Catch-up contributions

[Guest slt]

Does anyone know if the normal 401(k) restrictions apply to distributions of catch-up contributions? I would think the answer is yes since these are basically additional elective deferrals.

What is everyone doing administratively? Are you creating special codes for catch-up contributions for ADP purposes (since catch-ups are not included in this test)? Since individuals can make catch-up contributions from the beginning of the year, it seems like you would have to create two boxes - one that computes the normal 402(g) (or 100% of comp) limit and one that computes additional catch-up contributions. What then happens if the employee leaves mid-year and the amount in the normal 402(g) box and the catch-up box is LESS than $11,000? Presumably all of this would have to be lumped back into one box and then tested under ADP. Wouldn't this lead to an administrative nightmare? What's the best way to go about doing this?

I'd be interested to know what companies are doing to administer the catch-up rules. Thanks.

[Guest earthy]

Yes, I'd track them separately - for sure. While the legislation called these contributions to be so called "additional deferrals", I would not bet that the IRS will look at these contributions as per se elective deferrals as contemplated by TRA '86.

In fact, since this is an entirely new code section (414(v)), the IRS may simply look at the additional deferral as only an annual addition to an individual account plan - 403(B), 401(k), etc.

The 402(g) regulations and 415© regulations still work independent of one another for individual compliance purposes.

The IRS needs to issue ordering guidance on the administration of age-based catch-up contributions.

earthy in H-Town

[Guest dubya]

I think you have to watch out that things don't get too messy with these, especially in regard to how soon you allow people to make catch up contributions. Since catch-up contributions exist only when either the statutory limits are exceeded (402g, 415), the plan deferral limit is exceeded, or upon failure of the adp test, I wouldn't be that aggressive as to have a separate box or something on an enrollment form saying "I want to put in ____% 401(k) contributions and an additional $___ in 414(v) catch up contributions. Even if in total they exceed the plan limit on deferrals, suppose the person stops deferring altogether in at mid year. Their adr would likely be below the plan's limit at the end of the plan year. Then, you would not really have catch-up contributions. No big deal in calling them "regular" 401(k) contributions, I suppose, but if your payroll firm has been tracking them separately, and if they've been invested separately, it could get out of hand quickly. Not necessarily wrong or illegal, just messy.

[Guest shafter]

Has anyone heard of any state legislature taking action to disallow any or all provisions of EGTRRA? or more likely refusing to implement the changes into state law?

[Belgarath]

Shafter - it seems to me that I read somewhere that California had some non-conforming statutes, and their legislature didn't get one passed this year. But I can't begin to tell you where I saw that - it may have been a link on the "Benefits Buzz" or it may have been somewhere else. Sorry I can't be any more specific!

[Linda]

I think the source of the problem in California might be Cal §17024.5. This California law appears to incorporate the IRC as in effect on a specific date (e.g., 1/1/98) and not recognize changes in the IRC enacted after that date. So, it seems that we need the California legislature to amend §17024.5 to pick up the IRC as in effect as of 1/1/2002 (or as amended by EGTRRA).

Comments?

[Guest shafter]

It appears there are about 20 states with similar references to the Code. What we have heard is there was a "good deal of discussion going on that some or all of the benefit provisions in EGTRRA may not be adopted because of the state's financial problems. California is not the only state is this situation." I printed off something from Pillsbury Winthrop LLP about 11/7/01 that cautioned employers to consult state tax counsel before adopting catch-up contributions. That only made a minor impact on me then. Since then I have seen Fidelity's review of Massachusetts income tax code that incorporate's IRC as of July 1998. Some of their conclusions are down right scary for an employer or a TPA.

[Belgarath]

Assuming a state does not have conforming statutes: in a general way, is this really such a big deal? (In relative terms) I don't know what the tax rates are for the states involved, but as long as the employer gets the tax deduction for federal purposes, that's the bulk of it. Then, do they get the deduction for the state income tax up to the level or pre-EGTRRA, or are they precluded from taking a state tax deduction at all? If the former, the difference shouldn't be that great for most employers. If the latter, then it's a much bigger problem.

I realize that losing any deduction isn't much fun, but in the overall scheme of things, maybe this isn't really as bad as it might initially sound...

[Linda]

I agree that the dollars may not be very significant, but what about the administrative/record keeping implications? How hard will it be to set up systems to track this?

[Guest shafter]

It isn't the employer deduction that is my concern, it's whether or not the catch up contribution is a pre-tax contribution (if it is not pre-tax, any earnings may not be pre-tax) (you now have different reporting requirements on the W-2 to accommodate federal & state income tax laws). Rollovers between 403b, 457, IRA, etc., that are tax deferred at the federal level may be a taxable distribution at the state level. These are the two issues (on a long list) I see as causing the DC plans I administer the most problem.

[Belgarath]

It's certainly pre-tax for federal purposes. But I can see your point, and Linda's, about potential nightmares for state reporting and recordkeeping purposes. I just don't know any answers.

Does anyone know how this is handled at a state level? I seem to remember in the dim and distant past that Minnesota didn't allow the full IRA deduction that was allowed at the federal level.

If so, how was this handled? Maybe a CPA out there can give us an indication. I'm glad it's Friday!

[Belgarath]

Just an update - I just saw an analysis posted on another message board, by a couple of attorneys at Fidelity investments, (Michael Dibiase and Weiyen Jones were the attorneys 617-563-3669, and 617-392-8632). Although the analysis was specific to Massachusetts, many of the same issues will arise in other states.

The potential implications are worse than I had realized, and while I hope that states will be reasonable about these issues, it gets a bit scary when dealing with a bunch of state legislatures who are looking for revenue...

[Linda]

What message board? I'd like to see the post.

[Belgarath]

It was forwarded to me by a cohort who is a member of the PIX bulletin board - run by Derrin Watson, I think.

I don't know how long a document I can put into this - I'm technologically disadvantaged! But it was forwarded to me in a WORD document, so I can cut and paste it into an e-mail if you want to send me your e-mail address. Unless that violates some protocol on this message board.

[wmyer]

Hi, Belgarath, you can attach the .doc file directly to a posting on the message board...that way, all can benefit and you won't get e-mails from everyone asking you to send the MS-WORD file. (When you post a reply, there's an option that says "Attachment" underneath the smilies.)

[Belgarath]

Ok, thanks. Here goes, and I hope it works ok!

[Belgarath]

Actually, there is another document which I forgot to attach. Hope everyone finds this helpful!

[Guest dmj1998]

Thanks for the postings, Belgarath.

Does anyone happen know who these 20 "rogue" states might be and whether not they are serious about not recognizing these changes?

[Guest SteveR]

djm1998,

I suspect some states without income taxes such as Washington State would be on your list of "rogue" states. Unfortunately, I don't know how many other states do not have income taxes.

[Belgarath]

Here's another one which I didn't have when I forwarded the first two. This is just a short one, but the footnote at the bottom gives a preliminary listing of the states.

[BeckyMiller]

This is a reply to Belgarath regarding Minnesota's weird treatment of IRAs. This also applies to their treatment of Keogh plan contributions as they went through conformity changes in 1981-1984. Basically Minnesota just gave up one day and allowed folks to bring their Minnesota tax treatment into conformity with Federal. It was pretty silly.

On a serious note, with so many states facing budget problems this year, I am a bit concerned about their getting down to business on this technical issue and creating the necessary conformity. I suggest that we all contact our State representatives to advise them of the need for this action.