highly compensated employee (HCE) Time bomb?

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Spirit Rider
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Re: highly compensated employee (HCE) Time bomb?

Post by Spirit Rider » Thu Oct 10, 2019 8:14 am

diy60 wrote:
Thu Oct 10, 2019 7:44 am
401K after tax sub account, you should check if your employer has this feature. It's golden. Along with an IRR feature it allows one to super charge your Roth holdings.
If does not require a plan to support IRRs. It can be IRR and/or in-service rollovers. The OP stated his wife does the latter.

david3213
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Re: highly compensated employee (HCE) Time bomb?

Post by david3213 » Thu Oct 10, 2019 10:54 am

diy60 wrote:
Thu Oct 10, 2019 7:44 am
401K after tax sub account, you should check if your employer has this feature. It's golden. Along with an IRR feature it allows one to super charge your Roth holdings.
Thanks! I'll look into this. Google wasn't much help when I was trying to figure out OP's statement.

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JoeRetire
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Re: highly compensated employee (HCE) Time bomb?

Post by JoeRetire » Thu Oct 10, 2019 11:23 am

CnC wrote:
Wed Oct 09, 2019 9:11 am
If I'm a diligent saver maxing my 457 out at (currently) under 100k and in a few years I break 120k (or 130k due to inflation) my ability to drop to next to nothing since my employer's 457 plan had moderately high fees and no match so very little participation. Is this correct?
The laws were written to discourage employers from crafting plans that reward highly compensated employees, while not similarly rewarding non-highly compensated employees.

If your employer couldn't be bothered to craft a plan that encouraged enough of the latter to join, then you will indeed suffer accordingly.
Correct me if I am wrong but that bump into becoming a HCE actually is a huge penalty and unless you continue to get substantial races from that point you are better off financially not getting any raises and staying under that amount staying under that amount.
Seems doubtful. It's possible that within a narrow range, you might be better off not getting a raise for a little while.

Talk with your employer. Encourage them to recraft the plan to get others to join. Barring that, get them to compensate you for your "HCE time bomb" experience.
Don't be a lemming.

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firebirdparts
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Re: highly compensated employee (HCE) Time bomb?

Post by firebirdparts » Thu Oct 10, 2019 1:42 pm

JoeRetire wrote:
Thu Oct 10, 2019 11:23 am
If your employer couldn't be bothered to craft a plan that encouraged enough of the latter to join, then you will indeed suffer accordingly.
So for us, the plan description says "The company will notify you if you get restricted" and that's all that's in there. We have some matching which undoubtedly helps keep non-HCE's contributing. We have a 5% retirement savings contribution (RSC) (everybody).

I never heard of any of this before yesterday, but maybe the RSC makes it a safe harbor and the HCE does not apply.
A fool and your money are soon partners

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rob
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Re: highly compensated employee (HCE) Time bomb?

Post by rob » Thu Oct 10, 2019 1:56 pm

I've been burnt by this in the past including one year where I got my entire 401K contributions returned a year later causing havoc on my taxes. I've been banned from contributing based on income from previous year, I've had various other limits imposed 4%, 10% etc. It's a complete mess.

- It's company specific and unknowable - each person effected would (and have if you read above) have variations of what happened.
- There are several aspects I found really annoying... You cannot plan because it's retroactive and a really highly compensated employee can sometime make the IRS max with a limited percentage in place.... It can trip over other phase out's due to the re-inclusion in a taxable income.
- As to the safe harbor... an employer in this scenario will often refuse to do a safe harbor in my experience.
- It hurts those most at smaller stingy companies that just trip over the IRS defined income level.

Do the best you can and put some in taxable.... as above it's a good tax diversification thing anyway and not painful if you make sure to keep tax efficient stuff and rebalance in other tax deferred accounts to even it out.
| Rob | Its a dangerous business going out your front door. - J.R.R.Tolkien

diy60
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Re: highly compensated employee (HCE) Time bomb?

