HCE definiton

[fiona1]

So let's say I'm determining my HCE employees. I use the alternative definition of HCE, so the employee must:

-be a greater than 5% owner in the current plan year or preceeding 12-month period, or

-have earned more than the HCE dollar limit and have been paid in the top paid 20% of all employees in the preceeding 12 month period.

I'm doing my 12/31/03 plan year testing. So I need to look at the 2002 plan year. Let's say I have 100 employees.

Q1: Do I need to subtract the employees who are not eligible?

Q2: Let's say I determine I have 14 employee's who should be HCE. So I take sort my list of employee's by compensation - highest to lowest. 2 of those members termed in November of 2002, so they won't be included in the 2003 test.

Do I substitute the next two employee's who qualify to be HCE to replace the two who won't be on the test?

[Mike Preston]

Q1: The determination of the number that you multiply by 20% in order to establish the employees that are HCE's because of compensation is not a trivial calculation. It has nothing to do with who is eligible under the plan. You need to read Q&A 9 of regulation section 1.414(q)-1T. Basically, the employer needs to answer five questions:

a) What is the service threshold to use in determining the top-paid group? [Default, and maximum, is 6 months]

b) What is the age threshold to use in determining the top-paid group? [Default, and maximum, is 21]

c) What is the "hours per week" threshold to use in determining the top-paid group? [default, and maximum, is 17.5]

d) What is the "months of normal work" threshold to use in determining the top-paid group? [default, and maximum, is 6 months]

e) If the employer employs those who are covered by a Collective Bargaining agreement such that the number of collectively bargained employees is 90% of more of the employer's total workforce, then does the employer choose to ignore the collectively bargained employees when determining the top-paid group?

Once you have the answers to the above questions, you can fill in a chart that will look roughly like this:

1. Total Employees employed at any time during the look back year: ______

2. Subtractions:

a) Employees that did not complete W months of service where W is determined from (a) above. Note how this is determined (See Q&A 9-(b)(1)(i)(A) of the regulation cited above for this. Basically, you look at everybody who is employed during the lookback year who had, if active at the end of the year, a hire date that is at least W months prior to the end of the plan year, and, if not active at the end of the year, a hire date is more than W months prior to their termination date). _____

b) Employees who did not reach their X birthday as of the end of the lookback year (or as of their termination date if no longer active), where X is determined from (b) above. ____

c) Those employees that do not "normally" work Y hours per week, where Y is determined from ©, above. Again, note how this is determined (See Q&A 9-(e) of the regulation cited above for this. Basically, you count the number of weeks that an employee worked at least 1 hour. You then count the number of week that the employee worked at least Y hours and the number of weeks that the employee worked less than Y hours. If the former divided by the sum of the two is 50% or more, that employee is not excluded under this rule). ____

d) Those employees that do not "normally" work Z months during the year, where Z is determined from (d), above. (See Q&A 9-(f) for the determination of this one. This one is the toughest to determine because it is the only one where you take into account experience before the look back year. Most often I see people just default this one to ZERO to avoid the complexity.) _____

e) If the answer to (e), above, is YES, those employees that are excluded pursuant to (e), above, if any: ___

3. What is (1) less the sum of 2(a) through 2(e)?: _____

4. The number in 3 is multiplied by 20% to determine the top-paid group number. ___

But you aren't done, yet.

Now you need to round the number determined in 4. You can round up. You can round down (truncate) or you can round to the nearest whole number. You need to adopt a rule here, though, and stick to it from year to year, as there is a consistency requirement.

Now that you have your number, you rank the employees by compensation in the prior year and you make those that are in the top 20% the HCE's. Note that it is possible to have somebody in this ranking that is not included in the total in 3. For example, if you pay somebody lots of money as a hiring bonus at the end of the lookback year they might be excluded under (a) because they did not work 6 months by the end of the lookback year. But if they end up being in the top 20% of all employees, they are still an HCE.

This all seems pretty intimidating, but it really is a pretty simple determination once you get the answers to the questions above.

There are some minor exceptions to the above (like if the employer has a QSLOB), so there really is no substitute for reading the regulations: both 1.414(q)-1T and 1.414(q)-1.

Q2: No.