Brain Teaser

[M R Bernardin]

Here is a Brain Teaser. Would anyone care to comment?

In performing the 402(g) test, both HCEs and NHCEs have excess deferrals, and received a match on the excess deferrals. The ACP and ADP tests pass without the need for any refunds. Must the company do something with the match which relates to the excess deferrals which are refunded?

Regs under 402(g) say that the excess deferrals of the HCEs are counted in the ADP test, and are also counted for purposes of 401(a)(4), even if refunded. Thus, if the match is not distributed or forfeited, there should not be a discriminatory rate of match under 401(a)(4) because the excess deferrals for the HCEs continue to be counted. (Note 401(a)(4) regs address match relating to ADP or ACP failures, but not relating to 402(g) failures.)

Plan does not say no match is made on excess deferrals. Plan says match made to HCEs attributable to excess deferrals MAY be distributed or forfeited, but does not say match made to NHCEs may be distributed or forfeited. Since there is no discriminatory rate of match, can the related match be left in the plan for both HCEs and NHCEs?

[Guest gpr]

What is the maximum deferral percentage allowed under the plan (have you violated plan provisions outside of 402(g) issues)? What is the match formula? Seems to me that you could also have a 415 issue here, depending upon the full facts.

For example, $10,000 is 25% of $40,000 (common NHCE). It is unlikely that by design your plan would allow for 25% deferrals. Section 415 would also prevent this participant from receiving a match at all unless deferral refunds are made.

[M R Bernardin]

The plan limits deferrals to 15%. The NHCEs with excess deferrals were earning in the high 70's, so did not exceed the 15% limit. The match formula is discretionary and allocated by the employer, but seems to be a 100% match. We do ADP/ACP testing only, and are not responsible for testing 402(g) or 415, but since we hold the assets we must issue the refund checks when directed. With the refund of the excess deferrals, it does not appear there would be any 415 issues.

[Guest gpr]

You will need to refund match. If the plan actually provides 100% match (rare these days but it happens), and the deferral percentage for an individual after refunds is 12%, your match percent can still only be 12% (you have no justification for a 15% match on a 12% deferral based on these circumstances). This would be true regardless of whether the participant was HCE or NHCE.

You could still feasibly have a small 415 issue. $10,000 is 12.7% of $79,000, and with a 100% match, annual additions would be 25.4% - an excess of 0.4%. And we are assuming there are no other annual additions, such as reallocated forfeitures or profit sharing in this scenario!

[Guest gpr]

Let me first address treatment of refunds vs. withdrawals. If a participant contributes $5,000 during the plan year and has $500 refunded to him, you have reduced the contributions credited to his account for the year to $4,500. If the contributions credited to his account for the year are $4,500 and your match is 100%, your match can only be $4,500.

If a participant contributes $5,000 during the plan year and withdraws $500, you reduce his account balance, but NOT the amount of contributions he was credited with during the year. Therefore, he can still receive $5,000 match, based on 100% match formula.

The participant to whom the $500 deferral was refunded may be entitled to receive the removed match outside of the plan.

Since the employer calculates and allocates the match and is responsible for 402(g) testing, I would recommend that you put the ball back in their court on this issue.

[M R Bernardin]

gpr: you say if "the deferral percentage for an individual after refunds is 12%, your match percent can still only be 12% (you have no justification for a 15% match on a 12% deferral based on these circumstances)" I think that goes to the very heart of the issue and would like to know your reasoning. The employer matched as the deferrals were going in, and the plan does not state that a match is only made with respect to deferrals that do not exceed the 402(g) limit. Would your opinion change if the individual exceeded the limit because of deferrals to an unrelated employer's plan, rather than under this plan, and that was the reason for the refund? As another example, suppose I am 59-1/2 and contribute to a 401(k) plan that permits distributions at age 59-1/2. If I contribute all year so that I can take advantage of the match, and then I withdraw my deferrals at the end of the year, was I not entitled to the match? ( I am not advocating a system like this but, since it has happened, I am not convinced the match needs to be refunded.) We are not responsible for 415 testing but, based on the deferrals which will be refunded and the information available to us, it does not appear there are any 415 problems (as strange as that may sound), because although the match appears to generally be a 100% match, certain employees did receive something less than that (as the employer calculates and allocates the match, which is discretionary, we do not have the formula although we are attempting to get it).

[Greg Judd]

Hi,

This is a terrific exchange on an issue that can be tricky to unravel. Here's a summary to this point from an interested onlooker;

a)the match matches only what 'should' be contributed. So, if matched contributions must be refunded, the match amount needs to be retracted also (the philosophical issue of what's just re: earnings on the match is a matter for another day....)

b) an 'OK' match on funds that are subsequently withdrawn should stay in the plan.

c) basically, antidiscrimination tests are an attempt to confirm that a plan's administration for a plan year [i/]as a whole [/i] has been OK. So, if in the course of testing after a plan year's last calendar day has passed, it's discovered that refunds are necessary, you need to unwind the events that required the refund. No one should get to keep, within a tax-qualified plan, any $$$ they wouldn't have received had the plan somehow 'known' they weren't entitled to it during the plan year.

d) The matter of what's equitable from the participant's perspective, who may feel they shouldn't be penalized (cut back) just because the plan has problems, is also a matter for another day - and one that keeps more than a few benefits managers busy, whatever the statutory requirements regarding their qualified plans.

[Guest Do]

I have a nonanswer. I don't think there is a rule (statutory, regulatory, administrative or common law) which holds that matches shall apply only to deferrals which satisfy 402(g), unless the plan says otherwise. I think you put enough pieces together to get that conclusion and it is persuasive if you can get the decision maker to agree with you.

If the decision maker you want predict is the IRS, I would venture to say the answer will vary from agent to agent (and possibly year to year with the same agent). You should do the most conservative action which, I think, is to reduce matches because it is a literal reading of the pieces.

If the decision maker you want to predict is the court or the DOL, the conservative action is to leave the matches the way they are because it seems to be treatment which is the fairest or most favorable to participants.

Which decision maker should you defend against, ask the plan fiduciary who he, she or they want to defend against. I would worry about the court and the DOL. The stakes are the highest there since IRS penalty can be abated through reasonable cause or Walk-in CAP.

That would be my practical approach to your problem, take it or leave it.