What is the correct information to provide?
Generally speaking, we’ll always need gross compensation for all employees for the year and possibly additional amounts.
Compensation is perhaps the most important information needed to administer a plan correctly. The plan document defines compensation used for contribution allocation and compliance testing purposes. The following topics describe the specific types of compensation that may need to be provided to TSC for accurate plan administration. This information is part of the annual TSC year-end information request which includes a Year-End Questionnaire and the Year-End Employee Census Information form or spreadsheet.
Generally, gross compensation is the amount reported in Box 1 of an employee’s Form W-2 plus pre-tax 401(k), 457, 403(b), and Section 125 (cafeteria plan) deferrals. If you employ a payroll service provider, they will likely have a report that contains this information.
Special situation – Post-Severance Pay and Severance Pay:
- Any Post-Severance Pay paid within the later of 2½ months after the severance of employment or the end of the plan year that includes the date of severance of employment should be added to the reported gross wages.
- However, Severance Pay (compensation not related to services performed) is not considered compensation for plan purposes and should be deducted from the reported gross wages.
Entry Date Compensation
A plan may exclude compensation paid prior to an employee’s entry date into the plan. Entry date compensation for an employee’s initial year of plan participation begins on the date the newly-eligible employee may first begin participating in the plan and ends on the last day of the plan year.
For Example: A plan’s entry dates are January 1 and July 1. An employee met the eligibility requirements on April 20 and began making 401(k) salary deferrals on July 1. For this employee, their entry date compensation to report to TSC is the gross compensation paid during the period July 1 – December 31.
Note: In the above example, the employee started contributing on their entry date. However, had the employee not begun contributing until a later date, the entry date compensation for employer contributions would still be compensation from July 1 – December 31.
Certain forms of compensation may be excluded for plan purposes and must be specifically described in the plan document. The excluded compensation cannot discriminate in favor of Highly Compensated Employees and additional testing is required to determine that.
Other Compensation: Sole Proprietor, Partnership, and Limited Liability Companies
Contribution rates for partners or a sole proprietor are dependent on the amount of their earned income reduced by employer contributions and ½ of the self-employment tax. It is important to report to TSC the earned income amount determined before any reductions for employer contributions and the self-employment tax. TSC calculates the circular formula with the earned income. If an owner-employee has both W-2 reportable income and earned income, only W-2 earnings should be reported on the Year-End Employee Census Information form or spreadsheet. Earned income before any reductions should be reported to TSC on the Year End Questionnaire.
Depending on the type of federal tax filer, IRS reporting forms provide the necessary information to report on the TSC Year End Questionnaire. Note that the amounts reported should be the amounts before reductions for employer contributions to the plan.
- For a partnership or a limited liability company treated as a partnership: net earned income from self-employment is usually the amount listed on Form 1065, Schedule K-1, box 14, code A.
- For a sole proprietor: the preliminary amount on Line 31 of Schedule C is the earned income amount to report.