Bottom Up QNEC question

[fiona1]

I know that the Bottom-Up QNEC provisions are being radically changed with the final regulations that are effective 1/1/2006 - but in the meantime I am pulling my hair out trying to figure this situation out...

Let's say that a plan fails their 1/1/2004 to 12/31/2004 ADP/ACP test. The plan document allows a Bottom-Up QNEC to be made as a correction.

According to the ERISA Outline book, in order for the QNEC to be treated as an annual addition for the 2004 plan year, it has to be contributed no later than 30 days past the employers tax filing deadline.

So let's say that we're past that date - so the QNEC will be treated as an annual addition for the 2005 limitation year (assuming the limitation year is 1/1).

Let's say that the NHCE with the lowest salary on the 12/31/04 ADP/ACP test has a salary of $3,200.00 and let's also assume this NHCE did not have any contributions in the 2004 plan year.

If the QNEC was to be treated as an annual addition for the 2004 year - then we know that this NHCE can only get a QNEC of $3,200.00 - because anything more and they would exceed the Section 415 limit.

But in this situation, the QNEC is being treated as an annual addition for the 2005 year, because it's not being contributed until after 30 days after the tax filing deadline.

So how do we know how much of a QNEC to give this NHCE? We won't know their 2005 415 limit until 12/31/2005. Do we just give them the maximum amount as we can until it satisfies the ADP/ACP test(s)? What if that ends up being a contribution of over $10,000.00 ???

[Blinky the 3-eyed Fish]

Well since you have up to 12 months to make the QNEC and consider it for the prior year's ADP test, why not wait until near the end of 2005 to figure out what can be given? And don't forget to tell the boss to be nice since you surely don't want him/her to quit.

[Kirk Maldonado]

Blinky:

Fortunately, I don't prepare Form 5500s, but don't they ask if the plan passed the ADP test? If so, wouldn't that mean that you would have to contribute the amount before you file the Form 5500?

[Guest Midas]

Even though the QNEC is deposited after the annual additions deadline for 2004 (but within the 12 month deposit deadline), and counted as annual additions for 2005, the QNEC is still being applied to the 2004 testing and allocated based on 2004 compensation. See ERISA Outline quote below:

4.c. Section 415 issue relating to the timing of contributions of QNECs. Although QNECs can be contributed up to 12 months after the close of the plan year that they are allocated for, Treas. Reg. §1.415-6(b)(7)(ii) treats them as annual additions for that prior year only if they are contributed no later than 30 days after the due date for filing the employer’s tax return for its taxable year in which

the prior year ends. If the contributions are made after that date, they are treated as annual additions for the current year, even though they are allocated for the prior year.

[fiona1]

Midas - Where do you see that the QNEC is based on 2004 compensation? The excerpt that you posted just says that the QNEC will be treated as an annual addition for the current year if it's contributed after 30 days after the tax filing deadline - even though they are allocated for the prior year. I don't see where it says that you base the QNEC on the 2004 compensation.

[Guest Midas]

fiona1 - allocating the contribution based on 2004 compensation (for your example) is inherent in the statement "allocated for the prior year". Contributions "allocated" for any given year is based on compensation for that year. If the contribution is allocated for the prior year, you should be using prior year compensation and eligiblity, not current.

[Blinky the 3-eyed Fish]

Kirk, no the 5500 does not ask if the ADP test is passed.

Midas, of course you need to follow your document. But this is a bottoms up QNEC, which often gives QNEC's to the 415 limit or until the test is passed. This effectively could eliminate the consideration of current year compensation in determining the QNEC because the 415 limit is based on the following year's compensation.

But if your point is to read your document, well then I always agree. I suppose it could have language that limits the allocation to the current year's compensation even though it doesn't need to.

[Guest Midas]

Blinky - No disrespect, but I have no idea what you just said. You and I seem to be on totally different wave lengths. The question from fiona1, at least in my interpretation, seems to be suggesting that because the QNEC for 2004 testing is being deposited after the annual additions deadline for 2004, that you do not use 2004 compensation any longer in determining the QNEC for the 2004 testing. That would be incorrect. The QNEC (whether bottom up or otherwise) that is being used to pass 2004 testing needs to be based on 2004 compensation, regardless if it is deposited late in 2005 when it would be counted as annual additions for 2005.

[fiona1]

I hear ya Midas - Thanks for the clarification.

[Blinky the 3-eyed Fish]

Let me clarify my point. I was stating that the allocation of the QNEC does not necessarily need to be on 2004 compensation in a case like this. A cleverly drafted document could allocate the bottoms-up QNEC to the annual additions limitation, which here is based on 2005 compensation. I think you are saying it can't be done, but I would ask you why not? However, you may be saying that the ADP test is based on 2004 compensation, which of course I agree. I also agree that we aren't understanding each other.