Post by diy60 » Thu Oct 10, 2019 2:00 pm

Spirit Rider wrote:
Thu Oct 10, 2019 8:14 am
If does not require a plan to support IRRs. It can be IRR and/or in-service rollovers. The OP stated his wife does the latter.
Good catch, I tend to skim posts and ultimately miss details.

sd323232
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Re: highly compensated employee (HCE) Time bomb?

Post by sd323232 » Thu Oct 10, 2019 2:07 pm

CnC wrote:
Wed Oct 09, 2019 9:11 am

Correct me if I am wrong but that bump into becoming a HCE actually is a huge penalty and unless you continue to get substantial races from that point you are better off financially not getting any raises and staying under that amount staying under that amount.
So you rather decline a promotion at work to make less money so you can max out your 401k? You do realize that there is nothing wrong with taking after tax income and putting it into brokerage? I wouldnt turn down promotions and more money so I can max out 401k. Absolutley not, do not let this slow down your career and your ability to increase your income.

anon_investor
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Re: highly compensated employee (HCE) Time bomb?

Post by anon_investor » Thu Oct 10, 2019 2:21 pm

Just have to reiterate, since the OP's wife is with a mega corp, the impact will not be that bad. They likely have an entire team dedicated to this. I have always been a HCE at my current mega corp employer, and the 401k portal gives you a HCE warning and tells you what % you can contribute per pay check and will not let you contribute more (even if you contributed less than the max the prior paycheck). I did not have this warning my 1st year because they calculate based on your prior year's income. Also at a mega corp it is very likely that there are hundreds if not thousands of employees that earn more than the HCE trigger point. Additionally, since the mega corp probably has some kind of matching (or even free 401k money regardless of contributions), chances are reduced the OP's wife will be severely limited in her contributions or face a refund situation.

I mentioned before, annually I am able do the individual max contribution and some individual after-tax contributions (can't max it out, but my allowed after-tax contribution annually is more than me and my spouse combined can contribute annually to our backdoor roth IRA), which I can instantly convert in plan to roth or do an in service distribution to my roth IRA (aka mega backdoor roth 401k). I just do the in plan roth conversion, but cause its easy and instant (a couple of mouse clicks) and my 401k plan has lower cost index funds than my Vanguard Roth IRA.

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JoeRetire
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Re: highly compensated employee (HCE) Time bomb?

Post by JoeRetire » Thu Oct 10, 2019 2:49 pm

firebirdparts wrote:
Thu Oct 10, 2019 1:42 pm
JoeRetire wrote:
Thu Oct 10, 2019 11:23 am
If your employer couldn't be bothered to craft a plan that encouraged enough of the latter to join, then you will indeed suffer accordingly.
So for us, the plan description says "The company will notify you if you get restricted" and that's all that's in there. We have some matching which undoubtedly helps keep non-HCE's contributing. We have a 5% retirement savings contribution (RSC) (everybody).

I never heard of any of this before yesterday, but maybe the RSC makes it a safe harbor and the HCE does not apply.
Sounds like your company did the right thing and you should be safe. If not, you'll be notified.
Don't be a lemming.

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CnC
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Re: highly compensated employee (HCE) Time bomb?

Post by CnC » Thu Oct 10, 2019 5:39 pm

sd323232 wrote:
Thu Oct 10, 2019 2:07 pm
CnC wrote:
Wed Oct 09, 2019 9:11 am

Correct me if I am wrong but that bump into becoming a HCE actually is a huge penalty and unless you continue to get substantial races from that point you are better off financially not getting any raises and staying under that amount staying under that amount.
So you rather decline a promotion at work to make less money so you can max out your 401k? You do realize that there is nothing wrong with taking after tax income and putting it into brokerage? I wouldnt turn down promotions and more money so I can max out 401k. Absolutley not, do not let this slow down your career and your ability to increase your income.
Promotions are not free money. They are more money for more time and effort.

