Do you give employees Exclusion Allowance advice?

[imchipbrown]

A 501©(3) organization has the following plans:

403(B) Salary reduction agreement up to 15% of pay

403(B) Match up to 5% of pay

401(a) Integrated 5% to TWB, 10% over TWB

Got a guy making $73,440 in 2000, who wants to defer the max.

The way we see it, he'll get $3,672 match and $2,472 401(a) (partial year comp).

His hire date is May 1, 1999. Prior exclusions are $9,498.

Comp $73,440 times 20% times service 1.67 years less $9,498 prior exclusion is $15,031. $15,031 less 401(a) and match is $8,887 for the exclusion allowance.

(The 401(a) is subject to vesting, if it matters. Also, all contributions are to TIAA/CREF, though under separate contracts for the 401(a) and 403(B) portions).

Letting him defer $10,500 is OK under the 415 limits. What are you supposed to do, if anything? Educate the employee of the "C" election, warn him that he's losing a future potential "A" or "B" election, nothing?

Any help is appreciated.

[Carol V. Calhoun]

Most of our employers are making at least some effort to educate employees on all of the limits as a routine matter, particularly where there are multiple plans. The reason is that an employer has potential liability for taxes which should have been withheld if contributions above the maximum are made. The IRS seems to be taking the position that it will not impose this liability if the employer makes a reasonable effort to verify compliance. It is not clear how much effort is required in order to be reasonable (which is probably a factual determination anyway), but some basic guidance to not only this employee, but all employees covered by the plan, is probably a good idea. While I never endorse a particular vendor, I know that one of the members of this board, Harvey Carruth, sells software for this purpose, and there may be others.

[Guest Harvey Carruth]

As a point of clarification regarding Carol's statement, my company does not sell software, but rather provides compliance assurance services that use proprietary software.

With respect to the scenario described in the original post by Chip Brown, several questions come to mind:

1. Is the 401(a) plan a defined benefit plan or a defined contribution plan?

2. Are the contributions to the 401(a) plan made by salary reduction, or are they employer discretionary contributions?

3. If the 401(a) plan contributions are salary reduction in nature, are they elective or mandatory?

4. It appears as though the 401(a) contributions commenced sometime during 2000, following a waiting period for participation. Is this correct?

5. It appears that the $9,498 prior excludable amount consists of some combination of elective deferrals and employer matching contributions to the 403(B) plan only, right?

For the sake of discussion, I will make the following assumptions:

1. The 401(a) plan is a defined contribution plan.

2. Contributions to the 401(a) plan are employer discretionary in nature.

3. Contributions to the 401(a) plan were not salary reduction in nature.

4. 401(a) contributions commenced during 2000, will be $2,472 for the entire year, and will be forfeitable until they become vested sometime after December 31, 2000. However, this assumption in no way affects the analysis below for the year 2000.

5. During 1999 the employee and/or the employer contributed $9,498 to the 403(B) plan in some combination of elective deferrals and matching contributions.

Based on these assumptions, the exclusion allowance calculation appearing in the original post by Chip Brown is correct ($15,030.96, which was rounded off to $15,031), but the suggestion that the exclusion allowance is reduced by the 401(a) contribution of $2,472 is incorrect. The 403(B) exclusion allowance limits only nonforfeitable contributions to 403(B) plans. Hence, the largest total contribution to the 403(B) plan that does not exceed the exclusion allowance is $15,031. Since the employee definitely will contribute at least 5% of pay to the 403(B) plan, the employer will match employee contributions at the maximum level of $3,672. This means that the employee may contribute up to 15,031 - 3,672 = $11,359 and still not exceed the 403(B) exclusion allowance, irrespective of the amount contributed to the 401(a) plan.

However, the elective deferrals are subject to the 402(g) Elective Deferral Limit of $10,500 and, under the "General Limitation Election," the aggregate of elective deferrals and employer matching contributions (403(B) annual additions) are subject to the 415©(1) limit of $18,360 (25% of the participant's compensation). Consequently, the maximum allowable elective deferral is $10,500, since:

A. $10,500 is equal to the 402(g) Elective Deferral Limit.

B. $10,500 + $3,672 = $14,172, which does not exceed the 403(B) exclusion allowance of $15,031.

C. $10,500 + $3,672 = $14,172, which does not exceed the 415©(1) limit of $18,360.

D. $2,472 does not exceed the 415©(1) limit of $18,360 on qualified annual additions.

Notice that the C Election need not be exercised, nor would any of the A, B, or C Elections increase the allowable elective deferral. I hope these observations are useful.

[Carol V. Calhoun]

My apologies, Harvey, for mischaracterizing your business! In any event, thanks for your informative contribution.

[imchipbrown]

Harvey,

Thank you very much for the time and analysis. I've been trying to find someone besides myself who doesn't think the 401(a) contribution is included in the calculation.

To answer your other questions, the 401(a) is an integrated money purchase plan. All your other assumptions are correct.

It seemed to me that this employee was being "punished" by having a partial year of service.

Thanks again.

Chip Brown