributing, you may start your 401(k) contributions again as of the first day of any quarter of any plan year.-

-To make a pay reduction agreement, change your contribution percentage or stop contributing, you must follow the procedures established for this purpose by the plan administrator.-

The basic rule that I have always been told is that the company will only process paperwork on a quarterly basis. When I discovered and made inquiry about the “monthly entry date” provision a few years back, I was told that the company was allowed a time gap there in order to reduce the burden of plan administration. That left me with the concept of “monthly entry” and “quarterly enrollment”.

To prepare the census data for the testing company, I review the payroll files for April to March hire dates (May to April entry dates) of the appropriate years and add those to the other participants.

I didn’t have the semi-annual date breaks in my head at all, until this year when I started trying to understand the NDT test results better and why the test report had two sections. At that point I learned that the tester’s test procedures regroup NHCEs who are not 21 or have not finished 12 months of service as of the last semi-annual entry date in the plan year (ie 11/01/---- in our plan). See my post to Kim for 4 categories of employees in the regrouped NHCEs. So you are correct, the semi-annual date I mentioned is used by the tester for –carve out- purposes only.

Sample for one of the 35 reclassed due to DOH After 11/1/05.

NAME1. DOB APRIL 1954. DOH 11/14/2005. ENTRY DATE 12/01/2006. Disaggregated due to service of less than one year.

This employee had service of more than one year. They had to have that service in order to be in the census list. Given the plan’s entry requirements, I can see no legitimate way that this employee can be eliminated from the ADP test.

[Guest 410b]

Blinky,

I don't find any reference to entry dates in 410(b)(4)(B)?

[Mike Preston]

410b, first of all, let me say that this discussion is a breath of fresh air. It is wonderful dealing with somebody who doesn't have the taint of learning what a predecessor from within the industry has been doing previously. You are, quite rightly, relying solely on the actual language of the plan, the SPD, the Code and the regs. And you are insisting that they be taken as written. Bravo.

On the other hand, welcome to our world. We are constantly dealing with ambiguities in the combination of the plan, the SPD, the Code and the regs and somewhere, somehow, we have to disambiguate. Sometimes it just ain't fun.

This is one of those times.

There are two issues, as I see them.

First, you really need to get an opinion from counsel regarding the plan's administrative practice of denying a new participant the right to defer until the beginning of the first quarter after they are eligible. I will be so bold as to suggest that even if counsel can find room to support what you have done in the past, that you change that practice as soon as you possibly can; possibly by amending the plan so as to make clear that the change is being caused by a conscious decision and not just a seemingly arbitrary modification to the plan's administrative practices.

OK, that issue is dealt with and needn't be discussed again, if you don't want to do so.

The far more complicated issue is who can be considered "otherwise excludable" (let's use the real terms, if we can, since you are coming at this from a "let's use the real rules" perspective; it will help disambiguate as much as is possible).

We agree that a NDT can be run based on segregating your plan's population into two groups, where group 1 is those that are "otherwise excludable" and group 2 is everybody else (or, if you prefer, non-excludable).

The definition of "otherwise excludable" is found in the regulations under IRS Section 410(b). You might want to find Regulation Section 1.410(b)-6 and read it. It is kind of long, so I won't repeat it here, but it is entitled "Excludable employees". Here is one of the sections that bear on this issue:

"The effect of this rule is that employees who would be excludable under paragraph (b)(1) this section (applied without regard to section 410(a)(1)(B)) but for the fact that the plan does not apply the greatest permissable minimum age and service conditions may be treated as excludable employees with repsect to the plan."

At issue is how to determine "the greatest permissable minimum age and service conditions".

You certainly acknowledge that the age conditions of your plan are not the greatest permissable.

You have indicated that you think your plan's service conditions are identical to those that are the greatest permissable.

You have indicated that since 410(b)(4)(B) doesn't mention entry dates that such dates can't be considered. I suggest you read 410(b)(4)© which specifically mentions entry dates. The regs carry this forward.

But it is still less than perfectly clear what is meant because 410(b)(4)© states: "An employee shall not be treated as meeting the age and service requirements described in this paragraph until the first date on which, under the plan, any employee with the same age and service would be eligible to commence participation in the plan."

