Nondiscrimination Testing- Compliance for Employee Benefit Plans
Basic nondiscrimination testing – 410(b) and 401(a), is required for defined contribution plans but how do Plan Sponsors address them once the plans failed those tests?
To determine that an employee benefits plan is operating within the specific guidelines established by the plan document in accordance with the IRC, certain non-discrimination and other compliance tests are required to be performed at least annually – defined contribution plans are not exceptions.
Normally, two basic nondiscrimination testing which 401(k) plans usually conducting yearly are:
- minimum coverage test (IRC Section 410(b)) | concerns only with whether an employee is covered by the plan
- non-discrimination test (IRC Section 401(a)) | requires that the contributions or benefits provided under the plan not discriminate in favor of highly compensated employees.
If a plan fails these tests, there are two remedies Plan Sponsors can consider:
Corrective Remedy: Plan Sponsors should immediately refund excess contribution to participants within 2 ½ months after the end of the plan year which is being tested to correct excess contributions. The Plan Sponsor may also correct this via EPCRS program. If beyond the window of 2 ½ months, the Plan Sponsors will be liable for a 10% excise tax on excess contribution.
Preventive Remedy: Plan Sponsors should regularly review Plan documents and adopt any possible amendment to make sure the Plan is operating in no favor of HCEs over NHCEs in terms of contributions and benefits provided to participants. In other words, Plan Sponsors should balance the scale of two groups of employees: HCEs and NHCEs in terms of contribution matching and benefits provided to each group. This helps Plan Sponsors to ensure the Plan’s qualified tax status is maintained consistently but also avoids unnecessary corrective steps later on.
As a senior manager on our employee benefit plan assurance team, Sharjeel has more than a decade of experience in accounting and financial audits for a variety of industries and employee benefit plans. He has planned and supervised numerous audits of defined contribution (401(a), 403(b), 401(k)) plans (including plans requiring Form 11-K filings), defined benefit (traditional pension and cash balance) plans, health and welfare plans, and master trust investment accounts. Sharjeel leads the Form 5500 preparation services and has assisted several clients with the DOL & IRS voluntary correction programs.