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JoeRetire
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Re: highly compensated employee (HCE) Time bomb?

Post by JoeRetire » Thu Oct 10, 2019 5:43 pm

CnC wrote:
Thu Oct 10, 2019 5:39 pm
sd323232 wrote:
Thu Oct 10, 2019 2:07 pm
CnC wrote:
Wed Oct 09, 2019 9:11 am

Correct me if I am wrong but that bump into becoming a HCE actually is a huge penalty and unless you continue to get substantial races from that point you are better off financially not getting any raises and staying under that amount staying under that amount.
So you rather decline a promotion at work to make less money so you can max out your 401k? You do realize that there is nothing wrong with taking after tax income and putting it into brokerage? I wouldnt turn down promotions and more money so I can max out 401k. Absolutley not, do not let this slow down your career and your ability to increase your income.
Promotions are not free money. They are more money for more time and effort.
So will you decline a promotion because it means more time and effort? Or decline a promotion because it's a huge HCE penalty (which seems to be what you actually wrote).
Don't be a lemming.

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CnC
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Re: highly compensated employee (HCE) Time bomb?

Post by CnC » Thu Oct 10, 2019 7:14 pm

JoeRetire wrote:
Thu Oct 10, 2019 5:43 pm
CnC wrote:
Thu Oct 10, 2019 5:39 pm
sd323232 wrote:
Thu Oct 10, 2019 2:07 pm
CnC wrote:
Wed Oct 09, 2019 9:11 am

Correct me if I am wrong but that bump into becoming a HCE actually is a huge penalty and unless you continue to get substantial races from that point you are better off financially not getting any raises and staying under that amount staying under that amount.
So you rather decline a promotion at work to make less money so you can max out your 401k? You do realize that there is nothing wrong with taking after tax income and putting it into brokerage? I wouldnt turn down promotions and more money so I can max out 401k. Absolutley not, do not let this slow down your career and your ability to increase your income.
Promotions are not free money. They are more money for more time and effort.
So will you decline a promotion because it means more time and effort? Or decline a promotion because it's a huge HCE penalty (which seems to be what you actually wrote).
No, not really. Everything has a price and value. The promotion might be worth the extra effort since it pays extra money. But making say $20,000 more and losing access to be able to save $50,000 in your 401k savings ability isn't worth it.

I mean come on it's like saying take a more difficult job with no 401k access simply because it pays more than an simpler job with 401k access.
Granted if it pays 50% or 100% more it's still worth it. But at 10% I don't think so.

What I am getting at is you could end up with less money for more work in certain situations.

Spirit Rider
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Re: highly compensated employee (HCE) Time bomb?

Post by Spirit Rider » Thu Oct 10, 2019 7:49 pm

CnC wrote:
Thu Oct 10, 2019 7:14 pm
No, not really. Everything has a price and value. The promotion might be worth the extra effort since it pays extra money. But making say $20,000 more and losing access to be able to save $50,000 in your 401k savings ability isn't worth it.
It may or may not be worth it, but simply comparing $20K in income to the loss of $50K in tax-advantaged contribution space is not an apple to apple comparison.

If you invest the $50k in a taxable account in a total stock market ETF or Vanguard's TSM mutual fund. You will have a minimal tax drag from mostly/all qualified dividends during accumulation and capital gains in retirement. Both will be at lower capital gains tax rates.

The problem is obviously that it is a cliff. You could have the same loss of tax advantages on $2K in additional compensation making you an HCE.

Even so, tax advantaged retirement investing is public policy intended to help those who need the tax advantages to fund a reasonable retirement. Quite frankly, if you can afford to make $56K in retirement contributions, you don't need the government''s help.

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JoeRetire
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Re: highly compensated employee (HCE) Time bomb?

