Need cite for why pre-funding HCE PS is wrong

[AlbanyConsultant]

I've got a client where one of the owners/Trustees terminated, and as part of the agreement the lawyers drew up (without consulting yours truly, naturally), was that he was to receive $X of an employer profit sharing contribution for 2005, payable immediately.

It's a cross-tested plan, so we can put this guy in his own class, no problem. There's a last day requirement for a profit sharing allocation, but the remaning owner/Trustee has agreed to amend that out (it's a small company w/ almost no turnover, so he figures that it won't cost him very much). Individual accounts, so there's no issue of shared earnings. He's over the comp limit (even for 2005), and he got $X last year, so there's no reason to suspect that he would not be able to get the same amount this year. However, the "immediately" part is bothering me. I'm sure that prefunding the profit sharing contribution for one HCE only is wrong. I said as much to their CFO, and his response was, basically, prove it in writing and we'll get the agreement changed, otherwise, I've got the check in my hand ready to deposit.

So is there a specific something I can quote that says this is bad? Or is it just something that I have to say that we advise against because it may be considered discriminatory under an audit?

Thanks.

[Guest R. Daestrom]

One man's opinion here, but the issue here is not really "pre-funding". Pre-funding would be depositing 2005 contributions in 2004. Nothing wrong with depositing 2005 money into the plan in 2005.

Nothing wrong that is, unless the deposit results in a disrciminatory benefit, which may the case here. Benefits, Rights and Features come to mind. I think this is the discrimatory feature that you can take to the CFO. "BRF's shall not be made available to HCE's in a manner that is considered discriminatory to the NHCEs."

This also will have the effect of turning a major plan feature upside down in order to satisfy 1 individual. I am referring to having to amend the contribution allocation date from the last day of the plan year to some arbitrary date to accomodate this HCE. And if you bump the allocation date up, you should also consider whether you now have to use wage figures for everyone based on a non-calendar period. You will have to maintain this new provision or else it will be obvious that a change was made to only accomodate the HCE. It is also likely that an allocation and deposit for all other partcipants will have to be made at the same time as that for the HCE.

[mbozek]

Unless the plan prohibits contributions to specific individuals, I dont see a problem with making a contribution at this time because all contributions made during a tax year are deductible for that year. Plans usually provide only that employer will make designated contributions to the plan by the date for filing the tax return with extensons. In severance agreements the parties will frequently agree to provisions that are not contemplated by plan documents, e.g., employee will continue on payroll and accrue benefits for several years although not required to perform any duties or show up for work.

I dont see the BRF issue if there is nothing in the plan document that requires this practice. Eliminating the end of yr reqirement is merely an economic decision that will benefit all particpants in future years, no different than reducing the vesting schedule.

[E as in ERISA]

Is the check just for $X -- or does it cover the entire year's contributions for everyone? If they deposit only $X I think it needs to be allocated across all accounts per the terms and formula in the plan, doesn't it? So this guy only gets a portion of $X?

[Blinky the 3-eyed Fish]

It is definitely a BRF issue. A benefit (opportunity for advanced asset growth) is being provided to an HCE and no NHCE's and that ratio (0%) doesn't pass.

I disagree with Daestrom's last paragraph. The allocation date is not being moved here. Just the deposit is being made earlier.

As a solution you could also contribute dollars now to enough NHCE's to pass the BRF testing.

I disagree with ERISA. It was already stated that the plan has (or will have) allocation groups, so that the contribution would follow the terms of the plan by being contributed for one group.

[Guest R. Daestrom]

Blinky - Since the plan has a last day requirement to receive an allocation, and in this situation the intention is to make the allocation & deposit on a date other than the last day, doesn't that mean that amendment is needed to the allocation date?

[mbozek]

B: You have a citation for your position or is this a matter of opinion on which reasonable minds can differ? I think the funding, while aggressive, is not expressly prohibited. I dont see the issue if the er can make contributions to the plan anytime during the year. I also dont think this will show up on audit as anything other than a contribution for the plan yr. Its a business decision by the client which will be taken in order to obtain a settlement with the HCE.

[Blinky the 3-eyed Fish]

Daestrom, the actual deposit into the trust does not mean an allocation day has to be set on that date. The allocation day is still the last day of the plan year, only the deposit is being made sooner. BTW, the post stated they are removing the last day requirement which makes this person eligible to receive the contribution.

