Prepaid elective deferrals

[Guest esi-jht]

I know that elective deferrals are not really "elective deferrals" if they are paid into the plan before the compensation is earned. I'm trying to find the site for this. Can anyone help me?

[four01kman]

The Internal Revenue Code Section 401(k) and the regulations issued thereunder.

[austin3515]

1.401(k)-1(a)(3)(iii)

iii) Rules related to timing—(A) Requirement that amounts not be currently available. A cash or deferred election can only be made with respect to an amount that is not currently available to the employee on the date of the election. Further, a cash or deferred election can only be made with respect to amounts that would (but for the cash or deferred election) become currently available after the later of the date on which the employer adopts the cash or deferred arrangement or the date on which the arrangement first becomes effective.

(B) Contribution may not precede election. A contribution is made pursuant to a cash or deferred election only if the contribution is made after the election is made.

© Contribution may not precede services—(1) General rule. Contributions are made pursuant to a cash or deferred election only if the contributions are made after the employee's performance of service with respect to which the contributions are made (or when the cash or other taxable benefit would be currently available, if earlier).

(2) Exception for bona fide administrative considerations. The timing of contributions will not be treated as failing to satisfy the requirements of this paragraph (a)(3)(iii)© merely because contributions for a pay period are occasionally made before the services with respect to that pay period are performed, provided the contributions are made early in order to accommodate bona fide administrative considerations (for example, the temporary absence of the bookkeeper with responsibility to transmit contributions to the plan) and are not paid early with a principal purpose of accelerating deductions.

iii) Rules related to timing—(A) Requirement that amounts not be currently available. A cash or deferred election can only be made with respect to an amount that is not currently available to the employee on the date of the election. Further, a cash or deferred election can only be made with respect to amounts that would (but for the cash or deferred election) become currently available after the later of the date on which the employer adopts the cash or deferred arrangement or the date on which the arrangement first becomes effective.

(B) Contribution may not precede election. A contribution is made pursuant to a cash or deferred election only if the contribution is made after the election is made.

© Contribution may not precede services—(1) General rule. Contributions are made pursuant to a cash or deferred election only if the contributions are made after the employee's performance of service with respect to which the contributions are made (or when the cash or other taxable benefit would be currently available, if earlier).

(2) Exception for bona fide administrative considerations. The timing of contributions will not be treated as failing to satisfy the requirements of this paragraph (a)(3)(iii)© merely because contributions for a pay period are occasionally made before the services with respect to that pay period are performed, provided the contributions are made early in order to accommodate bona fide administrative considerations (for example, the temporary absence of the bookkeeper with responsibility to transmit contributions to the plan) and are not paid early with a principal purpose of accelerating deductions.

Support for treating them as profit sharing:

1.401(k)-1(a)(5)(ii)

(ii) Treatment of elective contributions as nonelective contributions. Except as specifically provided otherwise, elective contributions under a nonqualified cash or deferred arrangement are treated as nonelective employer contributions. Thus, for example, the elective contributions under such an arrangement are treated as nonelective employer contributions for purposes of sections 401(a) (including section 401(a)(4)) and 401(k), 404, 409, 411, 412, 415, 416, and 417 and are not subject to the requirements of section 401(m).

[GBurns]

It seems that they are also not contributions either. What is done in a case like this?

[Bird]

Just out of curiousity, how do you pre-pay deferrals from a salaried employee, if they are withheld from pay? I can see withholding in error before the plan is established; is there some other (practical) scenario?

[Guest esi-jht]

Well you would think that it would be difficult to prepay something that is supposed to be a "deferral" out of pay. Apparently it is easier to do than I thought...lol The person involved is the owner of the S Corp. She gets $1,000 weekly salary and then at the end of the year they bonus out to her the remainder of earnings from the SCorp (it is a professional corporation). For some reason she makes a deposit early in the year of the amount of 402(g) deferral limit and then at the end of the year (yikes) they gross up this bonus payment to take care of the deferral and deal w/ payroll taxes. We are going to deal w/ it correctly in the future, but I have to figure out how to handle these prior years. It really isn't a deferral, but is most likely just another PS contribution.

Any other thoughts on this?

[Bird]

OK, I get it - interesting..."too cute by half" comes to mind.

I agree that proper treatment is for them to be PS contributions. Going back to fix prior years would certainly be ugly.

[Jim Chad]

It sounds to me like she received a bonus early in the year besides her $1,000 per week salary. Do you know if the accountant paid FICA and Medicare on this bonus ?

I work for a CPA firm and it is not comon for owners to get a "zero check bonus". But it is not that rare either.

[GBurns]

Jim Chad's post raises some questions.

How is this "deposit early in the year" made? Is it made by the individual or is it made using a company check? Is it made through the payroll system or is it made through the company's A/P or otherwise?

By the way, What is a "zero check bonus"?

[Jim Chad]

A zero check bonus might look like this:

gross bonus=$10,000

FICA and Medicare at 7.65 % = $765

401(k) Deferral = $9,235

net check = -0-

Sometimes a note form the accountant looks like what I have typed above. But often, it does not come out exact and the extra $30 or $40 is sent in to the federal government as fed income tax withholding: still leaving a net check of -0-

[GBurns]

I do not understand the note part of your response. It should not need a note since it should be part of the "accounting system" and be self explanatory.

How is the bonus done, Payroll or some other wayl? What is the bonus paid as? Supplemental wages?

If it has FWT and FICA withheld, How is the FWT rate determined?

How is it reported at the end of the Quarter (941 etc) and at end of year (W2 or 1099)?

[A Shot in the Dark]

I am confused by the cofusion regarding bonus deferral agreements.

In many of our plans in addition to standard salary reduction agreements we use bonus deferral agreements provided for by the plan document.

Example, an employee via salary reduction election through the year has deferred $5,000.00. The employee is due a "production" bonus of $10,000.00. The employee elects to defer the entire bonus (less the taxes) via a bonus deferral agreement to the plan. To the extent that we bump up against the maximum deferral limit, the employee chooses to reduce or eliminate his salary reduction agreement.

The plan provides for 401(k) deferrals from bonuses, the employee correctly elects the deferral via the bonus deferral agreement and the payroll reporting is completed as required.

We do this with many of our clients that pay large (discretionary or not) bonuses, including manufacturing firms, engineering firms, CPA firms, Law Firms, etc. etc. etc. across every industry.

[GBurns]

I do not think that anyone is confused about deferral arrangements with or without bonuses with and without gross up for taxes etc. What you have outlined is quite normal but is irrelevant to the discussion.

The OP and subsequent posts are discussing a bonus that is paid at the start of the year, a completely different scenario to your post where the bonus is at the end of or later in the year based on services (production) done during the year. In your scenario the services are rendered and the bonus earned before the deferral, whereas in the iscenario under discussion they are not.

Your scenario involves payroll, whereas we are still not sure that payroll is even involved in the OP scenario.