Older partner wants to max out PS contribution, younger partner wants cash

[Guest Bearlee]

I have a small business where there are 3 HCEs, 2 of the HCEs max out their PS contributions at $49,000 (now $50K) and one of them is of retirement age. There is other NHCE staff who are also participants in the plan. The other HCE is younger and does not want his 25% contribution in the profit sharing plan if possible. He'd rather any profit sharing contribution in cash. There is no salary deferral component. What are some plan design ideas that could suit this company's needs?

Would you consider a non-qualified deferred comp plan? Use an insurance policy? Any input would be appreciated. Thanks in advance.

[Mike Preston]

This is such a basic question that I must be missing something. Besides, the fact that you used a percentage of 25% for the third HCE makes me think this might be a made up scenario. Why wouldn't you just design the plan to exclude this HCE?

[K2retire]

Or use a cross tested design that allows flexibility from year to year.

[Tom Poje]

you certainly wouldn't want to use cross tested and describe your scenario "That the younger ee doesn't want his 25% in the plan"

while possibly tough to prove, if you described it that way to the IRS they'd jump down your throat. they frown upon such practice. The latest LRM state

In the case of self-employed individuals (i.e., sole proprietorships or partnerships), the requirements of §1.401(k)-1(a)(6) continue to apply, and the allocation

method, including the determination of participant allocation groups, should not be such that a cash or deferred election is created for a self-employed individual as a result of application of the allocation method.

a few years ago at the ASPPA Conference their response was "We would know abuse when we see it"

in other words, if you go cross tested, you would have to have a better description of why the young partner 'received' nothiong.

[david rigby]

Be careful to avoid a plan design that excludes the younger HCE permanently.

[jpod]

I am inclined to agree with M. Preston that this is a made up scenario and the idea is to start a "discussion" concerning COLI or something of that nature.

[Guest GeerTom]

This discussion presupposes that the comp of each of the HCEs is reduced by contributions made for them under the plan. This always raises potential problems.

In theory, if the other HCEs decide on the contributions for HCE 3, there is not a cash or deferred election. But beware the "rubber stamp" theory.

The same logic, unfortunately, applies to all the HCEs. If there is a problem with zeroing out HCE3, why is there not a possible problem with maxing out the other HCEs?

Given all that, have you run the numbers for an age-weighted plan? This would force a contribution for HCE3, but the rate would be lower by virtue of HCE3's lower age. First make HCE1 and HCE max out a salary reduction contribution. Then apply a classic age-weighted formula with an automatically lower rate for HCE3.

Tom Geer

[austin3515]

Let's say that a medical practice performs an income statement for each owner as part of its internal accounting. So each Owner Doc's total gross receipts, less an allocation of the practice's expenses equals his/her net income for the year. The Doc may or may not receive an allocation of the profit sharing contribution (at the discretion of the plan sponsor) . If they do receive their own PS, this reduces their own net income and their own take home pay.

Now, I've chosen my words carefully, in particular the bolded language. Does the intenral accounting itself (a practice which I believe is extremely common) cast an overwhelming shadow of doubt on the suggestion that the sponsor determined the allocation, thus suggesting (at least to the IRS) that a CODA exists?

[Bird]

Austin, you're not going to get a definitive answer on that. Some doubt, yes, but overwhelming shadow, I think not.

[austin3515]

"sigh of relief"

[Guest Bearlee]

Thanks everyone. Sorry, I deal more with fiduciary and benefit claim issues rather than operations so thank you for your patience and understanding.

So there would be no 401(a)(4) and CODA issues if the following allocation classes were made?

1) Partners 60 and over get 25% contribution

2) Partners under 60 get 10% contribution

3) Rest of NHCE staff get 25% contribution

This plan design change is really to accommodate the younger partners who don't want to max out retirement yet. So long as these formulas remain constant for at least a few years, CODA would not be an issue?

[austin3515]

Deemd CODA's are not a plan document issue - they are an operational issue. Although it is obviously a gray area, the owners shouldn't be able to elect their own profit sharing. Everything needs to be documented as a corporate action.

The point is that just writing your document as described does not preclude a deemed CODA.

[austin3515]

But, if you have the percents hard-coded into the document, then clearly this would not be a CODA. Consistency alone would not necessarily be a safe harbor, but I do agree it would make it look a lot less like a CODA.

[Guest Bearlee]

But, if you have the percents hard-coded into the document, then clearly this would not be a CODA. Consistency alone would not necessarily be a safe harbor, but I do agree it would make it look a lot less like a CODA.

Thanks so much. I think they may be willing to hard-code it via a corporate resolution detailing the percentages. The investment provider adoption agreement has attachments where you can fill out some custom details. We would outline the 3 allocation classes on the adoption agreements (not percentages because it's a ER discretionary contribution).