Missed Deferral Opportunity

Good morning.

I work for a TPA firm. We have a client who missed offering its 401(k) plan to one eligible employee for 2021 and will be making a QNEC for the missed deferral opportunity under Rev. Proc. 2021-30. 

The client's 401(k) plan is not a safe-harbor plan. It permits pre-tax deferrals, Roth contributions, catch-up contributions. It does not permit after-tax contributions (other than Roth contributions). It is a deferral-only plan so does not have a matching contribution.

The conditions are met to use the safe-harbor correction method for elective deferral failures that exceed 3 months but do not exceed the SCP correction period. (Appendix A, Section .05(9)) The employer will make a QNEC equal to 25% of the missed deferral for this eligible employee. This employee is not catch-up eligible.

The question--does Rev. Proc. 2021-30 require a QNEC for the pre-tax contribution and another QNEC for the Roth contribution? I think it does, but my colleagues do not.

The eligible employee is a non-highly compensated employee. The average of the ADP for the group of non-highly compensated employees is 2.25% Since the plan permits both pre-tax contributions and Roth contributions, I think that the employer makes a QNEC of .5625% of this employees' 2021 compensation for the missed pre-tax contribution and a QNEC of .5625% of this employee's 2021 compensation for the missed Roth deferral. (Compensation as defined in the plan document.) Do you agree?   

Thank you for any insight you can provide for this question. 

I've wondered, too, why nobody's brought this up for confirmation via public comments to the IRS.  Seems like plans offering both would have to pay double compared to those that only allow pre-tax.

4 hours ago, DJL said:

The average of the ADP for the group of non-highly compensated employees is 2.25% Since the plan permits both pre-tax contributions and Roth contributions, I think that the employer makes a QNEC of .5625% of this employees' 2021 compensation for the missed pre-tax contribution and a QNEC of .5625% of this employee's 2021 compensation for the missed Roth deferral. (Compensation as defined in the plan document.) Do you agree?   

Thank you for any insight you can provide for this question. 

EPCRS and the ADP test are blind to whether a deferral is pre-tax or ROTH eligible, and combine all deferrals into one calculation.  The QNEC is an employer allocation(and therefore pre-tax); it will go into an 100% vested Employer source(even if the Plan does not have another Employer source the document allows for QNECs by default), not the deferral source.  If the ADP is 2.25% then 25% is .5625%, doing both as you describe would be a 50% QNEC.

Thank you, Bri and Nate S.

Bri--that is what I thought. To my mind, then, the IRS intends that each contribution type be corrected.

Nate S--I agree that the ADP test is blind to whether the deferral is pre-tax or Roth eligible. That's why the result I suggest looks strange.

I feel strongly that we need to give the client this information, to decide how to correct. In my opinion, since the participant is a non-highly compensated employee and the amounts are relatively small, it would be good insurance to correct for both.

Thank you both, again, for your comments.