Opinions, please - is this abusive? re: first year testing rule

[Brenda Wren]

We added 401(k) provisions to an existing profit sharing plan in 2003. They were added in November, 2003 and we anticipated using the 3% assumed deferral rate for the prior year to get through the testing hoop. Of course, all of the doctors immediately deferred $10,000, but the employees were only able to defer small amounts for the remaining 2 months. ADP test passes, of course, using the assumed 3% prior year NHCE ADP. Doctors would now like to fund additional employer contribution(s) to achieve maximum $40K. By funding a 100% match, we can achieve another $10,000 towards the $40K and significantly reduce the remaining PSP contribution for the staff. This appears to be permissible, but would you do it? Is it too abusive? And obviously, with such a low ADP for 2003, we anticipate amending the plan to current year testing method in 2004.

[ccassetty]

You didn't say if the participants were clearly informed when they signed up that there could be a discretionary match announced after the end of the year. If so, I think you can do what you propose. If not, even though the discretionary match is provided for in the plan document, I would be very uncomfortable doing this.

[Brenda Wren]

Ok, folks. Over 100 of you have looked at this post....where are your opinions? Don't be bashful!

[Archimage]

As long as you are following the plan doc and pass non-discrim testing then I do not think it is abusive.

[rcline46]

I agree with Archimage - in fact we use this technique for first plan years. But all notifications and document must disclose all plan features.

[E as in ERISA]

The risk is that on audit the IRS examiner may think that the situation smell a little funny, so if there are operational errors they may not be as successful in negotiating penalties, etc.

[Alf]

Isn't the ACP test the check on matching contributions (non-safeharbor)? If you pass, who cares. But . . does the 3% first year rule help you somehow on the ACP testing? If there is not a comparable rule, you will fail ACP, won't you?

[Brenda Wren]

Yes, there is a comparable rule.

[Archimage]

Alf, the problem runs into how the document is worded. The document we are currently discussing probably states the the match is discretionary and does not state a formula. Some would argue this is not acceptable. I would say that you should submit for a determination letter. If you get it then I think this practice would be acceptable.

When drafting documents and you have no intention of submitting I suggest you always state a formula in the document for a discretionary match.

[maverick]

I submitted det. letter request with both parts of the match formula blank (percent of match, and max deferrals that would be matched). The IRS came back and said complete one or the other. Since then I've been completing the match as follows:

- matching contribs:

discretionary each plan year, proprotionate to the elective contributions made on behalf of a participant

- limitations on matching contribs:

the employer shall not make matching contribs with respect to elective contribs in excess of 6% of a participant's compensation

[Blinky the 3-eyed Fish]

Discretionary matching contribution language with no reference to the basis of the match has long been standard language in VS documents. I don't agree with the idea that you should be concerned about submitting these documents when they fall within the word-for-word language.

To chime in on the original question, I too see nothing wrong with it as long as there is proper communication.

[Guest jbetzel]

You may want to change the PS calc to a new comparability to legally discriminate against the rank and file, they will be able to receive max contribution, maybe add a non-deferred comp and forget about increasing the match to 100%

[KJohnson]

A little bit off topic, but I agree with Blinky. A plan’s formula for allocation any profit sharing plan amounts must be definitely determinable under 1.401-1(a)(2)(ii). This includes the allocation of match amounts. The IRS has been inconsistent in “catching” this issue with regard to allocation of matching contributions. Typically, when it does, it forces a plan to put in an allocation formula that states that, while the match is discretionary, it will be based on a discretionary percentage of the amount of deferrals made by participants (e.g. language like “a matching percentage that the Employer deems advisable of the Participant’s Elecitve Deferral Contributions”).

However, many V.S. and prototypes with opinion/advisory letters still contain language like "The amount of Matching Employer Contributions, if any, may be fixed in terms of dollars, a percentage of Compensation, or a percentage of Elective Deferral Contributions" You could debate whether such language is "definitely determinable" but if you are a word for word adopter of a V.S. or prototype with this kind of language, I think you should feel pretty comfortable.