One Time Irrevocable Election

[Guest ptpnthr]

I've looked through this board but I have not found a complete answer on this.

What is the result of a one-time irrevocable election of a participant - when the participant is first hired and first becomes eligible to participate in any plan of the employer - not to participate in the employer's profit sharing/401(k)/401(m) plan?

Here is what I think the answers are, but I'm not sure.

1. Profit Sharing Plan

(i) The employee will not receive contributions.

(ii) 410(b) - the employee is counted in the denominator, but not the numerator, for the applicable fraction (e.g., for the HCE fraction if the ee is an HCE or the NHCE fraction if the ee is not an HCE) for the ratio percentage test.

(iii) 401(a)(4) - EE is not eligible so 401(a)(4) does not apply.

2. 401(k) Plan/401(m)

(i) EE will not be eligible to make any 401(k) deferrals and of course will receive no match.

(ii) 410(b) - Same as 1(ii).

(iii) ADP/ACP - EE is not an eligible employee and therefore is not counted at all - numerator or denominator - for the ADP/ACP tests.

3. Forfeiture allocations

(i) EE will receive none.

(ii) 410(b) - ???

4. Other?

Thanks.

[g8r]

Everything is correct as stated. The last item on forfeitures re: 410(b) is the same as the other 410(b) issues.

Essentially, 410(b) is the crux of the issue. The person is not a statutorily excludible employee so the person counts in the denominator and is treated as not benefiting. Once you pass 410(b), the person is disregarded for the other tests (e.g., ADP, ACP).

If it's an HCE it won't be a problem. If it's an NHCE, then you could flunk 410(b). I've always wondered what would happen in that situation. Since the person elected not to participate, you could certainly argue that the HCEs in the plan pay taxes b/c you can't do a corrective amendment pursuant to 1.401(a)(4)-11(g).

[Mike Preston]

If testing 401(a)(4) for the employer contribution (not the ADP/ACP) then this individual is treated like any other ineligible employee. If not statutorily excludable (for example, in the first year) then this person counts in the denominators but won't show up in any of the numerators. Unless I'm misunderstanding the situation.

[Guest Kevin Wiggins]

It seems to me that first you test 410(b).

1. 401(k)/401(m). Section 1.410(k)-1(b)(1)(i) requires the group of eligible employees to meet 410(b). Under 1.410(b)-3(a)(2), only "eligible employees" benefit under the 401(k) plan. As ptpthr implied, Section 1.401(k)-1(g)(4)(ii) says the employee is not an eligible employee. So the eligible employee is not counted in the numerator but is counted in the denominator for the 410(b) test of the 401(k) plan.

Query: What if the employee is otherwise statutorily excludible?

2. Profit Sharing Portion - The result is the same though the analysis is different. The idea is the employee is not benefiting, but also is not statutorily excluded. So you count him or her in the denominator but not in the numerator.

If you do not pass 410(b), you have problems. Assume you pass.

Then you test 401(a)(4).

1. 401(k)/401(m). Section 1.410(k)-1(b)(2) requires the plan to meet the ADP test. But the ADP test only tests the ADP's of eligible employees. So this employee is not counted at all for the ADP test. For a 401(k) plan, the ADP test is a "safe harbor" 401(a)(4) test, so if the plan passes ADP it passes 401(a)(4). A similar analysis applies to 401(m).

2. Profit Sharing - I think the question Mike points out is whether you can exclude the employee from the 401(a)(4) testing. Section 1.401(a)(4)-1©(4) says 410(b) requires the plan to benefit a non-discriminatory number of employees and that 401(a)(4) requires the contributions provided to employees who benefit under the plan not discriminate in favor of HCEs. I've always thought that once an employee is excluded, statutorily or otherwise, then as long as the plan meets 410(b) that employee - excluded for whatever reason - is not counted (numerator or denominator). Now with Mike's question I'm not so sure.

[Mike Preston]

A statutorily non-excludable employee is counted in the denominators of all 401(a)(4) testing [other than ADP/ACP], just as same is counted in the denominator of all 410(b) testing.

For example, take an employer with 10 employees, one of which is HCE, and all of which are statutorily eligible. Assume that two NHCE's are excluded due to plan provision, voluntary execution of agreement to not participate or job classification. 410(b) is passed as 7 out of 9 NHCE's are participating (77.7%).

Now we find that the plan doesn't provide a safe-harbor formula, so it must be tested under the General Test. Let's assume the average benefits percentage test is passed. The midpoint of the safe and unsafe harbor for a company with a 90% concentration percentage is 23.75%. We find that there are 2 NHCE's in the HCE's rate group.

Does this plan satisfy 401(a)(4)?

If we took your position, Kevin, I think we'd find that the plan passed 401(a)(4). Let's try. If we exclude the two NHCE's then there are 7 NHCE's left. If two of those are in the HCE's rate group, the coverage percentage is 2/7, which is 28.57%, and since that exceeds 23.75%, that rate group "works".

