401k deferrals after reaching 250k of income?

[MD-Benefits Guy]

We have modified our 401k matching rule this year so that commission and bonuses are included in 401k wages (for deferral and matching purposes). With the new 401k rules, I anticipate that several employees will hit the 401k wage limit of 250,000 in 2012. Our payroll company, ADP, is telling me that once an employee's earnings reaches 250,000 in 2012, deferrals will no longer be taken from wages....even if they have not hit the deferral limit of 17,000?

I understand that in 2012 there is a wage limit of 250,000....but I thought this was simply for testing purposes? From what ADP is telling me I could have an employee not participate in the 401k for the first half of the year and if his wages (in the first half) exceeded 250k, then he would be ineligible to contribute to the 401k during the second half of the year even though the employee is below the 17,000 limit?

Is this a law or an ADP setting? Legally, are employees allowed to contribute to a 401k after their earning reach 250,000?

Thanks.

[ETA Consulting LLC]

The rules clearly state that the 401(a)(17) limit is for "Testing" only and does not trigger a mid-year deferral stop. The plan's document, however, may be written to say anything (i.e. once a participant's compensation during the year exceeds $250,000, then no additional deferrals may be made).

This makes it even more interesting since ADP's payroll processing it totally separate from any qualified plan operation; leaving them in no position to make that call.

Good Luck!

[rcline46]

Of course check the document provided by ADP first to see if such a nonsense rule is actually in the document.

Under law they are just WRONG on deferrals. Match is a bit trickier, since the match maximum can be reached at a different time than deferrals. That is the match % of deferrals can be reached strangely because the deferral % is based on the $250,000 cap.

[QDROphile]

Can we possibly say enough bad things about ADP with respect to anything that touches in any way on retirement plan issues?

Unfortunately, the IRS has been unhelpful in addressing the surprisingly common misdirection on this issue. As far as I know, the closest to a direct statement is in the peamble to the section 415 regulations.

[Tom Poje]

the actual preamble reads as follwos (if you are keeping score)

“As noted above, the final regulations provide that a plan cannot take into account compensation in excess of the section 401(a)(17) limit. In addition, the final regulations provide that elective deferrals can only be made from compensation as defined in section 415©(3). However, in applying these two rules, a plan is not required to determine a participant’s compensation on the basis of the earliest payments of compensation during a year.”

[MD-Benefits Guy]

Thanks for all the replies. A little more information.....our plan only matches on 6% (at a rate of 20%) of the employees 401k wages. At this rate, I don't think we would run into an issue of matching dollars exceeding the limits.....6% of 250,000 is only 15,000. The maximum match expense for any given employee for 2012 would be 3000 (not including catch-up employees).

Is there some other consideration that I should give to this before I tell ADP to lift this rule (the one that does not allow deferrals after annual income exceeds 250k)

Thanks for the quick and insightful replies.

[Tom Poje]

match could be dependent on terms of the document...e.g. per payroll basis with no true up at the end of the year could produce different results if one caps out at max deferral early in the process.

[masteff]

Here's link to the document being cited, the exact quote is on the page 47: http://benefitslink.com/src/taxregs/td9319.pdf