Logo
     
   
Even when using the “top-paid group election” to determine highly compensated employees, the 5% owners rule must be considered since 5% owners may not be in the top 20% group. How can these rules be reconciled?
Rev. 12/11/07, Rev. 07/09/04, E-mail Alert 2004-14


The highly compensated group consists of individuals who own more than 5% of the business entity in either the current plan or the prior year, and employees who received compensation in excess of $80,000 (as indexed—$110,000 in 2009) in the prior plan year. The top-paid group election permits the employer to limit the highly paid group to owners and the top 20% of employees when ranked by compensation.

An employee is a member of the top-paid group if he or she is among the highest paid 20% of all employees.

For purposes of applying the 20% rule (i.e. determining the size of the group, but not who is actually in the group), the following employees are excluded:

1.
   Employees with less than 6 months of service;
2.
   Part-time employees (less than 17½ hours per week);
3.
   Seasonal employees who normally work less than 6 months during the year;
4.
   Employees under the age of 21;
5.
   Nonresident aliens without U.S. source income; and
6.
  
Collective bargaining agreement employees, if they represent 90% or more of all employees and none of the collective bargaining employees are benefiting under the plan.
     

The employer may adopt any tie-breaking rules it desires where two or more employees have the same compensation. Such rules must be reasonable, nondiscriminatory and uniformly and consistently applied.

 
EXAMPLE 1
Law Firm Employee Data for 2009
20 Eligible Employees in Firm
               
     
Prior Year Compensation
HC
HC/Top 20%
1.
   Senior Partner
$300,000
  
X
  
X
2.
   Senior Partner
$250,000
  
X
  
X
3.
   Partner
$200,000
  
X
  
X
4.
   Partner
$180,000
  
X
  
X
5.
   Associate
$130,000
  
X
  
6.
   Associate
$120,000
  
X
  
7.
   Paralegal
$101,000
      

8.

 

through 20 are Staff

Less than $60,000

      
Total HCEs    
6
4
 


Top 20% calculation: Total eligible employees 20 x 20% = 4 (Total HCEs)
   

EXAMPLE 2

Using the same demographic as above, with a change in the status of employee 7, who, in this example, has a 6% ownership in the firm (possibly due to family attribution).

In that case, using the HCE definition, there would be 7 HCEs.

Using the top-paid group election, we would count the top 4 compensated employees as we did in example 1. However, in addition, we would also have to count the 5% owner as an HCE, and thus, have a total of 5 HCEs.

 

 

To learn more, call 973-492-1880 or e-mail info@mhco.com.

© 2012, McKay Hochman Co., Inc. All rights reserved.