401(a)(17) - Application to Salary Reductions

[Guest bjg]

How is the 401(a)(17) $160,000 limit applied in the salary reduction context? For example, suppose the plan allows a 6% salary reduction. The employee makes $200,000 and elects a 2% contribution. Suppose the plan allows a participant to change their election monthly. We have been advised that when the employee reaches the $160,000 compensation level, that the employee's allowable contribution drops to 0%, even though the employee did not make the maximum deferral under the plan for most of the year? It seems to me that the employee would be limited by the lesser of the 402(g) limit and 6% of $160,000, or $9600. And that the employee could raise his or her percentage to 6%, even though the employee at that time was receiving over $160,000 for the year, since the employee had not yet contributed his $9600.

[Guest bswift]

that's an interesting issue and i've seen conflicting positions from the irs on that (what a surprise). in an irs western regional bulletin, the irs defined the problem as you've expressed it - that is, once the participant reaches the max compensation limit, she can make no more deferrals. In response to that issue, we tried amended a recent plan to provide that those limits didn't apply for elective deferral purposes. Well, on 5300 review, the irs asked us to change that and make the elective deferrals subject to the limits. when we explained why we did that (citing to the irs bulletin), the irs's response was "that's wrong and it's not a problem." they also explained that they so no reason why the participant couldn't continue making deferrals on income in excess of the limit, assuming that other tests were satisfied (adp and 402(g)). hope that helps.

[Guest Paul Hinderegger]

It appears that you can make deferrals and receive matching contributions even after a participant has reached the 401(a)(17) limit. The following is from the 1998 ASPA Annual Conference IRS Q & A Session (James Holland & Richard Wickersham):

Question: In a 401(k) plan, does 401(a)(17) preclude the following:

A) A earns $300,000 annually. He enrolls in a 401(k) calendar year plan in August, after earning $175,000. He defers $10,000 in the balance of the year.

b) A earns $300,000 annually. He participates in a calendar year 401(k) plan making monthly deferrals of a flat dollar amount of 1/12 of $10,000 in 1998, even though his pay exceeded $160,000 before he was done making elective deferrals.

C) Same as B, but deferrals are a percentage of pay (3.3333%)

Answer: All of the above are acceptable, assuming the plan is not drafted in such a way as to prevent it.

[Guest bjg]

Thanks so much! Very helpful information. I was wondering, Paul, if there is anything in writing by the IRS on this subject since I have been asked to write an opinion on this. I looked through the regulations under 401(k) and 401(a)(17) and could not find any authority for how this should be done. Also, is the information from the ASPA conference in the materials or was it simply given by the speaker orally? Thanks for your help.

[david shipp]

Note of caution, take a look at the plan language. For prototypes using standard LRM language there may be a problem.

The LRM language dealing with (a)(17) states, "the annual compensation of

each participant taken into account for determining all benefits provided

under the plan for any plan year shall not exceed $_____." This would

appear to be drafted in a way that could limit deferrals. For example, if

I have elected to defer 5% of pay and I earn $160,000 in the first six

months, my deferrals are $8,000 and I appear to have "used up" my available

deferrable compensation.

Based on IRS informal answers, such as the above, it appears that one might be able to modify the (a)(17) limitation in an individually designed plan to exclude compensation for deferral purposes, but I haven't talked to anyone who has gotten a letter with that kind of modification. I'm sure prototype sponsors will try to get such language approved in the next round of filing.

[i don't know why the formatting is messed up.]

[This message has been edited by david shipp (edited 01-07-99).]

[MWeddell]

A similar inquiry was discussed in a thread titled "Pre-Tax Deferrals After 401(a)(17) Limit" started by Tom Moses, last updated on 10/30/98.

My opinion is that the plan can accept deferrals up to the $10,000 limit even after a participant reached $160,000, although most plan documents are drafted in a manner that allows this interpretation. However, others reached different conclusions when we discussed this issue before.

[Guest Paul Hinderegger]

bjg, the Q&A that I posted previously was provided in writing by the IRS. However, it carries their standard disclaimer "This material does not represent the official position of the Internal Revenue Service, the Treasury Department or any other government agency; nor has it been reviewed or approved by the Service or Treasury."

I have not found any regulatory authority on this matter other than the Q&A described above and some comments made by Dick Wickersham at a ASPA Western Key District a couple years ago which (I've been told) can be found at paragraph 26,649 of the CCH Pension Plan Guide. Good Luck.

[Guest T Hoffman]

I have always understood that, because of the (a)(17) limit, no participant can reach their 402(g) limit by electing less than a 7% deferral. To be safe, our deferral election forms clearly state that only compensation up to 160,000 will be considered, and that their elected percentages should reflect that. F.Y.I. the results in A) and b) of the ASPA Q&A session can be obtained by proration of the (a)(17) limit which, although not required in Treas. Reg. Section 1.401(a)(17)-1(B)(3)(iii)(B), is also not precluded. If the limit can be prorated (some prototype documents prevent this by refering to the "first $160,000 of compensation") and this is explained on the deferral election form, some of these problems can be eliminated.

[Guest bswift]

t hoffman - my conversations with the irs don't bear that answer. as discussed in my earlier comment, we asked that specific issue to the irs on review and the irs's response was that if a participant making $300,000 per year deferred 0 for 7 months, he could still make and an election after the 7 month period to make deferrals. the irs's western regional bulletin suggested your result, but the irs on review disclaimed the result in that bulletin. i don't think you have to pro rate the (a)(17) limit.