Believe it or not, that section seems ambiguous to some. Some read it as you have asserted: you must use the plan's actual entry dates for dividing between those who are statutorily eligible and those who are not.

But others read that section (and the corresponding regulation section) to incorporate a theoretical definition within the plan of that which would delay participation until the last legal moment; which would be the use of semi-annual entry dates.

You need to decide which you are most comfortable with (you ARE the client, after all) after consultation with your advisors.

I can tell you that many a test has been performed using the statutory entry dates as a substitute for the plan's entry dates in testing otherwise excludable.

As I have stated in a prior message, there is not agreement at the IRS as to which is the proper construction.

You are certainly within your rights to take the approach you think most conservative.

[Guest 410b]

Ok, I am working to get the "otherwise excludable" concept in my head.

I will have to search out the document you are talking about, what I am looking at is headed "Definitions and Special Rules" at that location.

In the meantime:

otherwise excludable is confusing so I was trying to think about what it might relate to. That takes me to the employer side of things.

On that side, are there some concrete undisputable items? Such as:

Subject to clerical entry errors:

Employee DOB, DOH, and termination date (I don't know the proper initials for that one).

When you have a/the method for determining hours:

A year of service.

Based on plan documents,

The employer's plan entry dates for a given plan year.

Based on the above items:

Whether or not an employee may enter the plan, and the plan entry date of those who were allowed to enter.

And based on all of those:

The initial list/database/census of employees for the NDT test.

Compensation (ie HCE or NHCE) is irrelevant in regard to getting the list of names. The only date relationships that matter are the relationships between specific dates in the payroll records and specific dates mentioned in the plan.

I'm seeing those as clearly defined.

[Kimberly S]

That is a good start. You've identified the testing population.

Within that population you now divide them into (1) those who would still be on the list if the plan's eligibility and entry were the maximum allowed by law, and (2) those who are "otherwise excludable". The two subgroups are tested as though they were separate plans.

[Tom Poje]

regarding otherwise excludables:

(trying to keep it real simple, and completely ignoring entry dates)

the code says you can exclude people who worked less than 1 year and age 21

you indicated your plan lets people in as young as age 18.

so you were being more generous than you had to - anyone age 18 - 21 could have been excluded.

so they are referred to as 'otherwise excludable'

now quite often, these people because they are so young don't defer - thus they would be a 0 on the ADP test, making it harder to pass testing. Because the govt wants the opportunity provided to as many people as possible to defer, they will not 'punish' by forcing you to include these people in the major testing just because you were more generous by letting them into the plan.

hope that helps.

[Guest 410b]

NOT

otherwise excludable [from the testing population]

BUT

otherwise excludable [from the requirement to test against HCEs]

[Kimberly S]

NOT

otherwise excludable [from the testing population]

BUT

otherwise excludable [from the requirement to test against HCEs]

No, because occasionally you will have an HCE in the otherwise excludable group. (for example if the owner's children come to work for the company) It's just that "otherwise excludables" are tested separately from the rest of the group.

[Guest 410b]

One:

Thanks for the thinking clarification.

Two:

Off the thread topic a bit, but your response triggered another question.

I thought I had seen a thread/message/comment somewhere while searching that indicated that you weren't allowed to put any HCE's in the otherwise excludable test group.

So

Are you allowed to put an under 21 HCE in the otherwise excludable test group?

If you have otherwise excludable NHCEs and an under 21 HCE are they required to be in the otherwise excludable test group too?

If you have a low paid under 21 family member type HCE, wouldn't it be advantageous to have them in the HCE group?

[Mike Preston]

Oh, boy, you are gonna love this....... yes, you are allowed to put the HCE into the otherwise excludable group. However, there is a special rule, solely for testing the HCE deferrals against the NHCE deferrals which ALLOWS you (but does not require you to) aggregate the otherwise excludable HCE with the non-otherwise excludable group.

Are we having fun, yet?

[Guest 410b]

Tons of fun!

I think I should have phrased my last question to be low contributing, not low paid. If I have a low contributing family member, it would be best to have them in with the non-otherwise excludable HCEs?

