Person with comp but zero ELIGIBLE comp in ADP test?

[BG5150]

I have a plan that disregards commissions as compensation for plan purposes.

There is one person who has satisfied the eligibility requirements and continues to earn service under the plan, but gets paid 100% on commission.

Is he in the ADP test with a zero salary? Or not in ADP test at all?

[ERISAnut]

Under a strict reading of the code, he would be included in the test since he has met the eligibility requirements for deferring into the plan. Nonetheless, this is a very poor plan design. Regardless of the definition of compensation for 'employer match and nonelective' to apply such a restrictive definition to compensation allowed for deferrals isn't good planning.

But, under a strict reading of the code, he would be included in the test.

[fiona1]

I disagree. I would not include them on the ADP test. In order to be on the ADP test you have to be eligible TO DEFER. How can you defer on zero compensation?

[Kevin C]

I agree with fiona1. Besides, how would you calculate his deferral rate if he is included in the test? 0/0 is not 0.

[Guest Sieve]

Some random (very!) thoughts--- (fiona1 & Kevin C, note my item (d)--he's in the ADP test):

(a) What kind of reasonable definition of compensation is it when an NHCE (& I will asume this employee is an NHCE) has all his earnings exempted from a potential deferral? (If he's an HCE, ignore my protestations.)

(b) My foggy recollection from 6th grade math is that any number divided by 0 is infinity. So, if this guy's an NHCE, I want him in my test!!

© Seems like we discuss this or a closely-related topic every few weeks.

(d) 401(k)-6 reg. definition of "eligible employee" is an employee who "directly or indirectly [is] eligible to make a [deferral] election . . . for all or a portion of the plan year." So, commission-man may not be able to make a deferral (because he has no comp.), but he certainly is able to make an election. So he most definitely should count in ADP.

(e) If (d) doesn't convince you, how about this thought: If he's an NHCE at 0%, take the conservative approach and include him in the test, and worry about it later if the test fails. If he's an HCE at 0%, take the conservative approach & keep him out of the test, again worrying about it only if the test fails.

[fiona1]

1. The following was written in the additional course materials for the SunGard 401(k) Plan Workshop, 4/06, page K-37: “Note: A participant with zero compensation for the plan year is not an eligible employee and is excluded from the ADP test.” © Copyright 2006 SunGard

2. From our good friend Blinky: Jim Holland at the IRS has stated many times, and that same sentiment has been reiterated many times as well on these message boards, "no compensation, not in the test."

[Guest Sieve]

I won't argue with Jimmy H. I should, but I won't.

[mphs77]

Some random (very!) thoughts--- (fiona1 & Kevin C, note my item (d)--he's in the ADP test):

(a) What kind of reasonable definition of compensation is it when an NHCE (& I will asume this employee is an NHCE) has all his earnings exempted from a potential deferral? (If he's an HCE, ignore my protestations.)

(b) My foggy recollection from 6th grade math is that any number divided by 0 is infinity. So, if this guy's an NHCE, I want him in my test!!

© Seems like we discuss this or a closely-related topic every few weeks.

(d) 401(k)-6 reg. definition of "eligible employee" is an employee who "directly or indirectly [is] eligible to make a [deferral] election . . . for all or a portion of the plan year." So, commission-man may not be able to make a deferral (because he has no comp.), but he certainly is able to make an election. So he most definitely should count in ADP.

(e) If (d) doesn't convince you, how about this thought: If he's an NHCE at 0%, take the conservative approach and include him in the test, and worry about it later if the test fails. If he's an HCE at 0%, take the conservative approach & keep him out of the test, again worrying about it only if the test fails.

In response to item (b), my possibly even foggier recollection from Number Theory in Grad School is that 0/0 is defined as 1.

Sorry to contradict your old math teacher......

[Jim Chad]

Can you use this definition of compensation for the ADP test? For testing don't you have to use a definition that is either safe harbor under 414 or passes testing? It seems unlikely to me that this definition would pass testing. So I think you would have to count all of his commissions in the ADP test.

IMNTBHO

[GBurns]

Isn't this the employee's "regular" compensation and doesn't this amount get reported on a W-2 ? Isn't the commission subjected to FICA ?

