self employment earnings in a partnership and ADP testing

[Chippy]

I have a 401(k) Plan with 3 partners below the 260,000 comp limit for 2014. I calculated their self employment earnings for the plan and ran the adp test. The adp test is failing, and they are going to put in a QNEC to pass the test.

Do I have to recalculate their earnings after the QNEC? And then rerun the ADP test with the adjusted compensation, which may not pass with the adjusted comp and then require an additional QNEC. seems like this would be a never ending process. Or maybe I'm just not thinking straight?

[ETA Consulting LLC]

It "IS" a never ending process. Allocating additional contributions, which will continue to magnify the problem by it's very definition, may not be a good idea.

Good Luck!

[Tom Poje]

If I understand how things work with schedule C, etc you have done an initial calculation based on the contribution to the rank and file, and that left you with the owner's comp.

now ADP test fails. I'm guessing you could make a QNEC and leave the owners comp as is in the current year, providing you reduce next year's schedule C by that QNEC amount ( suppose you had missed one ee for top heavy 2 years ago and you were correcting under EPCRS, I don't think you go back and redo things -you would do the same thing as well)

of course there could be issues the following year because now you have reduced things....

[mbozek]

I have no idea of how to calculate the correct comp amount. However Pub 560 about P 25-6 has a worksheet that shows how to determine the max deduction for self employer persons. Maybe you can create a math formula for determining what comp would be correct comp that would pass the ADP test.

[Tom Poje]

the basic concept is you start with sched C and subtract off contrib to others, to determine comp/fica etc to the owner

so this was done and plan fails

now if you provide a QNEC to pass testing that is a contrib to others

but then you have to go back to step 1, which means the owners comp will be reduced

but now you have to rerun the test, and with smaller comp it means the plan will fail

so now you give another QNEC, but now you are stuck in a loop

my thought are that instead of working back through the process, I think you can subtract the contrib the following year, thus getting you out of the loop. since you have 12 months after plan year end, if you make it real late in the year it seems to me that is how things would or could work.

of course the loop above stops eventually, each succeeding QNEC will be smaller and smaller but it sounds like Zeno's paradox.

given a head start the hare could never catch the tortoise. if the tortoise had a mile head start, by the time the hare got to the mile mark, the tortoise has moved further ahead, so now the hare gets to where the tortoise has moved to. but the tortoise is sitting around waiting he has moved further. so now the hare has to get to the next spot.

[Chippy]

thank you. Thankfully the QNEC was only $21,000 and their share was so small it only changed their comp by $50 and did not change the ADP results. Yeah, something goes in my favor!