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Can someone explain the highly compensated employee 401k rule
Posted on 6/29/15 at 10:49 pm
Posted on 6/29/15 at 10:49 pm
For the last three years my pretax contributions have been capped at 12% by my employer. Because of this I fall short of the pre tax max every year now. What's the point of having a limit if I'm not even allowed to get to it and how is this legal?
4
Posted on 6/29/15 at 11:02 pm to jmh5724
quote:LINK
The test is as follows: the average contributions of highly compensated employees, as a group, cannot exceed the average contributions of nonhighly compensated employees, as a group, by more than about 2 percent. (Age-50 catch-up contributions are not included in discrimination testing.)
It's supposed a way to make sure companies aren't offering 401ks to only the top earners. However, if the low earners aren't taking advantage of the 401k, then the HCE's get screwed.
Posted on 6/29/15 at 11:05 pm to jturn17
quote:
It's supposed a way to make sure companies aren't offering 401ks to only the top earners. However, if the low earners aren't taking advantage of the 401k, then the HCE's get screwed.
This. I see the point but every year I take it up the arse due to this rule.
Posted on 6/29/15 at 11:07 pm to foshizzle
What's really mind boggling is my roth contributions are combined with my pretax for a 12% total.
Posted on 6/29/15 at 11:48 pm to jmh5724
quote:
What's really mind boggling is my roth contributions are combined with my pretax for a 12% total.
I don't follow - what am I missing -
Your getting screwed right?
Posted on 6/30/15 at 6:43 am to jmh5724
I really dislike this rule. It really screws people who are just trying to ensure a good retirement.
Posted on 6/30/15 at 7:02 am to LigerFan
quote:
I really dislike this rule. It really screws people who are just trying to ensure a good retirement.
Blame your company then. The rule is fine, it is your company's mismanagement of the 401k system that is screwing you and others over.
Posted on 6/30/15 at 7:24 am to LigerFan
They aren't stopping you from saving moeny just pre-tax money (it can go into an after tax brokerage account). Also, you can look into a traditional IRA but may be subject to limitations depending on your income and the fact that you are covered by your employers plan.
The ADP/ACP test is complicated but fair and well intended.
The ADP/ACP test is complicated but fair and well intended.
Posted on 6/30/15 at 7:38 am to Jabstep
quote:The rules are complicated and well intended, but they are not fair. When is it fair to have someone's taxable income determined by the decisions of other people acting in what they perceive to be their own self-interest? Would you like your taxable income to be dependent on a decision I make, or the other posters' on this board make collectively?
The ADP/ACP test is complicated but fair and well intended.
Posted on 6/30/15 at 7:42 am to Jabstep
The tax advantages of saving in a 401k aren't really seen by the lower income segments of the population.
For example, consider the two following people who make IDENTICAL contributions and will make IDENTICAL withdrawals from a 401k
1) Married single income earns $65k/year
2) Single earns $210k/year
If both 1) & 2) make identical $15k contributions every year to a 401k here is the tax savings
TAX SAVINGS on $15k contribution
1) ~15% Fed + ~5% State = approx $3000
2) ~33% Fed + ~5% State = approx $5700
So despite both people making the same great decision to save for retirement, and both people saving the exact same amount, one person gets an absurd amount of benefit more than the other. Considering everything else is equal, there is never a point where these savings become equal as withdrawals are taxed identically. One of the few instances where "I'm not rich enough to get a tax break" is actually legit
The HCE test is designed to encourage employers to make their plans attractive to lower income employees. Typically they have to do that by adding money from the employers end rather than asking the employee to take away from their wages with things like safe harbour contributions, good matching programs + auto enrollment.