And if they have a high contribution percentage, it would be best to have them in the otherwise excludable separate test, if that test can pass with them in it?

[Mike Preston]

Off the thread topic a bit, but your response triggered another question.

I thought I had seen a thread/message/comment somewhere while searching that indicated that you weren't allowed to put any HCE's in the otherwise excludable test group.

So

Are you allowed to put an under 21 HCE in the otherwise excludable test group?

Yes, you are allowed. In fact, it is the default. With the exception of the allowable alternative testing method mentioned in my last post, any HCE which would be otherwise excludable falls into the otherwise excludable group. If, when you test your otherwise excludables, it fails because of the HCE (or HCE's) included, you either invoke the alternative mentioned or you abandon testing your population as two separate groups.

If you have a low paid under 21 family member type HCE, wouldn't it be advantageous to have them in the HCE group?

First, you are continuing your confusion about what it means to be otherwise excludable. It isn't "the HCE group" that you exclude them from, it is the entire testing population that you exclude them from.

So, it depends on whether said under 21 family member has deferred. If they made 2000 and deferred 1900 (not an uncommon thing) then it is usually best to have them remain otherwise excludable, have the test on the otherwise excludable fail and then refund this poor young person's deferrals. Otherwise, if the alternative mentioned in my last message is invoked or if the plan is tested as a whole (without segregating the plan into two populations) this individual's deferral percentage will no doubt cause the test to fail. And even worse, since refunds are based on "he or she who deferred the most", this individual will no doubt be allowed to leave all of their deferrals in the plan, while an older HCE who deferred more (such as the $15.5k limit) will suffer a refund when there might not be a refund to this individual at all if the plan were tested based on otherwise excludable/not otherwise excludable.

[Mike Preston]

Tons of fun!

I think I should have phrased my last question to be low contributing, not low paid. If I have a low contributing family member, it would be best to have them in with the non-otherwise excludable HCEs?

Indeed, and that is the alternative mentioned in my now second previous message.

And if they have a high contribution percentage, it would be best to have them in the otherwise excludable separate test, if that test can pass with them in it?

Whether or not the test can pass! If it passes, of course. But even if it doesn't, the "damage" is usually less.

[Guest 410b]

A "for instance" of what I was trying to express with the HCE comment.

Say a company has 3 HCEs due to ownership and/or compensation. Then there is a 4th under 21 HCE who is an HCE only because of family relationship to one of the first 3. I was understanding your special rule comment to say that I could, if I wished, include the 4th under 21 HCE in the main HCE group to be tested against the non-otherwise excludable NHCEs.

[Mike Preston]

A "for instance" of what I was trying to express with the HCE comment.

Say a company has 3 HCEs due to ownership and/or compensation. Then there is a 4th under 21 HCE who is an HCE only because of family relationship to one of the first 3. I was understanding your special rule comment to say that I could, if I wished, include the 4th under 21 HCE in the main HCE group to be tested against the non-otherwise excludable NHCEs.

Yup, you could. See Code Section 401(k)(3)(F).

[Guest 410b]

In regard to the side issues:

Under 21 HCE family members. Thanks for the comments on that issued. I had something in mind, but after checking the facts I don't think the definition of child will stretch far enough in this area of the code to cover my situation.

Monthly entry date / Quarterly enrollment date issue.

I did finally bring this up Friday. I was pointed to another document in the drawer.

Company Name

Prototype Defined Contribution Plan

Adoption Agreement

I was directed to a section on pay reduction agreements. The first sentence in that section, prior to a statement and choice selection about subsequent pay reduction agreements, reads:

"The initial pay reduction agreement made by a Participant may be effective as soon as administratively practicable after his/her initial Entry Date."

And I was then asked what is the time for "... as soon as administratively practicable ..." ?

[Mike Preston]

And I think you will find that the DOL has been fairly rigid in their interpretation. Whether the IRS would adhere to the DOL's interpretation is not known to me, but I would suggest that an actual entry date of Mar 1 and an effective entry date of two months later won't cut the mustard.