If so how can this compensation be disregarded ?

I admit that this is not my area, but the issue sticks out especially from a discrimination perspective. But even if that does not matter, there is still the issue of the definiton of compensation for purposes of ADP/ACP testing.

[J Simmons]

Some random (very!) thoughts--- (fiona1 & Kevin C, note my item (d)--he's in the ADP test):

(a) What kind of reasonable definition of compensation is it when an NHCE (& I will asume this employee is an NHCE) has all his earnings exempted from a potential deferral? (If he's an HCE, ignore my protestations.)

(b) My foggy recollection from 6th grade math is that any number divided by 0 is infinity. So, if this guy's an NHCE, I want him in my test!!

© Seems like we discuss this or a closely-related topic every few weeks.

(d) 401(k)-6 reg. definition of "eligible employee" is an employee who "directly or indirectly [is] eligible to make a [deferral] election . . . for all or a portion of the plan year." So, commission-man may not be able to make a deferral (because he has no comp.), but he certainly is able to make an election. So he most definitely should count in ADP.

(e) If (d) doesn't convince you, how about this thought: If he's an NHCE at 0%, take the conservative approach and include him in the test, and worry about it later if the test fails. If he's an HCE at 0%, take the conservative approach & keep him out of the test, again worrying about it only if the test fails.

In response to item (b), my possibly even foggier recollection from Number Theory in Grad School is that 0/0 is defined as 1.

Sorry to contradict your old math teacher......

The math theory I was taught was that 0/0 is either 0, 1 or infinite. Zero being a focus on the numerator; 1 being a focus on the identical aspect of the numerator and denominator; and infinite being a focus on the denominator.

[Guest Sieve]

mphs77 -- Obvioulsy my 6th grade math teacher never made it through Number Theory (nor did I). But my infinity determination matches what John learned, if you focus correctly.

GBurns & Jim -- (Hey, Jim, what's IMNTBHO?) My notion precisely (see my Item #1 in earlier post). Now that it's not so late in a work day, I'll elaborate for all of us. In calculating ADR, the precursor to ADP, compensation is deferral divided by comp (as defined as in 414(s)). (Reg. 1.401(k)-2(a)(3)(i) & -6.) A definition of comp, if not falling within a safe harbor definition, must be "reasonable" (Reg. 1.414(s)-1(d)(1)) and must pass a nondiscrimination test (Reg. 1.414(s)-1(d)(3)). "Reasonable" is defined in the regs (Reg. 1.401(k)-1(d)(2)). How is excluding 100% of an employee's compensation (an NHCE, that is) reasonable under the regs? Even if "rate of compensation" is used and it is $0 (i.e., he/she receives no salary, but only commissions), that $0 rate of compensation cannot be used in ADP determinations (Reg. 1.401(k)-1(e)(2)). However, if this employee is an HCE and only HCEs receive commissions, then 414(s) allows commissions to be excluded (Reg. 1.414(s)-1©(5)).

I believe you can use any definition of comp. to determine the amount of an individual's deferral--which would mean this employee could defer nothing because his/her compensation was $0 for purposes of calculating the deferral made to that individual's account. But ADP must be based on 414(s) comp. So, if this employee is an NHCE, I don't believe the Jim Holland "no comp, not in test" rule applies, since this person has 414(s) compensation.

[John Feldt ERPA CPC QPA]

just for fun

http://benefitslink.com/boards/index.php?s...st&p=144094

[J Simmons]

Fun, indeed.

0/0 = 19 [= ERISA, according to many]

[austin3515]

Any number divided by itself is indeed 1, which in ADP test is 100% (that would have quite a dramatic effect in a small population!)

But I thought it was more like any VALUE divided itself is 1, but zero is by definition the lack of any value at all... But admittedly I did not study match in grad school - truth be told I studied nothing at all in grad school (of course if I had gone to grad school I would have studied...).