However, if we don't exclude the two NHCE's are that not participating, we find that the coverage percentage is 2/9, which is 22.22%, and the plan would not satisfy the threshold percentage of 23.75%.

You can do the same analysis with a plan that doesn't satisfy the average benefits percentage test. In that case, if you have 6 of the 7 NHCE's in the HCE's rate group, it would be a coverage ratio of 85.7%. But if you determined that it should be 6 out of 9, then the coverage ratio would be 66.67% and that is less than the required 70%.

[Guest Kevin Wiggins]

But what is the basis for saying the plan must include all non-statutorily excludible employees in the 401(a)(4) test? For that matter, what is the basis for saying the plan can exclude statutorily excludible employees for purposes of 401(a)(4)?

I'm not sure the reference to 410(b) covers it. Section 1.401(a)(4)-1©(4) says 410(b) requires the plan to benefit a non-discriminatory number of employees and that 401(a)(4) requires the contributions provided to employees who benefit under the plan not discriminate in favor of HCEs. This appears to say that the plan must pass 401(a)(4) only with respect to those who benefit under the plan. So the first step is pass 410(b). Once that is passed, you test 401(a)(4) only for those included in the plan. Is there a reg or ruling I am missing?

[Mike Preston]

It has to do with the definition of a "plan" for 401(a)(4) purposes. It basically follows the definition of a plan for 410(b) purposes. Hence, you decide what your plan is (whether aggregating plans or disaggregating plans) when you test under 410(b). However you test for 410(b) you test for 401(a)(4). That is defined in 1.401(a)(4)-1©(4).

1.401(a)(4)-2©(3) is the basic rule that says you test each rate group as if it were a separate plan and it says pretty clearly that "the rate group is determined taking into account all nonexcludable employees regardless of whether they benefit under the plan."

[Guest Kevin Wiggins]

Got it. I agree. So back to the original post, PTPTHR, for 1(iii), you count the employee in the denominator, but not the numerator.

Mike:

Does this mean you never have a safe harbor 401(a)(4) plan if an employee irrevocably elects not to participate?

[Mike Preston]

I don't do a lot with safe-harbor plans, so I don't know off the top of my head. My gut tells me, though, that as long as the plan participant population is a 410(b) group, the plan would remain a safe-harbor.

Confirmation from someone?

[Tom Poje]

I would hold 'it depends'.

if it is an HCE who elects out then it would still be a safe harbor.

Best example I can think of would be a 'safe harbor 401k'. to be safe harbor you have to provide the safe harbor to all NHCEs.

Once an NHCE is excluded, the safe harbor goes out the window.

I think the same logic would hold for the non elective portion, though as Mike indicated as long as plan passes 410b it becomes a moot point.

people forget that you can test on an allocation basis. so if you provide a 10% comp to comp contribution and you pass 410(b) ratio % test, your 401(a)(4) rate group test will produce the exact same results. even if the plan is integrated at 5.7% you will produce the same results by imputing disparity.

Hence, there is no need to test a(4)

[Belgarath]

g8r - in response to this portion of your question - "If it's an HCE it won't be a problem. If it's an NHCE, then you could flunk 410(b). I've always wondered what would happen in that situation. Since the person elected not to participate, you could certainly argue that the HCEs in the plan pay taxes b/c you can't do a corrective amendment pursuant to 1.401(a)(4)-11(g)."

The typical plan document that I've seen contains a provision to the effect that if such an election not to participate would cause the plan to fail qualification requirements, the election is void as of the first day of the plan year in question.

[Lori Foresz]

This is a great thread! Tom, you said the if a NHCE is excluded from the plan, then the 401(k) safe harbor status is lost.

This is something I have failed to really pick up on and I'm glad you brought it to my attention. How would that work if the employer is a member of a controlled group that excludes employees in one of the companies? Does that essentially mean that the plan could not be a safe harbor 401(k) plan because the SH contribution is not provided to all NHCEs of the controlled group?

Thanks for your help.

[Tom Poje]

maybe my choice of words 'excluded' was not good, though within the context of the discussion it was probably ok.

if the person is otherwise eligible, then he can not be excluded.

I am going to be real lazy on your controlled group question, and quote ERISA Outline Book - hey it is late Friday, and it just past my 4:15 limit

if 2 plans are permissively aggregated, as described in 1.410(b)-7(d)....the plans may not be treated as safe harbor 401(k) plnas unless they satisfy the safe harbor requirements when treated as a single plan. this means the safe harbor requirements made by the er to both plans have to be uniform

11.431 of the ERISA Outline Book 2003 edition

[Lori Foresz]

Thanks. So it sounds like as long as the two plans are not aggregated to pass coverage, than one plan can be safe harbor and the other a non-safe harbor plan subject to ADP testing.

Thanks again!