Prepaying a Gateway Contribution

[ratherbereading]

I have a client who has a combined PS/DB plan. There are terminated participants who are getting a Gateway contribution. The client wants to pre-pay the Gateway contribution on the PS side using the forfeiture account every time someone terminates vs. waiting until the end of the plan year. Is this allowable? So for instance, someone terminates on 4/11/15. He wants to give them their 5% and then process their termination. Thank you-

[John Feldt ERPA CPC QPA]

Just a few potential considerations:

Without all of the year end data, do you know for certain the gateway will only be 5%? In a DB/DC combo, the gateway (it tested together) may be up to 7.5% of compensation. Sometimes additional amounts are needed above that to actually pass 401(a)(4).

If you have a small plan, early contributions could cause trouble related to the combined-pan deduction limit, especially if the owners/HCEs start to have their contributions made early too, just FYI.

Are the DC plan's investments participant-directed, and if so, does this early contribution create a right or feature issue because the employer provided contributions to some employees at one time, but not to the others eligible employees at that same time?

[ratherbereading]

Thank you, John!

[ratherbereading]

Follow up question. Suppose someone terminates, gets their gateway, then is rehired. Wouldn't they need an additional gateway contribution?

[John Feldt ERPA CPC QPA]

Depends on what the plan requires they must do to again become a partcipant, but if they do re-enter, then yes, assuming they are a non-highly who is benefitting, they must get the gateway based on whatever definition of compensation that is applicable, which presumably would include compensation after their rehire and/or their re-entry date.

[Tom Poje]

if the 5% gateway consists of a 3% safe harbor there are possible issues as the IRS frowns upon using forfeitures to pay any portion of a safe harbor (as those monies were not 100% vested when made to the plan)

[ratherbereading]

HI Tom. This isn't a safe harbor plan. The client wants to avoid paying the terminated EEs out twice - once with their normal distribution then again when they get their gateway. However, they will also get a forfeiture allocation at the end of the year, so they are going to be paid out twice anyway. The client is making this way too complicated. I can't see using the forfeitures to make the gateway, because when they get paid out, part of that will be forfeited.

[Tom Poje]

then the only thing I can think to watch out for is what the document says.

I have seen some that say distribution occurs plan year following the year of termination (just to avoid having to pay someone 'twice') arguably 'as soon as feasible' falls under the same argument - if it creates a problem or issue with the asset house - e.g. if you are charged $50 for every distribution the participant is out an extra $50 because of a second distribution.

(does that create fiduciary liability as well?)

[ESOP Guy]

I think Tom has hit on something you might want to look at and have a conversation with the client. If the plan does say to make the distributions "as soon as feasible or practical" you might be able to hold paying them anything until the last contribution is known.

I realized people like to get their money fast and employers like to just get a clean break from a former employee. But rarely does the law require a plan to pay a person out in weeks or even a few months after termination. So only make one payment later when the correct amount is known.

The way you explain the delay to people is that there is going to be an additional contribution so until we know your correct benefit we aren't going to pay you.

[ratherbereading]

Thanks ESOP Guy. Yes, the client does want everyone paid out immediately because a lot of their employees leave the country as soon as they are terminated, not understanding they have money, then the client can't find them. The plan does state ....distributions as soon as administratively feasible. And they have to get a forfeiture allocation at the end of the year anyway, so there is no advantage that I can see in prepaying their Gateway.

[rcline46]

If the participant does not know they have $ coming then the employer is probably not doing enough to educate the participants.

The employer MUST have a forwarding address to furnish the W-2 at year end, so the problem of locating the former employee should not be that hard. Just get a forwarding address when they leave.

Get friendly with the local consulate, and 'make it their problem' that their subjects are not getting their due.

[ratherbereading]

Thanks rcline - good point about the W2s!

[ratherbereading]

A final question. In a DB/CD cross tested plan - what if they did prepay the Gateway to terminated participants, and then the PS plan decided not to make a contribution? Wouldn't that be an issue? I am assuming just because the Cash Balance plan has to make a contribution, the PS plan does not. However, in giving the terminated participants the Gateway early, now they are obligated to give other eligible a contribution, correct?

[John Feldt ERPA CPC QPA]

It could. Suppose the participant quits early in the year, the 5% is funded, then entirely paid out. Later, but before accruals kick in for the DB plan, suppose the DB plan is frozen because the employer now has a cash problem. Now the plans are not required to be tested together and the combined-plan top heavy minimum does not apply (no DB accruals).

If cash is really a problem now, and the employer wants to take advantage of the safe harbor top heavy exemption to avoid the top heavy minimum now available in the DC -only plan, they can't do that, because they already contributed or allocated an amount that was not safe harbor, so the DC plan is on the hook for the top heavy minimum. Probably not a bid deal if they're 3% SH anyway, or if they're realy strpped for cash they exit SH anyway.

As far as the obligation, that would depend on the plan's terms. If you have each person as their own rate class for allocations, and if the terminee is an NHCE, then you're okay.