[Guest Sieve]

Aren't we lucky that the regs deal with things much more certain than the quotient of 0/0? Things like "facts & circumstances", and "no comp, not in the test" and what "is" is, and what definiton of comp to use (& what comp really means when we use it), and how to determine the applicability of the 6-year cycle, and whether a 403(b) plan complying with the new regs is an ERISA plan. How nice it is for us always to know the answer to everyday issues like we do . . . Actually, this 0/0 stuff looks very much like the 401(a)(4) regs: http://en.wikipedia.org/wiki/Division_by_zero

Notice that in these new 401(a)(4) regs-- --, it says that "the fallacy is the implicit assumption that dividing by 0 is a legitimate operation with 0 / 0 = 1." And, through that, we can show that 1 = 2. Typical actuary fare, ehh?

[GMK]

Sieve's reference is correct.

Mathematically, N/0 = undefined, where N=any number, including 0.

[Kevin C]

There is more to the wikipedia explanation.

http://en.wikipedia.org/wiki/Indeterminate_form

N/0 = infinity if N<>0. 0/0 is an indeterminate form.

There is no way you can count someone with zero compensation in the ADP/ACP tests because you can not calculate their deferral rate.

[GBurns]

While this is fun, it seems that we have gone off-track.

Isn't the problem the definition of compensation that should be used ?

Can the commissions be disregarded?

[Guest Sieve]

George --

Golly, you put the cabbosh on us just as it was getting interesting . . . (And I agree with Kevin that, strictly mathematically, you can't include someone in the ADP test if there is no comp. Now I'm sounding like Jim Holland!)

However, when determining ADP, I don't believe commissions can be omitted for a person whose only compensation is from commissions (or when omitting commissions is otherwise unreasonable)--unless(& we don't know), in some circumstances, if the employee is an HCE.

[Kevin C]

That definition of compensation can be used for ADP testing IF it is consistent with the plan definition of compensation for testing and IF the definition satisfies 414(s).

We don't have enough information to be able to tell if there is a problem or not. I agree with George that if it has not already been done, then the first step is a 414(s) test to see if the compensation definition passes.

[Jim Chad]

IMNTBHO means "In my never to be humble opinion"

[BG5150]

I am leaning toward INCLUDING him in the test for these reasons:

The definition of an eligible EE for the puposes of the ADP test (1.401(k)-6) is someone who is eligible to defer a portion of his compensation for all or a portion of the year. "Eligible employee —(1) General rule . Eligible employee means an employee who is directly or indirectly eligible to make a cash or deferred election under the plan for all or a portion of the plan year."

The person in question here was elgiible to make a deferral if he had a regular paycheck (instead of a commissions paycheck).

And furthermore, from 1.401(k)-2, the employee's ADR is the employee's elective contribution (plus QNEC's, etc.) "divided by the employee’s compensation taken into account for the year"

So, I think I could use his 414(s) compensation (which includes the commissions) with a zero deferral because it says "compensation taken into account," and not just the compensation that was eligible to be deferred.

Once again, your thoughts are appreciated.

[Guest Sieve]

I think you need to do 2 things:

1. Check the plan document to determine the definition of compensation for purposes of performing the ADP test. That particular definition could possibly include commissions, which would make this person's deferral percentage 0%. Then your task is finished.
   
2. If that definition excludes commissions, then you need to determine if that definition, as for the employee group as a whole, is reasonable. It still could be reasonable (although I doubt it if it reduces an NHCE's comp. to $0.) If you determine that the definition is not reasonable, then I think you need to probably use some default definition in the Plan, porbably Section 415.
   

Then you'd perform the ADP test using the proper definiton of compensation.

Kevin -- So, my 6th grade math teacher was correct (almost!) after all. Although 0/0 is indeterminate, any number (i.e., greater than or less than 0) divided by 0 = infinity.

(Jim Chad -- I like it.)

[BG5150]

Plan says ADP test is done using 414(s) comp. Person IS HCE (so him being in the test helps a lot). Plan passes 414(s) test with exclusion of commissions.

So, to me, it really comes down to this: Regs say he must be eligible to make a deferral election to be in test. He has been with the company for many years and has long satisfied the service and entry date requirements. So, you would think he is eligible. However, since he is a "commission only" employee and will not get any "regular" salary, and it is explained in the SPD that commissions are excluded for deferral purposes, did he have any real case to make a deferral election?

