Timing of Amendment Switching from Current Year to Prior Year Testing Method

[rocknrolls2]

Calendar year 401(k) has been using the current year testing method for all years since prior year testing authorized by the tax law. For 2008, employer determines that, due to the volatility in the equity markets, many NHCEs stopped contributing to the plan altogether. If the 2008 ADP/ACP tests show a failure, but the plan would pass based on a prior year testing methodology, what is the deadline for the plan to be amended to adopt the change in methodology?

[K2retire]

The end of the plan year for which it is applicable.

[Tom Poje]

in othe words, since this is a 'discretionary' change, it would have to be in place by 12/31/2008. you can't retroactively amend for a discretionary change.

[rocknrolls2]

Is there any piece of guidance issued by the IRS that you can cite for this? If you are correct, this would mean that it would be too late for us to apply the prior year method to test for the 2008 plan year.

[Tom Poje]

rev proc 2005-66 page 12. 5.05(3)

I of course base this with the belief that switching from current to prior (or vice versa) is purely discretionary. no one is required to make the switch.

[rcline46]

The following is a 'Soap Box' message - read at your own peril.

Although we follow the IRS guidance, it is my personal belief that this, like top paid group and a few other items are TESTING issues and should not be in the document. Therefore they should not be subject to amendment restrictions. Nor should you be required to keep current year testing for 5 years. If either I or my client had deep enough pockets I would challenge the IRS on at least the interpretive vs legislation regulation issue.

[QDROphile]

On this point, the IRS requires the plan to state on what basis the plan operates, and is very clear that a plan amendment is required to change, and has rules about the changes.

[Kevin C]

If you need it in writing,

1.401(k)-1(e)(7) Plan provision requirement. --A plan that includes a cash or deferred arrangement satisfies this paragraph (e) only if it provides that the nondiscrimination requirements of section 401(k) will be met. Thus, the plan must provide for satisfaction of one of the specific alternatives described in paragraph (b)(1)(ii) of this section and, if with respect to that alternative there are optional choices, which of the optional choices will apply. For example, a plan that uses the ADP test of section 401(k)(3), as described in paragraph (b)(1)(ii)(A) of this section, must specify whether it is using the current year testing method or prior year testing method. Additionally, a plan that uses the prior year testing method must specify whether the ADP for eligible NHCEs for the first plan year is 3% or the ADP for the eligible NHCEs for the first plan year. Similarly, a plan that uses the safe harbor method of section 401(k)(12), as described in paragraph (b)(1)(ii)(B) of this section, must specify whether the safe harbor contribution will be the nonelective safe harbor contribution or the matching safe harbor contribution and is not permitted to provide that ADP testing will be used if the requirements for the safe harbor are not satisfied. For purposes of this paragraph (e)(7), a plan may incorporate by reference the provisions of section 401(k)(3) and §1.401(k)-2 if that is the nondiscrimination test being applied. The Commissioner may, in guidance of general applicability, published in the Internal Revenue Bulletin (see §601.601(d)(2) of this chapter), specify the options that will apply under the plan if the nondiscrimination test is incorporated by reference in accordance with the preceding sentence.

[rocknrolls2]

I was aware that the plan document had to provide which testing method it was using. My question was if the employer decides that it is eligible to switch to the other method and desires to do so, when must the amendment making the switch be adopted.

[Kevin C]

I was referring to rcline46's post. Tom answered your question. The IRS has stated at various conferences that they consider an amendment to change the testing method a discretionary amendment.

[rcline46]

And my point is that the IRS expanded what the law says, that is, they wrote a legislative regulation and not an interpretive legislation. But do you have the money to fight them?

[Kevin C]

rcline46, Why would I want to fight them? I don't doubt their authority to write regulations.

401(k)(3)(A)(ii)(II) The excess of the actual deferral percentage for the group of eligible highly compensated employees over that of all other eligible employees is not more than 2 percentage points, and the actual deferral percentage for the group of eligible highly compensated employees is not more than the actual deferral percentage of all other eligible employees multiplied by 2.

If 2 or more plans which include cash or deferred arrangements are considered as 1 plan for purposes of section 401(a)(4) or 410(b), the cash or deferred arrangements included in such plans shall be treated as 1 arrangement for purposes of this subparagraph.

If any highly compensated employee is a participant under 2 or more cash or deferred arrangements of the employer, for purposes of determining the deferral percentage with respect to such employee, all such cash or deferred arrangements shall be treated as 1 cash or deferred arrangement. An arrangement may apply clause (ii) by using the plan year rather than the preceding plan year if the employer so elects, except that if such an election is made, it may not be changed except as provided by the Secretary.

[John Feldt ERPA CPC QPA]

If Jim Holland had his way, you would have to sign it before the BEGINNING of the plan year. If some other IRS officials had their way, it would not be required in the document, but be an administrative election.

[Guest Linda Harlow]

Review Notice 98-1 which clearly states that a change to testing method (current or prior year) must be amended in the Plan before the end of the Plan Year for which the testing applies. The Service seems to anticipate that we know what our clients are doing and they advise us immediately of adverse activity by NHCs. In light of EGTRRA restatements, we've had this come up a few times lately and an IRS Agent in Cincinnati told my associate that he is fine with the Plan not containing an amendment as long as it is documents (in Corporate Minutes or otherwise) but I would never try that. Better to amend since 98-1 and all other Procedures, Notices etc. say the Plan must be amended.

You might try a bottom up QNEC to fix your ADP problem; assuming you're still comfortable with those.

[BG5150]

You might try a bottom up QNEC to fix your ADP problem; assuming you're still comfortable with those.

And, if it specifically allows for that correction method int he plan document.