Other Documents "Exclude" Compensation

I've seen this a number of times in all sorts of contexts, and can never quite bring myself to accept that it works. 

Say an employer has a 401(k) plan that defines "compensation" as W-2 wages with no exclusions. They also have some other type of plan (call it incentive compensation; long-term performance plan; performance-based bonuses; employment contract giving an executive a bonus as a percentage of division's profit; etc.) that gives employees what are essentially cash bonuses, however labeled, that are clearly W-2 wages in the year paid. The other plan or agreement in the boilerplate then says something along the lines of "any amount paid under this plan/agreement shall not be included for any other purpose, including any pension plan, etc..."

Is there any reasonable argument to be made that you can exclude the payment for purposes of the 401(k) compensation? 

No, the language in another plan, whether qualified or non-qualified (as is your example) cannot override the language in the 401(k) plan with respect how it should operate. For example, an employment agreement some new employee signs says he will be immediately eligible for the retirement plan while the plan document says there is a one year wait - which do you follow? The plan document. If this employer wants to exclude that income from the 401(k) plan compensation definition then it must do so by modifying that plan document, not some other plan document.

That's my position as well. Just wanted to see if anyone knew of any theory under which this was permissible. I've seen it in plans drafted by competent people, even in some included in public company disclosures. 

The question here is "what terms are included in the 401(k) plan document?" 

In the example you gave, I would question whether the subsequent document was amended in the manner required under the 401(k) plan document.  I would also question whether it was indeed the employer's intention to amend the plan document at all.  If that was not the intent, then you would arguably have good reason for ignoring the parol document. 

However, given that the documents both reference the same plan and are in apparent conflict with each other, an argument could always be made that there is an ambiguity that needs to be resolved.  Just goes to show how important it is to consider all the terms of every employment-related contract in light of the ERISA plans.

My gut reaction is however in line with the thoughts expressed above. 

I agree with all above and suspect this was written with a DB plan in mind not a 401(k).  Still a problem but at least for a more rational reason.

3 hours ago, JamesK said:

The question here is "what terms are included in the 401(k) plan document?" 

In the example you gave, I would question whether the subsequent document was amended in the manner required under the 401(k) plan document.  I would also question whether it was indeed the employer's intention to amend the plan document at all.  If that was not the intent, then you would arguably have good reason for ignoring the parol document. 

However, given that the documents both reference the same plan and are in apparent conflict with each other, an argument could always be made that there is an ambiguity that needs to be resolved.  Just goes to show how important it is to consider all the terms of every employment-related contract in light of the ERISA plans.

My gut reaction is however in line with the thoughts expressed above. 

This was the only line of reasoning I could think of--that the employer explicitly or implicitly amended the 401(k) plan with the other document--but I just can't imagine it ever actually working in practice (board resolution; SMM; including in determination letter application/plan restatement if individually designed 401(k); etc.) If the true intent was to amend the 401(k) plan, they would have--and should have--just amended the 401(k) plan to exclude that category of pay. 

I have had similar situations. Generally agree with the other answers, BUT:

1) If the employer has uniformly excluded the amounts in operating its 401(k) plan, in all years, AND there is some arguable basis in the plan document for the exclusion (e.g., the plan document doesn't flat out say all Box 1 W-2 is 401(k) comp, but has some exclusion such as "fringe benefits," or says that 401(k) comp is "based on" Box 1 W-2, then the argument can be made that the additional pay is considered by the employer to be a "fringe benefit" or some other adjustment. Believe me, notwithstanding Section 132, there is no uniform definition of "fringe benefit." But if the plan document just says "Box 1 W-2 with deferrals, etc. added back," this argument is not going to work, because IRS will say that the employment contract, bonus plan document, or whatever, does not amend the plan, and you have to follow the plan, just as previously stated.

2) It may be possible to get a correction in VCP of retroactively amending the plan document to exclude the amounts from compensation. What I think you would need to show IRS is that every employee who had the amounts excluded was fully aware that they would be excluded. Every situation is unique, but I believe that with the right facts (again, primarily that all the employees who had the exclusion were fully informed of the employer's intent to exclude the comp for 401(k) purposes), you might get a retro amendment in VCP.

Interesting point, thanks. I like the fringe benefit argument--my half-joking response to whether odd types of pay are "fringe benefits" usually is "do you want them to be?" Like you said, though, I suspect that most plans define W-2 wages pretty narrowly in the 401(k).

I happen to have our firm's pre-approved Relius documents sitting on my desk and they define it as all wages under 3401(a) and any other item of compensation paid that is required to be reported on a W-2. Assuming the plan uses this definition and doesn't exclude fringe benefits or any other category that may apply, I think you would be stuck. 

Yeah, as I recall, the only general difference between 3401 and W-2 is that excess group term life insurance is excluded under 3401, and there's possibly something funky on the W-2 exclusion regarding certain stock options - I'd have to look that one up, as I don't recall off the top of my head.

Agreed, you seem to be stuck, but VCP may be an option if enough at stake and employer was 100% consistent in how it handled and employees had full disclosure. Fix immediately going forward by amending plan doc or including the amounts in calculating contributions.