Non-cash prizes and awards

[Guest FAQ]

Employer has sales people and other employees who on occasion receive non-cash awards for good performance, or sometimes at random. For example, a paid trip to Hawaii for the top performer that year. Employer would prefer not to have to withhold 401(k) deferrals on these non-cash awards, which can be of significant value.

However, if the employer excludes them from the definition of compensation, it appears that the plan definition would not meet a safe harbor definition under §415.

If the definition of compensation excludes non-cash awards and prizes, would the definition have to be tested for discrimination? If so, how would that be done?

Thanks in advance for any thoughts on this.

[Mike Preston]

415? Why does that matter? I haven't the time to look it up today, but certainly it would satisfy 414(s), would it not?

"CODA"...... means that this is a non-issue, doesn't it?

I'm so confused.

[Guest FAQ]

I'll admit to a fair amount of confusion myself. Under 1.414(s)-1©(3), cash and non-cash fringe benefits may be excluded, though it does not seem that prizes and awards would be considered "fringe benefits," particularly if they are significant on an individual basis. Note that in addition to deferrals, matching contribution calculations would be affected.

I suppose prizes and awards could be excluded while still meeting the requirements for a "reasonable definition of comp" under 1.414(s)-1(d)(2), but that brings up the possibility of having to test the definition. On the other hand, this employer has hundreds of employees and I can't imagine that excluding a handful of non-cash prizes and awards from compensation would have more than a "de minimis" effect on the average percentage of compensation included for HCEs vs NHCEs, even if we were to assume that only NHCEs received the awards. (I see that a "de minimis" difference in the average percentage of total compensation incuded for HCEs and HCEs is acceptable under §1.414(s)-2(d)(3).)

Perhaps the bottom line is that the employer should not be overly concerned about meeting a safe harbor definition if the only item preventing the safe harbor definition is insignificant as a percentage of NHCEs' total compensation?

[Mike Preston]

Have you looked in the EOB to see what it has to say on this issue?

[Guest FAQ]

Have you looked in the EOB to see what it has to say on this issue?

By EOB do you mean ERISA Outline Book?

I checked ours and the version that we have (2003, which is getting stale) does not address prizes and awards specifically but notes in Ch. I.B.3.b. that IRS personnel have indicated that they have used a 3% or less spread for "de minimis" differences in conpensation percentages, but that there is no particular percentage that would be a safe harbor.

I am a bit surprised that the IRS could go as high as 3%, but if a definition results in a diference of say 1% or less, that makes me feel more confident that the IRS would not challenge it as discriminatory.

[Mike Preston]

Having thought about this a bit, I think there are two separate issues:

1) Can one withhold from a non-cash taxable fringe benefit? I believe the answer is no. It can hardly be a "cash" or deferred election if one of the pieces isn't cash.

2) Notwithstanding the above, what compensation does one use in measuring whether discrimination is taking place? In this case, the IRS really just gives you four choices with respect to the non-cash taxable fringe benefit:

a) include it, along with all of the other types of compensation that must be included in order to satisfy the safe-harbor 414(s) definition of compensation

b) exclude it, along with all of the other types of compensation that must be excluded in order to satisfy the safe-harbor 414(s) definition of compensation

c) include it, even if you don't include all of the other types of compensation that would need to be included to satisfy the safe-harbor 414(s) definition of compensation and pass the compensation ratio test

d) exclude it, even if you don't exclude all of the other types of compensation that would need to be excluded to satisfy the safe-harbor 414(s) definition of comensation and pass the compensation ratio test.

Pick your poison.