Mbozek, I seriously doubt there is a cite that addresses this specific question. Of course the BRF rules are under (a)(4)-4. An earlier contribution is certainly more desirable than one deposited later. Don't you think this raises a BRF issue? I do.

I agree making deposits throughout the year is fine as a rule. I don't think whether or not it will be discovered on audit is a criterion on which to proceed necessarily. Although, auditors do check the deposits to the plan on the brokerage statements versus the deduction taken. I think this would be easily discovered.

[Belgarath]

I agree with Blinky. And, I think 1.401(a)(4)-1©(8) would cover this being discriminatory in that the earnings are being allocated in a discriminatory fashion. That is, the HC enjoys earnings on a contribution deposited early, whereas the NHC do not.

[KJohnson]

Below is from the 2004 ASPPA conference Q&A session with the IRS. I don't think eliminating the last day chages the BRF analysis:

22. A PS plan with a 1000 hour and last day requirement would like to

quarterly fund contributions for some of its employees (i.e., 5%

owners), but not all. Plan allows for individual brokerage accounts for

all participants. Is this action possible without violating the

qualification requirements of §401(a)(4)?

A: No. This would not satisfy the requirement that benefits, rights and

features be currently available to a nondiscriminatory group.

[pmacduff]

Quite a few years back we had a dentist get his "hand slapped" upon IRS audit when it was discovered that he funded his $30,000 profit share in the first quarter of the year, but didn't make the staff deposit until the last possible date in the following year (always went on extension.) The auditor cited what Belgarath has said, that the dentist's prefunding was discriminatory because it was receiving earnings for a much greater period than the staff contributions. Don't know what they would have said if the account lost money, but they were concerned with the deposit timing. They told the dentist that all future deposits were to be made at approximately the same time. No fine or anything....

[Mike Preston]

Sniff...sniff..sniff......

Yup. Fails the smell test.

With apologies to Labrynth fans everywhere: "SMELLS BAAAAAAAAAAAAD"

Can anybody seriously argue that this is not a Benefit, Right or Feature the provision of which to a single HCE doesn't fail the "significantly discriminatory" definition?

[E as in ERISA]

Discrimination prevents you from pre-funding only one account on a discriminatory basis, but it doesn't prevent you from pre-funding at all.

So these arguments might not prove to the guy's lawyer that the contract provision cannot be fulfilled as written. They only prove that if they deposit the $X for his account, then they also have to deposit the rest of the $$$ at the same time for all the participants. And that's not really this guy's problem!

But I might check to see if the contract is worded poorly: "Company agrees to make a contribution for 2005 for employee A in the amount of $X and it agrees to deposit that amount into the plan immediately" (without specifically referring to allocation to the guy's account). You could argue that provision could be satisfied with a $X contribution now -- but that only part would legally be allocated to his account now -- and the rest will be deposited and allocated later.

[Effen]

FWIW, I agree with Blink. I think it is definitely is a problem.

Why not figure out how much you need to fund for the NHCEs to pass the non-discrim test and fund it now as well.

[No Name]

How about saying, everyone who quits as of x date will be funded now? Lose a job, get an allocation...

[Guest ritchie]

FWIW, I think that Blinky is being quite disagreeable today.

[Blinky the 3-eyed Fish]

Up yours airport assaulter!

[Guest ritchie]

In case any of my fans missed it:

PHOENIX - A judge dismissed an assault charge against flamboyant fitness guru Richard Simmons after he and the man he was accused of slapping in the face reached a private settlement, lawyers said Wednesday.

Terms of the agreement last week between the celebrity trainer and motorcycle sales rep Chris Farney, 23, were not disclosed.

Simmons, 55, famed for his frizzy hair, glittery tank tops and exuberant demeanor, was cited for misdemeanor assault in March at Phoenix Sky Harbor International Airport.

Police said the charge stemmed from an altercation that began when Farney, a fellow traveler at the airport, recognized Simmons as he was signing autographs and posing for pictures.

Farney, a burly Harley-Davidson motorcycle salesman who stands more than 6 feet tall and competes in the martial-arts sport of cage fighting, angered Simmons with a remark poking fun at Simmons’ exercise videos.

According to a police report on the incident, Simmons responded by telling Farney: “It’s not nice to make fun of people with issues,” then slapped him across the face.

So I slapped a cage fighter. Like he didn't deserve it! Your real name isn't Chris is it?