Paul I

Double check the safe harbor notice rules. You don't need a safe harbor notice if the plan uses the SHNEC as as ADP test safe harbor. If the plan uses the SHNEC for both as as ADP test safe harbor and as an ACP safe harbor, then you need to provide a safe harbor notice. See 1.401(m)(3)(a). This is an easily overlooked requirement. The match formula can be fixed or discretionary as long as the formula used to calculate the match does not exceed 4% of safe harbor compensation and based on deferrals not greater than 6% of safe harbor compensation. See 1.401(m)(3)(d)(3).

Check out the preamble to regulations regarding Retirement Plans; Cash or Deferred Arrangements Under Section 401(k) and Matching Contributions or Employee Contributions Under Section 401(m) Regulations published in the Federal Register / Vol. 69, No. 249 / Wednesday, December 29, 2004 page 78151 "The proposed regulations did not include any exception to the requirements for safe harbor matching contributions with respect to catch-up contributions. As part of the proposed regulations the IRS and Treasury solicited comments on the specific circumstances under which elective contributions by an NHCE to a safe harbor plan would be less than the amount required to be matched, e.g., less than 5% of safe harbor compensation, but would be treated by the plan as catch-up contributions, and on the extent to which a safe harbor plan should be required to match catch-up contributions under such circumstances. After reviewing the comments and the applicable statutory provisions (including the amendments to section 414(v)(3)(B) made by the Job Creation and Worker Assistance Act of 2002, (JCWAA) (Public Law 107–147)), the IRS and Treasury have determined that no such exception is appropriate." Basically, the safe harbor match applies to all deferrals and, the IRS having thought about it, decided not to make an exception for catch-up contributions.

The provision was added ostensibly to make it convenient for a participant to convert match and NEC contributions to Roth without having to do an in-plan conversion. It would seem logical - and that certainly is not a deciding factor on how this shakes out - that the taxation would parallel what currently is done for in-plan conversions. If so, then the company would not be involved other than to make the company contributions as they always have done. The plan recordkeeper would collect an election from the participant to treat the company contribution as Roth and also an election on whether income taxes would be paid out of the participant's account. The plan recordkeeper would know the participant's vested status and the amount of the contribution. The plan would report the taxable amount to the participant on a 1099R Code 2 (no 10% early withdrawal penalty). The amount would be taxable based on the date of the conversion which would be around the time the employer contribution was posted to the participant's account (not the plan year associated with the contribution). Withholding is optional, so the participant would need to either pay estimated taxes, or up their withholding from wages. If plan allows, the participant could an in-service withdrawal but that would be taxable and possibly subject to the early withdrawal penalty. Note that the company would not have to pay payroll taxes on these Roth amounts, and the Roth amounts would not affect compensation used by the company's other benefit plans. For self-employed individuals, the year of taxation of the Roth amount would depend upon the date the amount was funded to the plan. Note that the Roth amount would be considered as taxable income from the qualified plan and not be considered as taxable self-employed income. Thoughts anyone?

The language in the employment contract describes the how the company will determine how to calculate the compensation to be paid to the HCE. On the surface, it appears that the company is including an amount in the HCE's compensation that is equal to x% of compensation which is added to the HCE's gross pay and labeled "pension funds". Since it is added into gross pay, presumably payroll taxes are being withheld from the "pension funds". The HCE has filed an election to defer x% into the plan. Check to see if the plan definition of compensation includes this special pay. Some plans have definitions that specify certain categories of compensation are excluded from the calculation of deferrals. For example, if the "pension funds" are given to the HCE in a lump sum amount at the end of the year, the "pension funds" will look more like a type of bonus and the plan may exclude bonuses. As an aside, ask if the "pension funds" are included in compensation for purposes of the company's other benefits (for example, life insurance coverage as a multiple of compensation). Also check whether the x% is applied to compensation before the "pension funds" are added to compensation, or is the x% applied to compensation after the "pension funds" are added to compensation. Self-referential formulas are a pain. If the deferral is calculated before the "pension funds" are added and the "pension funds" are included in the plan definition of compensation, there may be an operational error for failure to follow the HCE's deferral election to defer x% of compensation. If the plan is a safe harbor plan, then hopefully the "pension funds" are included in the plan definition of compensation. The definition of compensation for calculating a safe harbor contribution likely will require the inclusion of the "pension funds" in the compensation used to calculate the safe harbor contributions (match or NEC). Since the HCE was able to negotiate this special deal, I suspect that there is a good likelihood the HCE will hit the deferral maximum. Does the contract address what happens if the HCE cannot defer x% of compensation due to the annual maximum deferral limits? Is the annual compensation limit taken into account when calculating the x% of compensation? The company and HCE should have an agreement on what happens should limits prohibit deferring the full x%. You are correct to be concerned because of the potential operational errors that could result from ambiguities in calculating this HCE's compensation and deferrals. With some good luck, none of this is an issue.