401(k) Plans - Deferrals and matching when compensation exceeds the annual limit
Unless your plan terms provide otherwise, the salary (elective) deferral limit is applied uniformly to the compensation that the employee receives throughout the year.
Compensation and contribution limits are subject to annual cost-of-living adjustments. The 2014 annual limits are:
- salary deferrals - $17,500, plus $5,500 catch-up contributions if the employee is age 50 or older (IRC sections 402(g) and 414(v))
- annual compensation - $260,000 (IRC section 401(a)(17))
- total employee and employer contributions plus forfeitures - the lesser of 100% of an employee’s compensation or $52,000, plus $5,500 catch-up contributions if age 50 or older (IRC section 415(c))
Example: Mary, age 49, whose annual compensation is $360,000 ($30,000 per month), elects to defer $1,458 per calendar month, up to $17,500 for the year. Mary may contribute to the plan until she reaches her annual deferral limit of $17,500 even though her compensation will exceed the annual limit of $260,000 in September.
Employer matching contributions
If your plan provides for matching contributions, you must follow the plan’s match formula.
Example: Your plan requires a match of 50% on salary deferrals that do not exceed 5% of compensation. Although Mary earned $360,000, your plan can only use up to $260,000 of her compensation when applying the matching formula for 2014. Mary’s matching contribution would be $6,500 (50% x (5% x $260,000)). Although Mary makes salary deferrals of $17,500, only $13,000 (5% of $260,000) will be matched. She must receive a matching contribution of $6,500 (50% x $13,000) under the terms of the plan.
What does your plan say?
Although not common, a plan can specifically require that salary deferrals cease once a participant’s compensation reaches the annual limit.
If your plan specifies that salary deferrals be based on a participant’s first $260,000 of compensation, then you must stop allowing Mary to make salary deferrals when her year-to-date compensation reaches $260,000, even though she hasn’t reached the annual $17,500 limit on salary deferrals, and must base the employer match on her actual deferrals.
- Retirement Topics – Contributions
- FAQs: Contributions
- Publication 560, Retirement Plans for Small Business (SEP, SIMPLE, and Qualified Plans)