The DOL has been, to put it mildly, on a rampage of late (the last few years) to "encourage" (through the use of excise taxes and audits) employers to ensure deferrals are forwarded to the plan within a very short period of time after those deferrals are withheld from paychecks. Language similar to the "as soon as administratively practical" language you cite has been interpreted to mean as little as two or three days. Lately, the DOL has come out with a proposed regulation that loosens that a bit, but two months would never have met their definition.

Yes, I recognize that there is a subtle difference between the issues being discussed. In the case of the DOL example we are talking about already withheld monies; in your case we are talking about the timing of when the first monies will be withheld.

I still suggest you highlight this issue to ERISA counsel and listen carefully to the response.

[Guest 410b]

Trying again:

There is a confusion here. Maybe more than one. Maybe more than two.

I wonder if one of the confusions is between terms and dates involving a service requirement and terms and dates involving a participation requirement.

Here is an example of the situation:

My plan is NOT more liberal than the statute in regard to service requirements. It equals the plan. Therefore I don't think it is correct to do "carve out' based on a service requirement.

Ah, but your service eligibility IS more liberal because of the entry dates. You could have entry 6 months after satifying the 1 year of service requirement. You have monthly (or quarterly) entry dates. Does what everyone is saying make more sense now?

For testing purposes there are two testing classes in my company’s participant population. There is an age-based class and a service-based class. There is also a participation rule which may (or may not) be interpreted and used in conjunction with the age-based class and/or the service-based class for segregating the testing population.

We are more generous than the minimum code requirement for age. This creates a group of age related otherwise excludable participants in our population. We are allowed to split the age-based class into two groups for discrimination testing. Much of the discussion in this thread has been about grey areas in regard to plan entry dates for testing purposes. Our plan is more generous than the minimum code requirement for entry/participation date, so based on the experience of others who have posted in this thread, we have an option for following the plan or IRS guidelines for separation of age-based otherwise excludable participants. If we follow the IRS guidelines, we will have more otherwise excludable or non-statutory participants than we see when we look only at the plan guidelines.

Although we are more generous than the minimum code requirement in regard to plan entry/participation, we are NOT more generous than the minimum code requirement for service. We match the minimum code requirement for service. There is only 1 plan in the company. All employees who have not met the service requirement are excluded from participation in the plan. While there are plan participants who have received more generous treatment than the code requirements for plan entry, there are no service-based otherwise excludable plan participants. Since there are no otherwise excludable service-based participants to segregate, a discussion about the proper method to segregate them for discrimination testing purposes is irrelevant. Testing on our plan that has attempted to exclude them is incorrect because it leaves us with an incorrectly computed HCE contribution limit.

[Guest 410b]

Does a monthly submittal of withheld monies work in relation to your interpretations of current DOL attitudes?

[Mike Preston]

You are free to resolve the ambiguities the way you have described, because you are the client and have been made aware of the ambiguities. In addition, nobody can claim that your descriptions aren't faithful to the English language equivalents.

However, please don't imply that others who have resolved the ambiguities differently, based on representations from IRS personnel, aren't also entitled to their positions.

I believe that you will be able to find court cases that have held that when official guidance is lacking and a plan sponsor resolves an ambiguity in a manner which is consistent with positions taken publicly by IRS personnel, that the plan sponsor's position is not unreasonable.

[Guest 410b]

Fair enough.

I am still uncertain if any of the answers I have gotten have come from someone who has had or is aware of another plan that does not have otherwise excludable service based employees applying the techniques discussed in this thread. I guess that's on me to figure out. I do have a much better understanding of the basis for applying the participation/entry date rules when otherwise excludable employees exist. I will be in a listening position sometime in the next few days while my opinions are critiqued by the testing company to the plan administrator. If I am allowed to comment, I will be able to do so in a much more informed manner than I would have been able to do a few days ago.

I cannot find the 410 reg online so that will need a library trip. I do intend to do that at some point, it is just a matter of figuring out where and then when is convenient.

I really appreciate the time that all the people who have responded have taken to read posts and give answers. It has been very helpful to me. I don't know where else I could have gotten this kind of help.

