Compensation considerations for qualified plan sponsors.

• Author: Silverman, Jim

An often overlooked aspect of qualified plan administration is "compensation." At last count, it was conceivable that a qualified plan sponsor might need to deal with as many as eight different definitions of compensation in order to keep a plan qualified.

Compensation can be a problem because (1) most plan documents have not been updated for the most recent IRS regulations, (2) most plan documents do not have one centralized set of definitions, (3) not all definitions of compensation need to appear in the plan document and (4) corporate activities not directly related to the plan, such as adopting a cafeteria plan, can affect compensation for the retirement plans. Most anti-discrimination tests cannot be properly performed unless the administrator has accurate compensation data. Therefore, it is important for both plan design and administration purposes that the sponsor pay careful attention to compensation.

In general, definitions can be divided into two categories, those governed by Sec. 414(s) and those not governed by Sec. 414(s). If a definition is governed by Sec. 414(s), the sponsor must either choose a safe harbor definition under the regulations or establish that its definition is nondiscriminatory. (A complete listing of all of the optional safe harbor definitions is beyond the scope of this item and can be found in TD 8361.)

A plan administrator may need to deal with the following definitions.

* The basic definition for allocating contributions and forfeitures or calculating accrued benefits: In theory, this definition is not governed by Sec. 414(s). However, the actual allocations or accruals must comply with Sec. 401(a)(4), and the Sec. 401(a)(4) testing definition is governed by Sec. 414(s).

* The Sec. 401(a)(4) definition: Plans must comply with the antidiscrimination requirements of Sec. 401(a)(4). There is apparently no requirement that the definition of compensation used for Sec. 401(a)(4) testing appear in the plan document. Furthermore, the sponsor may use different definitions each year or different definitions for different plans, provided that the plans are tested separately.

* The Sec. 415 definition, which governs limits on allocations or benefit accruals. Note that for plan years beginning after 1991, accrued compensation is not counted for Sec. 415 purposes.

* The Sec. 404 definition, which governs limits on tax deductions. Because amounts contributed to fund benefits on annual additions in excess of the Sec. 415...