To assist employers correctly administer their 401(okay) plans, in 2022, Foley & Lardner LLP is authoring a collection of month-to-month 401(okay) Compliance Checks. This text discusses the IRS limits on 401(okay) plan contributions and the way plan sponsors can deal with conditions the place a participant’s contributions exceed these limits.
In final month’s 401(okay) compliance test, we mentioned the timing guidelines for correctly modifying 401(okay) plans. This month, we concentrate on the IRS limits on the utmost quantity that may be contributed to a 401(okay) plan in the course of the 12 months and what plan sponsors can do if contributions from a participant exceeds these limits.
Why is that this matter vital?
Rolling over cash into an account-based retirement plan on an annual foundation is without doubt one of the greatest issues an worker can do for his or her monetary well-being. On the planet of 401(okay) plans, nonetheless, you may have an excessive amount of of this good factor.
Though the Inner Income Service (IRS) has taken steps to help employers who undertake plans that encourage member participation (for instance, see 401(okay) Compliance Test #3, which discusses extra versatile correction guidelines accessible for plans with auto-enrollment options), the Inner Income Code (Code) nonetheless imposes strict limits on the quantity a person is allowed to contribute to tax-paying preparations. worthwhile in the course of the 12 months. Failure to stick to those limits ends in double taxation for the affected person and should jeopardize the tax qualification of a 401(okay) plan. This compliance test explains these limits, how they apply, and the implications of not complying with them.
What’s the annual elective deferral restrict?
Part 402(g) of the Code limits the quantity of annual elective deferrals a person could make in numerous retirement plans, together with employer-sponsored 401(okay) and 403(b) plans, SAR-SEPs and SIMPLE-IRAs. For 2022, this restrict for 401(okay) and 403(b) plans is $20,500. For 2022, this restrict for SIMPLE-IRAs is $14,000.
If a 401(okay) plan permits catch-up contributions for individuals age 50 and older underneath Part 414(v) of the Code, these individuals are additionally allowed to contribute an extra $6,500 as catch-up contributions. in 2022 (for a complete contribution of $27,000).
Which contributions rely in direction of this restrict?
For this function, elective deferrals embody pre-tax deferrals and Roth contributions. Conventional after-tax contributions don’t rely in direction of the annual elective deferral limits, however have to be considered for the aim of calculating the overall contribution restrict underneath Part 415 of the Code.
When does this most frequently develop into an issue?
In our expertise, people most frequently exceed the Code Part 402(g) restrict within the following circumstances:
- The 401(okay) plan record-keeping service will not be configured to robotically cease contributions to a single plan or a number of plans sponsored by associated employers. For instance, a member underneath age 50 who has eligible earnings of $200,000 and chooses to hold ahead 15%, however their contributions usually are not stopped robotically when the member has contributed $20,500 (in 2022).
- People carry over to a number of preparations in the identical 12 months. For instance, an individual underneath age 50 who works for employer A for the primary three months of the 12 months and contributes $6,000 to employer A’s plan and $18,000 to employer B’s plan. On this case, regardless that Employer B’s plans robotically cease contributions to Employer B’s plan on the 402(g) restrict, Employer B wouldn’t know that the individual has already contributed $6,000 to the plan. of Employer A that 12 months and due to this fact would enable the person to remit the complete $18,000 contribution.
How is that this corrected?
A participant who makes extra carryovers will likely be topic to double taxation on the quantity of the surplus (within the 12 months the contributions are made and the 12 months during which they’re lastly distributed), except the surplus contributions, plus quantities earned on extra carryforwards in the course of the calendar 12 months, are distributed to the participant no later than April 15 following the 12 months throughout which which the surplus carryovers have been made. Word that underneath present IRS guidelines, quantities earned on extra carryforwards in the course of the “hole interval” between the tip of the calendar 12 months and April 15 don’t have to be distributed.
Usually, if this error happens in a single plan (as within the first circumstance described above) or in a number of plans sponsored by associated employers, then the plan takes duty for processing and distributing the surplus carry forwards. earlier than the deadline. Alternatively, if the surplus pertains to a couple of plan or association maintained by unrelated employers (as within the second circumstance described above), then 401(okay) plans typically require the participant to affirmatively declare the surplus to the plan from which the participant needs to take the corrective distribution.
What’s a handy takeaway?
If your organization sponsors a 401(okay) plan, you’ll want to (i) double-check that your programs successfully observe carryover limits all year long, for all associated plans and (ii) verify that plan communications clearly clarify the method for members to report extra carryovers and embody a deadline that permits sufficient time for the plan to fulfill the April 15 distribution deadline.