Permissible to reduce profit sharing contribution allocation by matchi

[John A]

Employer wants to adopt a profit sharing formula of a set percent of compensation, reduced by any matching contributions a participant receives. Is this a permissible profit sharing formula?

[MWeddell]

John, let me respond by talking about what sounds like an analogous situation rather than directly addressing your question.

I have a client with a match formula of 50% on the first 5% of pay deferred to the plan, but everyone is guaranteed a 1% of pay contribution regardless of how much they contribute. While this may be communicated as a single matching formula, it's actually a combination of both a matching and a nonmatching contribution. To some extent the contribution varies depending on what an employee defers, and to some extent it doesn't. In my client's situation, we split the contribution into a 1% allocation to everyone meeting the 401(a)(4) safe harbor and a match requiring ACP testing of 0% on the first 2% of pay and 50% on the next 3% of pay, although there may be other ways to split the contribution between matching and nonmatching.

[John A]

MWeddell,

Thanks for the response. In this situation, the employer wants to have a guaranteed 5% of profit sharing contribution, but reduce it by a any contributions made under a match formula of 100% of the first 3% of pay. So everyone will end up with 5% of employer contribution - it will just be split differently between the profit sharing and match sources. Do you think that's permissible?

[Guest SPOT]

So basically, your client wants to punish those who defer and help him pass the ADP test and reward those who don't defer.

[Fredman]

Why have a match?

If I understand this right, everyone will get a 5% ER contribution.

Why not give everyone a 5% P/S contribution and save some admin headaches? 100% vest the first 3% and turn it into a safe harbor plan and forget about testing.

[KJohnson]

Assuming you could pass ACP, I would do it the other way around. I would reduce the match by the profit sharing contribuiton. That way you know your profit sharing formula would pass a 401(a)(4) safe harbor. Passing ACP may be an issue. I guess under your scenario you would have a 5% profit sharing contribution and a match based on any amounts deferred over 5%. Who knows, it may actually work for ACP because someone who was making $200,000 would not be able to defer much over 5% because of the 402(g) limit. Look at the following link (where I believe that both you and MWedell weighed in, :

http://www.benefitslink.com/mbmirror/4744.html

[KJohnson]

If you are adjusting the profit sharing contribution by the match instead of the match by the profit sharing contribution then do you have a problem under 401(k)(4)(A). The profit sharing is dependent upon the match, the match is dependent upon the deferral and therefore you have the proft sharing dependent upon the deferral--a 401(k)(4)(A) violation?

[John A]

Thanks to all who responsded. Fortunately, the client decided to do what Fredman suggested, which makes more sense to all concerned. The initial thought from the client was to do a safe-harbor match and offset the profit sharing by the safe-harbor match. Initially, they wanted the safe-harbor contribution to go only to those who deferred. But since they wanted everyone to get 5% profit sharing contributions anyway, it made more sense to do the safe harbor nonelective contriubution rather than the safe harbor match. The small price they pay for this, which might have been avoided with the original intent, is that participants who do not defer and who do not meet the last day and hours requirements for the additional (non-safe-harbor) profit sharing will still get a contribution.

[Greg Judd]

Originally posted by John A

The initial thought from the client was to do a safe-harbor match and offset the profit sharing by the safe-harbor match.  Initially, they wanted the safe-harbor contribution to go only to those who deferred.  But since they wanted everyone to get 5% profit sharing contributions anyway, it made more sense to do the safe harbor nonelective contriubution rather than the safe harbor match.  The small price they pay for this, which might have been avoided with the original intent, is that participants who do not defer and who do not meet the last day and hours requirements for the additional (non-safe-harbor) profit sharing  will still get a contribution.

John, I'm interested in the sponsor's plan for communicating this design to employees. I'm looking at an employer who I believe is doing a 'safe' thing, but communicating it in a way that makes it seem they're doing something impermissable (predicating PS on employee deferrals - basically what KJohnson cautions about).

[John A]

Greg,

I'm not sure I can answer your question. The employer decided on a plan design of a 3% nonelective safe harbor contribution, with an additional profit sharing contribution above the safe harbor amount that will be based on "typical" requirements, like last day and 1,000 hours. None of the profit sharing will be dependent on deferrals.

The employer will of course issue the safe harbor notices and will provide SPDs explaining the contributions.

[Greg Judd]

Originally posted by John A

The employer decided on a plan design of a 3% nonelective safe harbor contribution, with an additional profit sharing contribution above the safe harbor amount that will be based on "typical" requirements, like last day and 1,000 hours.  None of the profit sharing will be dependent on deferrals.

The employer will of course issue the safe harbor notices and will provide SPDs explaining the contributions.

Thanks John. Your assessment seems exactly right: sounds like theirs is a very straightforward, nothing-but-positive-news-for-employees communication.

I love happy endings! If anybody else has seen employers doing offsets that pass statutory muster, but need careful communication to employees, please chime in.