Regards,

410b

[Mike Preston]

Does a monthly submittal of withheld monies work in relation to your interpretations of current DOL attitudes?

Probably not. I think there is a proposed reg on the table that loosens their current stance (which is more akin to 1 or 2 days in most circumstance than anything else) to one week.

[Guest 410b]

Mike Moderator issue,

I was rereading some of the posts. One thing I wondered about,

could you check, roughly in the middle of post 19 and see if it shouldn't be 410(b)(4)(B) and ©, fix there if necessary, and then delete this post?

Thanks.

[BG5150]

I cannot find the 410 reg online so that will need a library trip. I do intend to do that at some point, it is just a matter of figuring out where and then when is convenient.

Does this help?

http://benefitslink.com/taxcode/

[Guest 410b]

Hi BG5150,

Thank you. I had found the Cornell stuff and had that 410 to look at. It is different than the references in the post Mike made.

I am not clear on the distinction between regulations and code, but I think I am supposed to be looking for a regulation.

Here is what Mike wanted me to read:

The definition of "otherwise excludable" is found in the regulations under IRS Section 410(b). You might want to find Regulation Section 1.410(b)-6 and read it. It is kind of long, so I won't repeat it here, but it is entitled "Excludable employees".

I don't remember precisely where now, but I had found online reference to what I think he was referring to in some library of congress related site, but the parts around that 410 number would not come up on my screen.

[Belgarath]

Try this.

http://ecfr.gpoaccess.gov/cgi/t/text/text-...26/26tab_02.tpl

The regulations "clarify" the Code sections. I use that term loosely. IRC 401(a)(4) says that plans cannot be discriminatory. Printing the regulations that "clarify" this (1.401(a)(4)) caused the destruction of bajillions of trees (more or less) for the paper, and the regulations spawned whole industries relating to interpretation and compliance. Who could have forseen the horror that awaited us.

[Guest 410b]

Yes, that's it. Thank you.

I have bookmarked both those references for future use.

[Guest 410b]

Regulation 1.410(b)-6

(b) minimum age and service exclusions

(3) Plans benefiting certain otherwise excludable employees

(ii) Testing portion of plan benefiting otherwise excludable employees

In determining whether the plan that benefits employees who would otherwise be excludable under paragraph (b)(1) of this section (applied without regard to section 410(a)(1)(B)) satisfies section 410(b) and §1.410(b)–2, employees who have satisfied the greatest permissible minimum age and service conditions with respect to the plan are excludable employees. In addition, if the plan being tested applies minimum age and service conditions and those conditions are less than the maximum permissible minimum age and service conditions, employees who have not satisfied the lower minimum age and service conditions actually provided for in the plan are excludable employees.

That appears to me to say that plan participation dates are the basis for picking the otherwise excludable employees. If they are short of the plan participation date, they are not plan participants. If they are beyond the greatest permissible minimum age and service conditions based on plan related dates, they must be included in the main test.

So this employee/participant was not a participant based on the semi-annual entry date approach (fiscal year plan):

Sample for one of the 35 reclassed due to DOH After 11/1/05.

NAME1. DOB APRIL 1954. DOH 11/14/2005. ENTRY DATE 12/01/2006. Disaggregated due to service of less than one year.

But in reference to the plan I think he/she had met the greatest permissible age and service conditions and would not be allowed to be an otherwise excludable employee according to the regulation.

[Mike Preston]

You may be wrong, buy you may be right (with apologies to Billy Joel).

There are others who read it entirely differently.

Keep in mind that the paragraph you are quoting is attempting to define a double exclusion. Those who are "under" are excluded and those who are "over" are excluded: only those who are neither under nor over are considered as part of the plan being tested in that paragraph.

The problem, I suppose, is due to the language that the IRS uses. Let's see if I have this right:

1) we want to test those who are defined in the regs as "otherwise excludable" as a separate population.

2) to do that we pretend that those who are otherwise excludable are actually includable (which allows the IRS to not re-write any of the regulations that reference includables). But the code and regs don't actually define includable. Includable is really the entire population reduced by those who are otherwise excludable. So the IRS turns the whole world on its head and redefines who are otherwise excludable just so you can test the real otherwise excludables as includables. I *know* we are having fun now! Right? RIGHT?????

