Defined Contribution Plans

Defined Contribution Plans

A defined contribution plan defines the contribution the company will make to the plan and how the contribution will be allocated among the eligible employees. Separate account balances are maintained for each employee. The employee's account grows through employer contributions, investment earnings and, in some cases, forfeitures (amounts from the non-vested accounts of terminated participants). Some plans may also permit employees to make contributions on a before-and/or after-tax basis.

Since the contributions, investment results and forfeiture allocations vary year by year, the future retirement benefit cannot be predicted. The employee's retirement, death or disability benefit is based upon the amount in his account at the time the distribution is payable.

Employer account balances may be subject to a vesting schedule. Non-vested account balances forfeited by terminating employees can be used to reduce employer contributions or be reallocated to active participants.

The maximum annual amount that may be credited to an employee's account (taking into consideration all defined contribution plans sponsored by the employer) is limited to the lesser of 100% of compensation or $49,000 for 2011 and $50,000 in 2012.

The maximum employer tax deduction limit must also be taken into consideration. Employer contributions cannot exceed 25% of the total compensation of all eligible employees. For example, a company with only one employee earning $100,000 in 2012 would have a maximum deductible employer contribution of $25,000 (25% of $100,000). However, the employee could also make a $17,000 401(k) contribution to the plan. As a result the total amount credited to his account for the year would be $42,000 (42% of his compensation), and he would meet the 2012 maximum annual limit since total contributions are less than $50,000. 

Profit Sharing Plans

The profit sharing plan is one of the most flexible qualified plans available. Company contributions to a profit sharing plan are usually made on a discretionary basis. Each year the employer decides the amount, if any, to be contributed to the plan. For tax deduction purposes, the company contribution cannot exceed 25% of the total compensation of all eligible employees.  The maximum eligible compensation that can be considered for any single employee is $245,000 in 2011 and $250,000 in 2012.

The contribution is usually allocated to employees in proportion to compensation and may be allocated with Social Security, resulting in larger contributions for higher paid employees.

Age-Weighted Profit Sharing Plans: Profit sharing plans may also use an age-weighted allocation formula that takes into account each employee's age and compensation. This formula results in a significantly larger allocation of the contribution to employees who are closer to retirement age. Age-weighted profit sharing plans combine the flexibility of a profit sharing plan with the ability of a pension plan to skew benefits in favor of older employees.

More and more employees perceive 401(k) plans as a valuable benefit which have made them the most popular retirement plans today. Employees can benefit from a 401(k) plan even if the employer makes no contribution. Employees voluntarily elect to make pre-tax contributions through payroll deductions up to an annual maximum limit  ($16,500 in 2011 and $17,000 in 2012). 

The plan may also permit employees age 50 and older to make additional "catch-up contributions" up to an annual maximum limit ($5,500 in 2011 and 2012).

Often the employer will match some portion of the amount deferred by the employee to encourage greater employee participation, i.e., 25% match on the first 4% deferred by the employee. Since a 401(k) plan is a type of profit sharing plan, profit sharing contributions may be made in addition to or instead of matching contributions. Many employers offer employees the opportunity to take hardship withdrawals or borrow from the plan.

Employee and employer matching contributions are subject to a special nondiscrimination test which limits how much the group of employees referred to as "Highly Compensated Employees" can defer based on the amount deferred by the "Non-Highly Compensated Employees." In general, employees who fall into the following two categories are considered to be Highly Compensated Employees:

• A more than 5% owner of the employer at any time during the current plan year or preceding plan year (stock attribution rules apply which treat an individual as owning stock owned by his spouse, children, grandchildren or parents); or
• An employee who received compensation in excess of the indexed limit in the preceding plan year ($110,000 for 2011 and $115,000 for 2012). The employer may elect that this group be limited to the top 20% of employees based on compensation.

401(k) Safe Harbor Plans:  The plan may be designed to satisfy "401(k) Safe Harbor" requirements (certain minimum employer contributions and 100% vesting of employer contributions) which can eliminate nondiscrimination testing. The benefit of eliminating the testing is that Highly Compensated Employees can defer up to the annual limit ($16,500 in 2011 and $17,000 in 2012) without concern for what the Non-Highly Compensated Employees defer. 

New Comparability Plans 

These plans, sometimes referred to as "cross-tested plans," are usually profit sharing plans that are tested for nondiscrimination as though they were defined benefit plans. By doing so, certain employees may receive much higher allocations than would be permitted by standard nondiscrimination testing. New comparability plans are generally utilized by small businesses who want to maximize contributions to owners and higher paid employees while minimizing those for all other employees.

Employees are separated into two or more identifiable groups such as owners and non-owners. Each group may receive a different contribution percentage. For example, a higher contribution may be given to the owner group than the non-owner group, as long as the plan satisfies the nondiscrimination requirements.   

Defined Contribution Plan Recordkeeping and Administration

We perform the following services in order to provide smooth and efficient plan operation:

• Calculate employee eligibility and plan entry.
• Maintain participant vested percentage records.
• Process each payroll, allocating contributions and loan payments according to the participant's investment elections, if applicable.
• Process fund transfers in accordance with participant elections.
• Determine eligibility for allocation of employer contributions and forfeitures.
• Allocate employer and employee contributions.
• Allocate plan earnings.
• Allocate forfeitures, if applicable.
• Distribution processing: Calculation of distribution amount, preparation of required distribution notices and release forms.
• Loan processing: Set up of loan accounts, preparation of promissory note and amortization schedule and tracking loan repayments.
• Hardship withdrawal processing: Determination of hardship distribution amount and preparation of application forms.
•   Monitor participants who are required to receive age 70½ distributions.