Post by JoeRetire » Fri Oct 11, 2019 7:17 am

CnC wrote:
Thu Oct 10, 2019 7:14 pm
But making say $20,000 more and losing access to be able to save $50,000 in your 401k savings ability isn't worth it.
Are you sure? I'd have to see the math. Remember, the $50,000 could still be saved somewhere other than the 401k. It's not like you are losing $50k here.
What I am getting at is you could end up with less money for more work in certain situations.
Seems unlikely. I suppose anything is possible.

Better still - get your company to treat the non-highly compensated employees better.
Don't be a lemming.

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Tamarind
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Re: highly compensated employee (HCE) Time bomb?

Post by Tamarind » Fri Oct 11, 2019 7:38 am

I agree with the folks above that say the solution is to find an employer that has thought about it enough to adopt a safe harbor plan.

The floor is really low: a company that makes immediately vesting unconditional 3% contributions for all employees is no longer subject to HCE tests. 3% of payroll = never having to tell an HCE they cannot contribute as much as they wish. IMO a company that cannot afford that 3% cannot afford to pay their HCEs as much as they do. Often, companies that decline to use the safe harbor plan have other ways of compensating top execs (stock grants) that shortchange both the non-exec HCEs and the lower paid employees.

If the company is not open to advocacy about reducing the HR load of tracking who is HCE and handling the testing, then you can only vote with your feet.

HomeStretch
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Re: highly compensated employee (HCE) Time bomb?

Post by HomeStretch » Fri Oct 11, 2019 8:52 am

CnC wrote:
Thu Oct 10, 2019 7:14 pm
No, not really. Everything has a price and value. The promotion might be worth the extra effort since it pays extra money. But making say $20,000 more and losing access to be able to save $50,000 in your 401k savings ability isn't worth it.
Even if this was true, think longer term. This promotion hopefully leads to another promotion/raise, etc. This is but one step in your wife’s career.

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UpsetRaptor
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Re: highly compensated employee (HCE) Time bomb?

Post by UpsetRaptor » Fri Oct 11, 2019 9:54 am

It's not even a promotion that necessarily puts you over the top. I've been close to the HCE cutoff the past couple years, and my annual ~2-3% normal raises keep edging me closer, and if I get a bonus I'm immediately over which has happened before. My company's awful HCE/401K rules state that HCEs are disallowed from contributing to the company 401k plan completely, so even the (not great, but hey it's something) match goes away. The HCE qualification bump from $120K to $125K gives me another year or two of runway, but then I'll be at a point where it'd financially make sense for me to reject my annual 2-3% raise, which certainly seems weird, but I mean, even just losing the match itself makes that math pretty easy, before even trying to calculate the lost tax-deferral benefits. The last time I got a bonus I wasn't a boglehead and wasn't thinking about this, but if offered another bonus, I'd have to start number crunching before accepting.

That said, OP, I doubt any of this affects you. Your 457 is not affected, and if your wife works for a Megacorp it's far less likely this is a concern for her, either because it's already a safe-harbor or they just handle it better than a smaller, stingier company like mine. I wouldn't worry about it if I were you, and I also wouldn't pass up a true career-progressing promotion for any of this, even in a situation like mine.

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CnC
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Re: highly compensated employee (HCE) Time bomb?

Post by CnC » Fri Oct 11, 2019 2:30 pm

Spirit Rider wrote:
Thu Oct 10, 2019 7:49 pm
CnC wrote:
Thu Oct 10, 2019 7:14 pm
No, not really. Everything has a price and value. The promotion might be worth the extra effort since it pays extra money. But making say $20,000 more and losing access to be able to save $50,000 in your 401k savings ability isn't worth it.
It may or may not be worth it, but simply comparing $20K in income to the loss of $50K in tax-advantaged contribution space is not an apple to apple comparison.

If you invest the $50k in a taxable account in a total stock market ETF or Vanguard's TSM mutual fund. You will have a minimal tax drag from mostly/all qualified dividends during accumulation and capital gains in retirement. Both will be at lower capital gains tax rates.