For example, consider the two following people who make IDENTICAL contributions and will make IDENTICAL withdrawals from a 401k
1) Married single income earns $65k/year
2) Single earns $210k/year
If both 1) & 2) make identical $15k contributions every year to a 401k here is the tax savings
TAX SAVINGS on $15k contribution
1) ~15% Fed + ~5% State = approx $3000
2) ~33% Fed + ~5% State = approx $5700
So despite both people making the same great decision to save for retirement, and both people saving the exact same amount, one person gets an absurd amount of benefit more than the other. Considering everything else is equal, there is never a point where these savings become equal as withdrawals are taxed identically. One of the few instances where "I'm not rich enough to get a tax break" is actually legit
The HCE test is designed to encourage employers to make their plans attractive to lower income employees. Typically they have to do that by adding money from the employers end rather than asking the employee to take away from their wages with things like safe harbour contributions, good matching programs + auto enrollment.
This post was edited on 7/1/15 at 6:50 am
Posted on 6/30/15 at 7:46 am to Poodlebrain
My wife and I are both capped at 6%. I need to look into some other form of investment because 6% isn't going to get it done.
This post was edited on 6/30/15 at 7:47 am
Posted on 6/30/15 at 8:02 am to GenesChin
quote:I agree with everything you're saying, but it doesn't always help or work. My Fiance's company matches 100% up to 6% total salary, and she's still limited. I'm not sure they do auto enrollment though.
The HCE test is designed to encourage employers to make their plans attractive to lower income employees. Typically they have to do that by adding money from the employers end rather than asking the employee to take away from their wages with things like safe harbour contributions, good matching programs + auto enrollment.
I'm okay with the system, but it's not perfect. There are circumstances where there's nothing you can do to make low-middle income people save in their 401k.
Posted on 6/30/15 at 8:04 am to jmh5724
Ask your employer to look into safe harbor plans
Posted on 6/30/15 at 8:27 am to yellowfin
Can anyone explain why my roth contributions would be tied to pretax under this rule
Posted on 6/30/15 at 8:28 am to GenesChin
quote:
Blame your company then. The rule is fine, it is your company's mismanagement of the 401k system that is screwing you and others over.
I've never had a problem with this personally, but I audit 401(k) plans so I'm pretty exposed to it. Like someone else mentioned, I don't like that one person's retirement can be affected by another person's decision.
Posted on 6/30/15 at 8:38 am to LigerFan
quote:
I've never had a problem with this personally, but I audit 401(k) plans so I'm pretty exposed to it. Like someone else mentioned, I don't like that one person's retirement can be affected by another person's decision.
This is an absurd statement. Any company can offer Safe Harbor plans etc that can mitigate the risk of failing discrimination tests. The required contributions by the employer would amount to either 3% of salary mandatory or for participation method, 100% of up to 3% of salary + 50% from anything above 3% up to 5%
Truth is, employers use low income employees as scape goats and have no problem with not having 100% participation as it saves them money. That or the more embarrassing option which is that they are not informed about Safe Harbour as it is an easy way to guarantee near 100% participation
It is crazy to think that there is a retirement program in which people making identical financial contributions into the same company sponsored retirement plan can result in one person seeing tax savings in excess of the other person of $180,000 over 30 years
This post was edited on 6/30/15 at 8:44 am
Posted on 6/30/15 at 8:45 am to GenesChin
I was unaware that employees were prohibited from earning more money during their careers.
The more you know.
The more you know.
Posted on 6/30/15 at 8:49 am to Teddy Ruxpin
quote:
I was unaware that employees were prohibited from earning more money during their careers.
The more you know.
The tax savings benefits from a company sponsored retirement plan shouldn't be subject to income level.
This post was edited on 6/30/15 at 9:01 am
Posted on 6/30/15 at 9:29 am to Poodlebrain
I meant fair in the respect that your employer doesn't create a plan to only benefit highly compensated employees. So if you're going to have a plan, it is intended to benefit all eligible employees, not a select few. If the company does a good job of educating the participants and matching contributions, these issues resolve on their own.
In my assessment of "fair" was the traditional IRA option as well (although it can be limited as well).
In my assessment of "fair" was the traditional IRA option as well (although it can be limited as well).
Posted on 6/30/15 at 10:13 am to jmh5724
quote:
Can anyone explain why my roth contributions would be tied to pretax under this rule
Simple answer: Because the test is based on total contributions from salary, not tied to Roth or non-Roth.
Real answer: Because when Roth 401Ks were created, no one updated the testing rules (either by design or neglect).
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