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By: Ted Benna Creator of the first 401(k) plan |
February 7, 2002
This Week, Ted Tackles:
Might I forfeit my unemployment insurance if I initiate a rollover from my 401(k) plan? ý If you're a highly compensated employee (HCE) one year, but take a pay cut the next year, can you avoid the HCE contribution limits in the year you earn less? ý Can you explain the catch-up contribution rules? ý Can a new employee roll money from his old 403(b) plan into our 401(k) using a check dated December 2001?
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Q: When an employee is laid off or terminated and
initiates a rollover from his or her employer-sponsored retirement plan, could he or she
forfeit or become disqualified for unemployment insurance? If the answer is yes, please
provide a source where I may find more information.
TB: I don't know much about unemployment insurance
but I don't think a rollover should have any impact on your eligibility for unemployment
benefits. However, it would be best to check with your local unemployment office.
Q: What happens if I earned more than $85,000 in a year
but then took a salary cut the next year, putting me well below the $85,000 limit? This
happened to me, affecting my 401(k) contribution maximum and my take-home income, and
sending my taxable income through the roof. Can anything be done to compensate for this?
TB: The year you earned more than $85,000 (for
example, let's say it was 2000) you were classified as a highly compensated employee when
your employer ran its discrimination tests. These tests look at the actual compensation of
employees for a given year (2000) and the results are applied to contributions for the
following year (2001).
This is what happened to you. I suspect you were probably
asked to reduce your contribution rate for 2001 to perhaps only 6 percent or less. To
compound the problem, this 6 percent limit applied to your lower income, perhaps only
$80,000. As a result, you were only able to contribute $4,800 to the 401(k) plan instead
of the $10,500 maximum in 2001, which may have been your goal.
You can't do anything about the lost contribution
opportunity and the adverse tax impact for the year during which you were classified as a
highly compensated employee (2001) but you may be able to make up the lost contribution in
the future. Here are some suggestions:
Because your compensation dropped below $85,000 in 2001,
you are put back into the non-highly compensated category the following year (2002). This
will give you the opportunity to contribute the maximum amount that year. Again, I will
assume you earned less than $85,000 during 2001. This will allow you to contribute the
$11,000 maximum in 2002, plus the $1,000 catch-up contribution if you are age 50 or older
and your employer amends its plan to allow this type of contribution.
Additionally, the compensation threshold for highly
compensated status has been increased to $90,000 in 2002. Both the regular contribution
limit and the catch-up contribution will go up by $1,000 each year after 2002 until they
reach $15,000 and $5,000 during 2006. These changes in the law, which were passed last
year, should give you an opportunity to contribute the amount that you weren't permitted
to put into the plan during the year you were a highly compensated employee.
Q: I have several questions regarding the catch-up
provisions contained in the 2001 tax bill:
1. Do catch-up contributions to a participant's 401(k)
account have to be made by payroll deduction or can other methods of payment be used, such
as writing a check?
2. Are there any requirements or limits as to how much
one can contribute each pay period under the catch-up provisions?
3. Are contributions made on a pretax basis (like the
rest of a participant's contributions) or after taxes?
TB: As many readers know, the 2001 tax bill
contained rules allowing workers age 50 or older to make additional contributions to their
401(k) plans. These are called catch-up contributions. For 2002, the maximum catch-up
contribution allowed is $1,000. But, you may only make catch-up contributions if your plan
amends its rules to permit them. Now, to answer your questions:
1. All pretax contributions must be made via payroll
deduction. Technically, you must actually authorize your employer to reduce your pay by
the amount of your pretax contributions (regular or catch-up) and to contribute this
amount for you to the plan as an employer contribution. This is the only way these
contributions can be made.
2. You are allowed to make a catch-up contribution on top
of your other plan and federal limits. For example, assume your employer lets you
contribute 50 percent of pay up to the $11,000 federal limit. You can contribute the
lesser of 50 percent of your pay for the year or $11,000, then you can also make the
$1,000 catch-up contribution, provided you are at least 50 years old and your employer has
amended its plan to permit these contributions.
You will have to set your payroll deductions at a level
that will enable you to make both these contributions by year-end. Assume you earn $80,000
per year. If you contribute 15 percent of your pay for the entire year, you will hit the
combined $12,000 limit for 2002. The first $11,000 you contribute will be counted toward
the regular limit and any contributions in excess of this amount will be the catch-up
contribution.
3. The catch-up contribution receives the same federal tax
treatment as other pretax 401(k) contributions. However, not all states have made the
necessary changes for the catch-up contribution to be tax-deductible at the state level.
You should still make this contribution even if you aren't able to deduct it at the state
level. For example, Pennsylvania residents such as myself have never been able to deduct
any of their 401(k) contributions from state taxes but this shouldn't stop them from
contributing to these plans. The other benefits are more valuable than the state tax
deduction.
Q: Our company's retirement savings plan is a 401(k).
The new rules in the 2001 tax bill allow 401(k) plans to accept rollovers from 403(b)
plans starting in 2002. An employee brought in a rollover check from a 403(b) dated
December 2001. Can we accept the funds, or does the distribution check have to be dated in
2002 to be accepted?
TB: The language in the model amendment released by
the IRS states that direct rollovers from a 403(b) are to apply to distributions made
after Dec. 31, 2001. Regardless of the date, your plan must be amended to permit direct
rollovers from a 403(b) before you can accept any.
Therefore, a distribution dated Dec. 31, 2001 or earlier
wouldn't appear to be eligible for a direct rollover. That said, the employee could get
his money into your plan using a somewhat circuitous route. He could roll the 403(b)
distribution over into an IRA and from there into the 401(k) if he wanted to do so. He
would have to roll the money into the IRA before the 60-day time period expired.
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Ted Benna, creator of the first 401(k)
retirement savings plan, answers intriguing questions twice a month. With over 40 years of
experience as an employee benefits consultant, Ted is a nationally recognized expert on
benefits issues. He has authored three books, Helping Employees Achieve Retirement
Income Security, Escaping the Coming Retirement Crisis, and Tips for
Successfully Managing Your 401(k), and is President of the 401(k) Association. Ted is
a frequent speaker at meetings of 401(k) plan sponsors and participants. His articles and
comments have appeared in numerous publications, including The New York Times and The
Wall Street Journal. |
 Ted's Table Archives
The information provided here is intended to help you understand the general issue and
does not constitute any tax, investment or legal advice. Consult your financial, tax or
legal advisor regarding your own unique situation and your company's benefits
representative for rules specific to your plan.
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