Compensation - W2 vs 415 safe harbor

[Guest wjr]

Employer has selected W2 pay as compensation in their prototype and has a large percentage of employees who have received non-statutorystock options this year that will be included in their income. Therefore, many of them will earn over $90,000 this year and be considered HCEs next year ( one time only). It is my understanding that if they had chosen 415 Safe Harbor comp, this income would not have been considered and would not be used in determining HCE status.

If my understanding is correct, is it possible to amend the plan before the end of the plan year (12/31) and change to the 415 safe harbor definition or is it too late?

[Archimage]

I may be wrong but I think the grant of a stock option is includible in compensation under any of the safe harbor definitions of compensation if it is includible in gross income for tax purposes. I believe the exclusion under the 415 definition comes from the actual exercise of a stock option.

[Guest wjr]

Sorry - These employees received the non-statutory stock options as proceeds for an equity transaction and basically exercised them immediately both occuring in 2004.

[Harwood]

ERISA Outline Book on "Nonqualified stock option - income includible in year of exercise":

Excluded from Current includible compensation and safe harbor

Included for W-2 and 3401(a).

For "Nonqualified stock option includible in income in year granted":

Included for Current includible compensation; W-2; 3401(a)

Excluded from safe harbor

[Guest wjr]

So, if they had chosen the 415 safe harbor definition, this income would have been excluded. Since this option income alone will put these employees over $90,000 this year, could they amend the plan, now before the end of the plan year, so that these employees would not be considered HCEs next year or is it too late?

[Archimage]

I can't think of anything that would preclude you from amending the plan before the end of the plan year. Actually I could think of one argument. If you don't have a last day rule, I could see an argument that by changing the definition of compensation mid-year would reduce a participant's basis for the amount of profit sharing contribution you would receive. If you have a last day rule then I think you are okay. If not then you might want to consult an ERISA attorney.

This is just an off-the-cuff opinion so hopefully someone else can add something more substantive.