I know it is better to err on the side of caution, especially since he is an HCE, but I want to get this right, because it affects a failing 2006 test and QNECs and/or refunds amounts are on the line, adding up to potentially thousands of dollars. (It affects 2007 testing, too, but just the refunds.)

[Tom Poje]

I can try firing the question past the IRS agents just to see what they say when I see then in a couple weeks for the Q and A review.

.......

my nonsensical logic operates something like this:

Person A in reality consists of Person A (commission) and Person A (noncommission)

the regs require me to aggregate so normally I only think of this guy as Person A.

however, the plan excludes commission employees.

Therefore I am left with Person A (noncommission) and this particular year he has no comp.

In the past the IRS has said exclude such people from the test (nothing in the regs, simply that for all purposes the person was ineligible to defer so don't include him.

but that is my illogic. probably not even worth 2 cents.

[Guest Sieve]

If this person is commission only, and is not eligible for any bonus or other compensation, I wonder if the IRS would take the position that the exclusion of commissions from compensation is, in effect, an exclusion of this employee from the plan just as if he/she had been excluded by job category, and therefore he/she should not be included in the ADP test (i.e., it is tantamount to an exclusion that requires a Section 410(b) minimum coverage test). I tend to agree with BG that this person is eligible to make an election by dint of age/service requirements, and therefore should be in the test, but the IRS might not buy it.

It sure would not hurt to give a commission-only employee an opportunity to elect to defer out of something in order to get around this potential argument (above)--e.g., in future you may want to give this (& other such employees) a small bonus a few times a year, or even just at year end, so they will have some compensation from which to defer (say $2,000) and therefore clearly can be included in the ADP test (at some very small %, like $2,000/$160,000 of 414(s) comp.).

[John Feldt ERPA CPC QPA]

That's essentially what Tom said. I agree with that conclusion as well - if he is not eligible to defer, he cannot be in the test.

If the result is favorable for the test results and you have concerns, perhaps you could request a ruling from the IRS (but that's expensive).

[BG5150]

I agree with that conclusion as well - if he is not eligible to defer, he cannot be in the test.

Thing he IS eligible to defer. It's just that he has nothing to defer from.

Is this what they call a paradox?

[Guest Sieve]

No, a paradox is 0/0!!

You're certainly technically correct that he's eligible to defer, if by that you mean that he has met the plan's age and service requirements and has not been specifically excluded from coverage. I just wonder if it's really nothing more than form over substance (i.e., in effect you've really excluded this person from the plan entirely by defining compensation such that he will have nothing from which to defer even if he makes an election).

[John Feldt ERPA CPC QPA]

He is not eligible to defer unless he receives wages from which the plan allows a deferral to be made.

Since the plan does not allow deferrals to be made from commissions, and he receives no other payment, he is not eligible to defer.

[ERISAnut]

I can respect the conclusion as it as been a subject of debate in the industry since I entered many years ago.

For consistency, in this instance, you should be sure your 410(b) test is properly adjusted to show him as not benefiting for ADP.

You wouldn't want him included as benefiting for ADP but then not have him included in the ADP test; that wouln't be consistent.

[GBurns]

Isn't the question whether he is eligible participate rather than whether he can defer ? It seems like 2 clearly different issues to me. You can't decide deferral issues until participation is first resolved.

[Guest Sieve]

The suggestion seems to be that this individual is not an eligible employee as a result of not receiving any compensation from which deferrals can be made (even though he/she meets age & service requirements), and therefore is not considered to be benefiting under the plan. That certainly is an arguable position. (See Treas. Reg. Sections 1.410(b)-3(a)(2)(i) & 1.401(K)-6.) Therefore, under that theory, this individual will be taken into account under Section 410(b) as not benefiting under the plan, and will not be included in the ADP test.

In this instance, apparently, that may result in failure of the ADP test (see post #25).

[Tom Poje]

I'd agree with Sieve. includable and not benefiting for coverage.

not on the ADP test

[Guest Sieve]

By the way, that wasn't my first inclination when I started on this thread, but it appears to be the correct approach.

