Compensation

[ABeach]

We have a client with unique situation with a payment to an employee.  The employee has been out on short-term disability and also collects social security.  The insurance company offset his disability benefit by the amount he receives from SS and the company is paying the employee for this offset.  The money is not for wages nor has anything to do with work production.  The Plan sponsor has a signed agreement from the employee that the company will pay the taxes on this payment but will not pay the employee 401k contribution.  Will this suffice when the audit determines his payments were not all subject to the 401k deferral?

[FORMER ESQ.]

3 hours ago, ABeach said:

The money is not for wages nor has anything to do with work production. 

But, it is clear that the substance of the tax-gross up payments are compensatory. That is, if this person were not an employee, the company would not be making the gross up payment. The gross up payments are taxable for Federal income taxes and would likely be covered as "compensation" under the plan, but I would check the definition anyway to be sure.

 

3 hours ago, ABeach said:

The Plan sponsor has a signed agreement from the employee that the company will pay the taxes on this payment but will not pay the employee 401k contribution.

This is not clear. Are you saying the employer does not want the employee to defer into the 401(k) from the gross up?  If so, why? To reduce a match?

 

3 hours ago, ABeach said:

Will this suffice when the audit determines his payments were not all subject to the 401k deferral?

Do you mean to say that the payments were eligible compensation for deferral under 401(k) plan?

[Cardscrazy]

Hi ABeach, if "compensation" or "pay" in your 401(k) plan has no exclusion for disability pay or for this gross-up you're talking about then it probably is not excluded from 401(k) withholding requirements.  You can possibly send what's known as a 45-day letter to absolve yourself basically if you are within 45 days of their return to work (still required to give a match on what was not deferred).  I've attached an example 45 day letter that gives you an idea of what I'm talking about.  If you are beyond 45 days after their return from work, then you may owe them a corrective QNEC contribution.  I'm a company plan administrator, not a lawyer, so I'm showing you what my legal counsel said to do.  I've also given you a QNEC sample letter.  Corrective QNEC contributions might be 25% or 50% depending on how long it's been since the error was made.  You can always be more generous than what the IRS demands.  Hope this helps.

Example 45-day Letter no QNEC.docx Example QNEC letter.docx