Each Participant in own group and IRS audit

[Rai401k]

We have a new comp plan and each employee is in their own group. Each year the sponsor will inform us what percentage or dollar amount each HCE and Owners should get. We then test the plan and determine what the NHCEs must get. In most cases even though the NHCEs are all in their own group we will give them the all the same %. Enough to have the test pass.

The IRS agent said that she's never seen so many different %'s across the board and that she usually sees three or four separate groups. I explained that all are in their own group and that the HCEs are able to get different percentages actually even the NHCEs are. However she wants us to demonstrate how we get to the % amounts for each HCE.

I guess this is more of a "what would you do" than a question. I think we are just going to give her what the sponsor provided us to show what the HCEs are to get and then show her what we proposed to give the NHCEs and that's it. I don't think we did anything wrong here.

[shERPA]

Look to the plan document, they typically have language that says something about the employer preparing a schedule of the allocations. Demonstrate to the agent how the sponsor (and your firm) followed the terms of the document.

[Kevin C]

Our VS document requires that for a new comp allocation, the Employer must designate in writing the amount of contribution for each allocation group. We prepare a contribution designation for them when the final contribution amounts are known and have them sign it. In our case, I would show her the signed contribution designation, the sections of the document that say everyone is in a separate allocation group and that the employer can set the contribution level separately for each allocation group and the 410(b) and 401(a)(4) testing showing the allocation passes.

Does the plan in question specify how the contribution amount is designated? If it does, that provision may affect how you answer the agent's question. Unless you have a really poorly worded document, the employer can make the contribution for each allocation group be anything it wants it to be. Of course, they still have to pass the testing.

[Earl]

I had a IRS auditor tell my client you could not do this (each in own group) and then she gave my client a name and phone number of a "good" TPA to call who would do it right.

She then gave me a no change letter.

[ESOP Guy]

I had a IRS auditor tell my client you could not do this (each in own group) and then she gave my client a name and phone number of a "good" TPA to call who would do it right.

She then gave me a no change letter.

My first job out of college in the '80s was with the IRS. I did regular taxes and not plans. However, if an IRS agent did what is described here I would be making the case to management and the client we talk to this person's supervisor. There were times I thought the person needed a new tax preparer but I would have never dreamed actually saying that. That isn't the job of an IRS agent. I know the common response is I don't want to get this agent on my bad side in case of a future audit but that is poor behavior.

[austin3515]

I believe it is a requirement for all documents to specify the allocations in writing. I thought that the "in writing" was to address the definitely determinable issue, because absent some written documentation whose to say why it was.

I'll tell you what we do is slap a board resolution right on the contribution spreadsheet that we send. "The corporation hereby resolves that we're doing what is shown above" or something to that effect.

[Tom Poje]

you did not specify if the HCEs involved were partners or not.
Even the LRMs issued a few years ago 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.

it is of course, one of those areas that is hard to prove, one way or another, but if you had 2 partners, both making 300,000 and one received 52,000 and the other 0, it certainly gives the appearance of, ultimately, being a 'deferral' election