Discussion:Excess 401(k) Contribution

Client with Excess 401(k) contribution gets refund and makes just under $300 in interest. I may be totaly fried here, and I know where the IRA stuff goes, but where does the 401(k) excess contrib. go?

Thanks,

Mike

By the way the excess contribution was made in 2006, and the interest was also earned in '06, and the check was cut this month.

I run into the similar situation. I just received a 401k rufund (Excess deferrals + earings) for 2006. the check is dated on 3/12/2007, which is before 3/15/2007. The letter says I will not received my 1099-R until Jan 2008 however I should include my refund as 2006 income. So, should I just report the exces deferras in line 7 for 1040 and leave the earnings for the next year?

excess contributions go back to W-2 income

and in next year, you will receive a 1099-R, that you will pay what?????? taxes on interest, amount contributed, ....

Now, if you reread the earlier posts, I am pretty sure it says this same thing, only in different words.

One more thing: if EE and taxguy snooze and the distribution does not come out until after 4/15 (or 4/17, or whatever the correct date is this year) then the excess contribution is includable in 2006 wages (remember, EE contributed more than allowed) and the distribution of principal is taxable again in 2007 upon receipt. PLUS, I think the excess contribution is subject to a 6% excise tax until such time as it is corrected.

You snooze, you looze.

1. distribution was made on April 12 2007 2. They do not think that I contributed more than I was supposed to in any given pay period because I can contribute up to 65% of my paycheck 3. According to their records the plan failed some 515 leveling test.

Now I am completely confused. I don't think I overcontributed. What does it mean that the plan failed a test? Is it something my employer did not do right? In this case, why am I being penalized? I also received NO 1099 form this year from this employer (I did receive W2, but I dont work there since mid Jan 2007)

Please help me understand what really happened and what implications this has on taxes.

Many thanks!

Corrective distributions of excess contributions are governed by the rules of §4979. If the employer fails to distribute the e.c. by 3/15 (assuming a calendar year plan), the employer must pay an excise tax. That is why you see so many checks near March 15. If the correction is made by March 15, then the employee reports the income in the year it was EARNED. After March 15, the income is reported in the year received. To answer S.Q., 401K plans cannot discriminate in favor of highly compensated workers. Actuaries apply ADP and ACP tests and make this determination as to whether an excess contribution has been made.

Excess deferrals are governed by §402. Money taken out by April 15 is taxed in the year earned. However, the earnings are taxed in the year received. If you take out the distribution after April 15 you get hit with a double tax. As jdugan noted these excesses are taxed twice- see §402(g)(2)

From what I understand, it is not something I have done that caused this, it's the actual plan that failed a test (but interestingly enough, my employer told me that it was my fault because I overcontributed). Btw, I am not a highly compensated employee - I was actually sort of junior in that consulting firm of fewer than 50 people.

So clearly, the correction was not made before March 15. It means the employer has to pay excise tax? But I still have to report it in 2007 AND pay taxes? If I had to, I would MUCH RATHER pay taxes on that ammount in 2006 because I was in a lower tax bracket than in 2007. What I do not understand is why I am being penalized for something my employer did or did not do? I clearly had no means of identifying the problem and resolving it.

About this ADP and ACP - just to make sure I understand. They compare what percentage of income different groups of employees contribute to 401(K)? So if there are 20 people working in the form, 10 are paid $100K/year and 10 are paid $30K/year. The first group contributed all $15,500 each and the other 10 contributed $0, then all people in the high-compensation group will receive a check and (have to pay taxes), even though they contributed below/at the limit set by IRS?

I very much appreciate help with this. I am sorry if I am asking stupid questions - it just something I know nothing about.

I am far from an expert on this. I think you have the basic concept correct. The ADP (actual deferral percentage) of eligible highly compensated employees is compared to the ADP of all other eligible employees and must satisfy one of 2 tests. For example, Test 1 says the ADP for the plan year of HCE cannot exceed the ADP of all other eligible employees for the preceeding year multiplied by 1.25. I think Test 1 can also be modified to look at the current year. Obviously, we and the taxpayers only see the final result after the plan administrators do their calculations. This gets much too complicated for me. I just take the 1099s as given. :)

HCE employees are defined in §414(q). Basically, HCE employees are 5% owners OR those who earn over 105K (2008 inflation adjusted) AND were in the top-paid (top 20%) group for the preceeding plan year. VERY confusing. I think my facts are relatively accurate but no guarantees, warranties, etc.

Ok, I am clearly not HCE. I was not a 5% owner, and I did NOT make over 105K (I wish!)

This gets me thinking.. Is there a reason for an employer to lie about this? Any benefit to them? They never even sent me a 1099! I dont even know how to report this!

Side note: that company was highly disfunctional, that's why I left. I would not be surprised if they completely messed this one up.

Call your HR department and ask if the $200 is interest.

Interest is taxable in year received which is in this case, 2008 tax return.