Contribution given based on years of service.

[Guest Theresa]

We have a client who is inquiring about the possibility of implementing a special contribution based on years of service. They presently have a standard 401(k) plan with a match. How would they go about doing this? Is the points system the only way it would work? If so, what all would be involved with implementing the points system?

[RCK]

It depends on what you want to do. The most common service based formula is probably a points based profit sharing plan, where the allocation of the total contribution is based on a combination of recognized compensation and years of service. The alternative would be to create a service based match in the 401(k) plan--for example, the match is 25% for years 1-5, 50% for years 6-10, 100% thereafter.

In either case your primary hurdle is probably discrimination testing. If you're doing a tiered match in a 401(k), the testing at least is pretty straightforward--just your regular ADP/ACP test. If you're doing a points based Profit Sharing contribution then you will have to prove 401(a)(4) compliance. In either case, passing the tests might be difficult.

[Guest]

The normal discrim test would (if my memory serves me correctly, but since it is Friday I don't if its working properly) be to divide contr/comp and compare the average of the HCEs to the NHCEs. while it is true this might not pass, you could test under the cross testing rules. since the people with the most years of svc will be older I would expect you to easily pass. faous last words.

[Richard Anderson]

Most of the time when I try to do this only HCEs (or maybe one NHCE also) are in the group with the longest service.

Also, the ACP test is not the only non-discrimination issue with tiered match rates. Each different match rate is considered a seperate benefit, and must be tested under the non-discrimination rules for Benefits, Rights and Features. This is where I usually have trouble, because the people in the highest tier seem to always be HCEs. I work with small plans and the owners for some reason stay with the company longer than most of the employees.

[Guest PAUL DUGAN]

I agree with both Richard and Tom.

Using a service graded match can have problems proving non-discrimination, both in availability and in the ADP test.

However basing PS contrib on service normally is no problem. We have a number PS plans where the allocation is based on service only or a combination of salary and service very heavily weighted for service. All have approval letters and a least 2 have been audited. Most are reverse discriminatory when you look at contrib divided by salary.

Works great where the employer is trying to benefit long term NHC's. May not work in two life medical PC where Dr. has 30 years and employee 2 years. But even here you may be able to cross test if Dr is 60 and EE is 21 (hope she isn't replaced with a 40 year old next year).