NHCEs covered under DB Plan, can HCE's contribute to 401(k) Plan?

[Guest Richard Scheer]

Small Company - Owner and 7 employees, 2 of which are HCE.

Client already has a DB Plan. The two HCE's will enter the Plan in 2002, but due to thier ages, will be very expensive. Client would like to set up a separate Plan just for the HCE's.

I know that we can exclude the HCEs from the DB plan.

I think we can set up a PS Plan just for the HCE's with a 3% ER contribution. -- the NHCE's will be receiving the top-heavy minimum benefits under the DB Plan, and if we aggregate plans for testing, they will pass 401(a)(4).

Can the new PS plan include 401k deferrals for the 2 HCE's?

Thanks for any help.

[AndyH]

No. If you aggregate the plans for a(4), then you're aggregating them for 410(B) and ADP testing as well, so you've got a 0% NhCE deferral average, and your HCE limit is also 0%.

[Guest Richard Scheer]

That's what I thought, but I was told by others that it would pass since the NHCE's were covered under the DB Plan

[AndyH]

No, not for ADP. Whoever told you that was wrong.

[Richard Anderson]

Why not include NHCEs in the 401(k) plan, but exclude them from the employer contribution?

[Guest Richard Scheer]

Cleint asked, none of them want to contribute.

[Tom Poje]

fascinating. this might work. or at least it has possibilities. see if I messed up in the logic here....

you indicated the following

1 owner

2 hces ?????????????but are they

5 nhces

use top paid group election. (assuming the 2 'hces' are by comp only, this would work)

8 total employees * 20% = 1.6

you are allowed to round up or down. round down to one HCE.

owner makes the most $ so he is the hce. oh, but he is not in the plan. so now your hces become nhces . plan will pass!

suppose one of the ees makes more than the owner.

well then, now I guess for 410(B) you have

1 /6

1 /2 = 33% ratio %

nhce % = 75% or safe harbor of 38.75% dang that wont work.

well, then the owner has to make more.

[Guest Richard Scheer]

Since none of the other NHCE's want to contribute (probably due to their low salaries), I was thinking of recommending a Safe Harbor 401(k) Plan which uses the matching contributions.

--- HCEs can now contribute $11,000

--- Employer matches 100% of 1st 3% plus 50% of next 2%, which is about what they wanted to contribute anyway

---- NHCE's will be allowed to participate, but can't afford to contribute. Even if they do contribute, the $ cost to the Client should be relatively small.

[AndyH]

Richard, don't forget about the 25% deduction limit. You might just want to have one age weighed ps/k plan with a safe harbor nonelective to minimize the risks.

And, Tom, nice angle on this. Just a little too "high maintenance" for me, but quite interesting.

[Richard Anderson]

AndyH,

Beginning in 2002 deferrals don't count towards the 25% deduction limit. Therefore a deferral only plan can be used in combination with a DB that has contributions in excess 25%.

The Safe Harbor 401(k) will work. HCEs are not required to receive the SH contributions. Therefore, if no NHCEs defer, the plan could end up being a deferral only plan for HCEs. But, if any NHCEs defer and receive a match, (as Andy points out) that match might not be deductible if the contribution to the DB is 25% or more.

[IRC401]

Have you considered allowing the HCEs to make a one time election instead of having a 401(k) arrangement? You may not be able to use a prototype document.

[AndyH]

Please elaborate, IRC401. ???

[Guest Richard Scheer]

I relayed this information to the people involved and was advised by two EA's and a lawyer who contaced the IRS that we do not have to aggregate the Plans for ADP testing. The ADP test will be based on Plan participants only and since no NHCEs will be covered under the 401(k) Plan, it will automatically pass.

Does anyone know where in the Code or Regulations it proves them wrong? It still doesn't sound right to me.

As far as the 25% deductibility problems, since this plan will cover the 2 HCEs only and the DB Plan covers everyone else, no participants are covered under both trusts, and therefore 404(a)(7) does not apply.

[Tom Poje]

the problem isn't with the ADP test. the problem is coverage.

how many NHCEs are 'eligible to participate' (even though they worked 1 year and are age 21.

zippo.

so plan fails coverage.

I would again ask, why are the people considered HCEs? if it is just comp and not ownership, then the top paid group election might be your only way out.

and if you never go above 9 total employees then only the owner might end up being an HCE

[Guest Richard Scheer]

Why can't we pass the coverage tests by aggregating the Plans? The DB Plan will provide a more valuable contribution than a 3% contribution which will be given to the HCES in the 401(k) Plan.

These 2 HCES are each going to be 5% owners, so I can't use the top-paid group election.

I think the owner will eventually sell the company to them, but for now noone involved wants to make the high contributions which would be required under the DB PLan.

[AndyH]

Richard, under 410(B) you've got either 2 or 3 plans. You have a DB which may or may not be aggregated with the discretionary profit sharing. So that's either 1 or 2 plans for 410(B).

They you have the 401(k) which must be tested separately as if it were another physical plan document. The 401(k) will not pass coverage. It cannot be aggregated with anything else.

So, Tom's right. The failing code section is 410(B) on the 401(k) side and you may or may not have 410(B) problems with the portion of the "plan(s)" other than the 401(k). If you aggregate the DB and the PS, you'll pass 410(B) but then you'll have to pass 401(a)(4) as well.

[Guest Richard Scheer]

I forgot that 401(k) plans can't be aggregated.

Thanks for reminding me.