[Tom Poje]

this one developed into a lively discussion (we had the IRS Q and A pre-discussion meeting this past Friday, with no real answer being provided, but a promise from the IRS personel to look into the matter and get back to us. (the leanings seemed to be in the direction of including the indiviudal as a 0, but...)

one point that was raised was what if the individual had indicated the desire to defer 25% on any pay that was not commission and this was simply a year he had no other pay. then what % would you use.

ha, a nasty vicious circle.

[BG5150]

We took the aggressive approach and included him in the test. Reasoning:

1. He was eligible to defer.

2. Definition of ADR is deferrals divided by comp used in ADP test.

For the ADP test, we used full comp for everyone.

[ERISAnut]

1.401(k)-2(a)(3)(i) :

The last sentence states "If no elective contributions, qualified nonelective contributions, or qualified matching contributions are taken into account under this section with respect to an eligible employee for the year, the ADR of the employee is zero."

The argument is, and has always been, what is an 'eligible employee' for ADP purposes. I typically maintain that this is made without regard to 'eligible compensation', but this is the basis of the disagreements.

[J Simmons]

The ADP test is designed to gauge the use (HCE vis-a-vis NHCE) by those eligible to make elective deferrals. One who has met the plan's 'eligibility' rules, but has no eligible compensation to defer is foreclosed from the opportunity to defer. So including that person in the ADP test as a zero distorts the results of what the ADP test was originally designed to gauge. So I would hope the IRS would come down on the side of excluding such individual from the ADP testing.

[John Feldt ERPA CPC QPA]

Depends on whether or not that person is an HCE or NHCE.

If they are HCE, then including them is great! If NHCE, then bummer.

Very conservative approach would include as a zero if NHCE and exclude from the test if HCE.

[Mike Preston]

Nah, we need consistency. Shouldn't be in the test.

[imchipbrown]

Sorry to be so late to the party. A lively thread, for sure.

I have an owner and wife (100%) who last took compensation ($45k and $25k) in 2005. No comp since, though still active in the business; hiring, firing, budgeting, etc. One is the Trustee. They've never deferred.

Regardless of comp, they're HCEs. But are they in the ADP test?

The company has gone from 50+ employees to 4. The remaining HCE (by virtue of 2008 wages) is curious about limitations on her deferrals for 2009 (current year testing).

I suppose owners could take a meaningless W2 wage and end the discussion. Whose call is that?

[BG5150]

I would say not in test because there was no compensation whatsoever.

In my example the person had compensation, it just wasn't eligible for deferrals.

BTW: At the ASPPA conference last year, the question was addressed and the answer was to include my guy with zero salary. (I know it's not an official answer, but more than we had int he past.)

To the OP: is this a sole-prop, partnership or corp? If not a corp, I don't see how W2 could be paid. ANd are we talking about '08 or '09?

[John Feldt ERPA CPC QPA]

BG5150 - You are the OP.

[BG5150]

BG5150 - You are the OP.

I meant "Imchipbrown" (oops)

[Guest Not such a bad guy]

three problems

when considering a person compensation as an HCE or they must use 415©(3) definition of comp, as required by 414(q). So his commision would have to be considered, even if it is only commissions (see 1.415©(2)(d)(2).

Also a EE has to be considered for the ADP if they are ELIGIBLE to defer under the CODA, not just if they are deferring, so there ACR must be included in the ADP for wither the HCE or NHCE group, this includes anybody under suspension for hardship distributions.

As of the 2008 cum list elective deferrals (not the match) must be made in relation to a persons 415©(3) comp, which again can not exclude commisions, so they may be denying the particpant their right to make elective deferrals in violation of the terms of the plan doc.

hope this helps

[QNPG]

three problems

when considering a person compensation as an HCE or they must use 415©(3) definition of comp, as required by 414(q). So his commision would have to be considered, even if it is only commissions (see 1.415©(2)(d)(2).

Also a EE has to be considered for the ADP if they are ELIGIBLE to defer under the CODA, not just if they are deferring, so there ACR must be included in the ADP for wither the HCE or NHCE group, this includes anybody under suspension for hardship distributions.

As of the 2008 cum list elective deferrals (not the match) must be made in relation to a persons 415©(3) comp, which again can not exclude commisions, so they may be denying the particpant their right to make elective deferrals in violation of the terms of the plan doc.

hope this helps

I agree with "not such a bad guy".

My two cents.