Improper Allocation of Discretionary Contribution

[Guest johnpetrancosta]

General Facts:

1. Company has two owners. Owner A - 51%; Owner B - 49%

2. Compensation Owner A = Max; Owner B = $215,000

3. Neither Owner A, nor Owner B defer

4. Owner A determines the discretionary contribution based upon amount needed max and not exceed 415 Limit. I./E. 20% of Compensation

5. All other employees NHCE

Problem Facts:

6. Plan Document specifies disrectionary contribution to be allocated using integration with the social security wage base.

7. The discretionary contributions for 2009 - 2011 were incorrectly allocated on pro-rata compensation, i.e. 20% for everyone.

Mitigating Facts:

8. All NHCE's received more than they otherwise would.

9. The 51% Owner A received the max, but not more.

10. The 49% Owner B received more than he otherwise would have had the discretionary contribution been limited to the maximum amount needed for the 51% Owner A to reach the 415 Limit.

Problem and Questions:

Although the 49% Owner B received more than he otherwise would had the discretionary contribution been limited, he received less than he would have had the overage been properly allocated.

A. Does the 49% Owner B need to be made whole for the difference?

B. What if the cumulative 3 year correction would push Owner B over the 415 limit in the current year?

C. Should the amounts be re-allocated/refunded from the accounts of the NHCEs?

[Mike Preston]

A. Technically, yes, but since you can't use SCP as the 2009 year error makes you ineligible to do so you can, via VCP, suggest that the HCE not be changed. If the IRS goes along with it (which I believe they will since each NHCE received more than they otherwise would have) you can just leave things as they are.

B. Corrections don't count as 415 annual additions in the year(s) made, so this is a non-issue.

C. I wouldn't, but there is nothing wrong with requesting it via VCP. WIth a small group the IRS is unlikely to go along with it, unless there are compelling reasons to do so and, frankly, I doubt you could come up with such a reason given the owner made max comp and received a max allocation.

[Guest johnpetrancosta]

A. Technically, yes, but since you can't use SCP as the 2009 year error makes you ineligible to do so you can, via VCP, suggest that the HCE not be changed. If the IRS goes along with it (which I believe they will since each NHCE received more than they otherwise would have) you can just leave things as they are.

B. Corrections don't count as 415 annual additions in the year(s) made, so this is a non-issue.

C. I wouldn't, but there is nothing wrong with requesting it via VCP. WIth a small group the IRS is unlikely to go along with it, unless there are compelling reasons to do so and, frankly, I doubt you could come up with such a reason given the owner made max comp and received a max allocation.

In regards to your answer to C, wouldn't the reason be to properly allocate the contribution according the Plan Doc? For every dollar the HCE owner B got shorted, the NHCEs got over contributed. I thought that's where you were going in your answer to A.:

Go through VCP and ask the IRS to leave the allocation stand because the proper correction would be to reduce/reallocate the difference from the NHCEs to the HCE owner B.

[Mike Preston]

When the cost of correction is large in relation to the dollars being re-allocated, I shy away from asking for full correction and instead lean towards leaving accounts alone (albeit NHCE's are too high and an HCE or two is/are too low).