3) the language for determining, in this circumstance, the otherwise excludables defines two groups: a) those who are so young or who have so little service that they have not yet become participants in the plan, per the plan's actual rules. This is the group defined by the last sentence of what you quoted ("In addition, if the plan being tested applies minimum age and service conditions and those conditions are less than the maximum permissible minimum age and service conditions, employees who have not satisfied the lower minimum age and service conditions **ACTUALLY PROVIDED FOR IN THE PLAN*** are excludable employees."). b) those who have so much service and are so old as to be participants in the plan if the rules were applied to: "employees who have satisfied the greatest ***PERMISSABLE*** minimum age and service conditions with respect to the plan are excludable employees."

Note the difference in language. In the first group, the really young or short service group must be determined using the "conditions" that reference the actual provisions of the plan. The second group (what I usually call the BIG group) is determined using the greatest permissible provisions; not the actual plan's provisions.

At issue, of course, is whether the period of time "waiting for the next entry date to roll around after an employee has established the age/service requirements under the plan" can be part and parcel of the "greatest ***PERMISSABLE*** minimum age and service conditions with respect to the plan".

I say yes, you say no. There are those at the IRS that will line up behind you, and there are those at the IRS that will line up behind me.

Does the language of 410(a)(4) help any: "TIME OF PARTICIPATION: A plan shall be treated as not meeting the requirements of paragraph (1) unless it provides that any employee who has satisfied the minimum age and service requirements specified in such paragraph, and who is otherwse entitled to participate in the plan, commences participation in the plan no later than the earlier of (A) the first day of the first plan year beginning after the date on which such employee satisfied such requirements, or (B) the date 6 months after the date on which he satisfed such requirements, unless such employee was separated from the service before the date referred to in subparagraph (A) or (B), whichever is applicable."

I'll let others carry the ball from here, I'm afraid, unless some time opens up that I'm not expecting.

Good luck.

[Guest 410b]

So I have either made a clear point ambiguously or an ambiguous point clearly.

(Or am ambiguously supporting an ambiguous point.)

Again I appreciate the time you have taken to review and respond to my posts.

1). I agree.

2). I partially agree.

I don’t believe the IRS “redefines” who is otherwise excludable. I think that the IRS “defines” otherwise excludable by defining the methods to separate the employee population into three groups; employees who are non-participants in the plan, employees who are statutory participants in the plan, and employees who are otherwise excludable or non-statutory participants in the plan. Once that is done, the employer knows who in the participant population is allowed to be in the disaggregated testing group (ie, as you said, test the real otherwise excludables as includables). All other plan participants must be in the BIG group.

3). Two groups, see comment above.

b) those who have so much service and are so old as to be participants in the plan if the rules were applied to: "employees who have satisfied the greatest ***PERMISSABLE*** minimum age and service conditions with respect to the plan are excludable employees."

Note the difference in language. In the first group, the really young or short service group must be determined using the "conditions" that reference the actual provisions of the plan. The second group (what I usually call the BIG group) is determined using the greatest permissible provisions; not the actual plan's provisions.

I disagree with the last sentence.

In post 19 above, this:

employees with repsect to the plan

Was allowed to describe a relationship between employees and the plan.

In post 45 above, this:

"employees … with respect to the plan

Is not allowed to describe a relationship between employees and the plan.

It can’t go both ways.

The BIG group is determined by reference both to the code (i.e. greatest permissible provisions for age and length of service) and to the plan (for the time of participation). “With respect to the plan” is indicating a look to the plan, not the statutory provisions, for the time of participation.

At issue, of course, is whether the period of time "waiting for the next entry date to roll around after an employee has established the age/service requirements under the plan" can be part and parcel of the "greatest ***PERMISSABLE*** minimum age and service conditions with respect to the plan".

I disagree.

In response to a previous post of mine, I believe you pointed out that 410(b)(4)(b) and 410(b)(4)© must be taken together to define both “completion of period of service requirements” and “participation date requirements” for otherwise excludable participants. I believe this means that a wait for a next entry date is part of the process for determining the otherwise excludable/non-statutory participants.

