414(s) Compensation Test on Deferrals

I have a plan failing the 414(s) Compensation Test.  They only have deferrals and I am already assuming a 3% De Minimis percentage.

I'm not sure how to correct this since it's not affecting employer contributions.

Would the employer be responsible for "missed deferrals" on the bonus amounts?  Or, if the plan passes the Average Benefit Percentage test will it be deemed to pass?  I'm seeing both options on-line.  We don't have any resource sites or materials in our office to rely on.

Any help/guidance you can provide would be greatly appreciated.

Do your actual testing with a definition that does pass 414(s) then, even if the allocations were done with the comp definition you were given.  If you can pass with gross 415 pay, for instance since that passes 414(s), then you should be in the clear.

I think you do ADP testing using gross (or some other safe harbor definition of) compensation and then, if failing, correct on that basis and ignore the definition of plan compensation for such purposes.

I don't think you guys are understanding my question.  I have already retested the ADP using gross compensation.  It fails slightly but not too bad.

The employer did not let their employees defer on bonuses.  This is ok as long as they can pass the 414(s) test, which they are not passing.  I can't go back and change this to gross since that is not what actually happened.  I think the employer has to make up for the "missed deferrals" that were not allowed on the bonuses.  Has anyone run into this situation before?

You crafted your question as a testing issue, but are you now saying the plan's definition of compensation includes bonuses but deferrals were not taken from bonuses? That is an operational defect that needs to be fixed - not a 414(s) test nor ADP test issue and would not matter if either of those tests passed, you'd still have a defect needing to be fixed.

Stated differently, the definition of compensation used for deferrals only has to be reasonable unless it's applying the default % under a QACA. As CuseFan pointed out, this may be an operational issue depending on how the plan defines compensation for deferral purposes. If the plan excludes bonuses for deferral purposes, then there is no operational error, even if the definition of comp for that purpose doesn't satisfy 414(s). Of course you must use a definition of compensation that satisfies 414(s) for ADP testing purposes, but that's a separate issue. 

I have a client that faces this issue every year due to their compensation definition excluding bonuses and overtime.  They fail the ADP test and look to the 414(s) test to see if they can pass.  They fail the 414(s) test by a small amount and then process corrective distributions to the HCE's until they can pass they test.   This avoids the need for a QNEC or other employer corrective contribution being required.     

Interestingly, last year, the client was subjected to an IRS plan audit because the corrective distributions exceeded $50,000 for the plan year (due to layoffs).  The IRS currently has an initiative underway to audit all plans that issued corrective distributions in excess of $50,000 for a plan year.  One final finding of the audit was the IRS auditor directed the plan to run an annual 414(s) test and to take corrective actions to pass the test.  The plan recordkeeper does not want to run the test as they are only set up operationally to run the test every three years. 

Bottom line - this client felt the best option for them was corrective distributions for the HCE's until the 414(s) test can be passed.  Changing the definition of compensation to include bonuses and overtime was determined to be too costly from a matching contribution perspective.  Hope that helps. 

It has always been my understanding that the ADP test is the sole means of satisfying nondiscrimination requirements for deferrals. Compensation for the ADP test must satisfy 414(s). So a failing 414(s) test in a deferral only plan simply means you can't use the plan's definition of compensation for deferral purposes when performing the ADP test.