Re 410(a)(4). This defines the greatest permissible elapsed time between the employee’s completion of the period of service defined in 410(a)(1) and the employee’s commencement of participation in the plan.

I see the issue being “what is the proper participation date to use?”. My opinion is that the “with respect to the plan” language of 1.410(b)-6 indicates that this statutory participation time is not allowed to be used in the determination of otherwise excludable employees.

[Blinky the 3-eyed Fish]

410b, I fully understand you wanting to know the details, but don't you think it wise to take the advice of pension professionals who KNOW this stuff inside and out, rather than thinking you have solved this issue on your own? Listen to Mike (and others) or don't listen, but stop beating a dead horse.

[Mike Preston]

As I said, 410b may be right. Technically. Even though I don't think he is, that means very little in the long run.

I am reminded of the story of 1.401a-20 which includes the requirement that the QJSA be the most valuable benefit. Now, it used to be that 1.401a-20 said merely that. I read it faithfully and opined that it meant we must offer lump sums that were not more valuable than the QJSA offerred. Sounds simple, right? Wrong. The IRS modified the reg and stated that what they had meant to write that the QJSA requirement applied to everything except lump sums determined under 417(e). Retroactively. Why? Because, in part, that is what their reps had been saying at various conferences. There is no question but that my reading was correct and the IRS announcement applying the "correction" retroactively supports my reading as having been accuate. But there are those who did it "wrong" for many a year who were found to have "done it right" by a stroke of the pen. I should point out that many thought my position was incorrect when I voiced it (even here on BenefitsLink, if I recall). Now, it turns out that it was merely "the conservative view."

Certainly, 410b is free to take the conservative view, because the language is interpreted by him to be as clear as my reading of 1.401a-20 was to me. And even if the IRS comes out and clarifies it someday and proves him "wrong", it is hard to imagine the IRS beating him up for doing so.

[Blinky the 3-eyed Fish]

My whole issue with 410b is not whether or not his/her position is wrong, it's the fact that he/she is stating the other methodology is wrong. Sorry, it just rubs me wrong to see that sort of hubris (or ignorance). Mike, you have presented a sound reasoning for why the other position is plausible and the methodology many use.

[Guest 410b]

Blinky,

I saw reference to the 3 eyed fish in another thread about avatars and wondered what it looked like. Now I know.

I guess I am not sure if I have been beating a dead horse or not, but that idea implies to me, a fairly narrow focus as to what has been going on here. This thread has been of great benefit to me and I wanted to try and express some of the things that I see.

First, among other things, I am capable of being both hasty and inflammatory. As I have started to see more about how complex the issues are, I have tried to moderate that presentation. The comments Mike made about "critical" indicate I probably have not been successful. Again, I am not sure how successful I was, but in the last post I made, I worked hard to try to say things to the effect that I thought or I disagreed or I would interpret differently rather than stuff like you are wrong. I think that one of the conclusions I am drawing from the thread as a whole is that I did not ask my initial question(s) correctly.

There is no way that I can make any effort on this site as an exchange for information received. The best I can do is to say that since I have asked questions here and others have taken the time to answer them, even though my initial response is heated disagreement, I have an obligation to work to understand what they are saying to me and why they are saying it. That has been a very interesting process which has again reminded me about hastiness and forced me to think hard about what hidden assumptions I have made in approaching the issues. It has forced me to think about what I think is the right approach and work to find the words and sentences to express those ideas and incorporate the responses of others into that process.

I have learned about the basic justification reasons our plan tester will probably use to justify their approach to the testing.

While he has not said so specifically, I think that Mike thinks my approach is incorrect. He has however indicated that it might be correct, which means to me that it has some defensibility. There are some company specific reasons, which are not appropriate for me to be posting here, as to why I think we should consider a more conservative approach. Mike's responses help me to believe that that is not a totally irrational concept.

I have also gotten reference links to both the code and the regulations. I have learned the term otherwise excludable employees and that testing with them in a separate group is an industry standard practice. I have seen some thread responders that presented each of the two sides of the issue.

Most helpful.

Regards.