The problem is obviously that it is a cliff. You could have the same loss of tax advantages on $2K in additional compensation making you an HCE.

Even so, tax advantaged retirement investing is public policy intended to help those who need the tax advantages to fund a reasonable retirement. Quite frankly, if you can afford to make $56K in retirement contributions, you don't need the government''s help.
I personally disagree.

Just because I choose to live life within my means and not blow my money on frivolous items so I can save a substantial amount, is not a reason that I should be exempt from the benefits the vast majority of Americans can enjoy.

But I don't want to get into an argument about that because it is against the forum policies.

That's why I removed a question about fairness, since that will only cause arguments.
Last edited by CnC on Fri Oct 11, 2019 3:00 pm, edited 1 time in total.

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CnC
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Re: highly compensated employee (HCE) Time bomb?

Post by CnC » Fri Oct 11, 2019 2:37 pm

UpsetRaptor wrote:
Fri Oct 11, 2019 9:54 am
It's not even a promotion that necessarily puts you over the top. I've been close to the HCE cutoff the past couple years, and my annual ~2-3% normal raises keep edging me closer, and if I get a bonus I'm immediately over which has happened before. My company's awful HCE/401K rules state that HCEs are disallowed from contributing to the company 401k plan completely, so even the (not great, but hey it's something) match goes away. The HCE qualification bump from $120K to $125K gives me another year or two of runway, but then I'll be at a point where it'd financially make sense for me to reject my annual 2-3% raise, which certainly seems weird, but I mean, even just losing the match itself makes that math pretty easy, before even trying to calculate the lost tax-deferral benefits. The last time I got a bonus I wasn't a boglehead and wasn't thinking about this, but if offered another bonus, I'd have to start number crunching before accepting.

That said, OP, I doubt any of this affects you. Your 457 is not affected, and if your wife works for a Megacorp it's far less likely this is a concern for her, either because it's already a safe-harbor or they just handle it better than a smaller, stingier company like mine. I wouldn't worry about it if I were you, and I also wouldn't pass up a true career-progressing promotion for any of this, even in a situation like mine.

Thank you for the experience and the explanation. A situation like you experienced was exactly what I was trying to learn more about.


After doing more research into the safe harbor thing I am guessing that there is a qualified plan at my wife's employer.

Both you and another poster explained that my 457 plan was exempt from the HCE rules. That is great news since the 457 plan has abysmal participation.

So, thanks to everyone who replied. Even the snarky ones. :wink:

Silence Dogood
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Re: highly compensated employee (HCE) Time bomb?

Post by Silence Dogood » Fri Oct 11, 2019 9:27 pm

nisiprius wrote:
Wed Oct 09, 2019 12:58 pm
jebmke wrote:
Wed Oct 09, 2019 11:01 am
...If you pass 2? Or more of these you are in essence prevented from using a 401k to save for retirement...
I'm not an expert, all I know is what I went through personally. But I certainly wasn't prevented from using a 401k. I just had a dollar limit that was a less than the maximum available to non-HCEs. The awkward thing was that HR didn't seen to be able to tell me in advance any firm value for the number of dollars. But it wasn't boom! surprise! you're an HCE, no 401(k) for you. It was boom! surprise! paperwork and taxes I hadn't expected to have to pay.
What if someone is working for an employer with very few employees?

For example, if there are 50 employees and 30 are highly compensated, the 401(k) contribution limit could be drastically lowered for the 30 highly compensated employees, depending on how much the 20 non-highly compensated employees contribute.

Perhaps not "surprise! no 401(k) for you"... but possibly close?

My spouse (working for an employer not unlike what I described above) is not currently a highly compensated employee, but may possibly be in a few years. I wonder if this will be an issue.

Spirit Rider
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Re: highly compensated employee (HCE) Time bomb?

Post by Spirit Rider » Fri Oct 11, 2019 10:03 pm

First, @Silence Dogood.l, it bears pointing out again. If her employer 401k plan is a safe harbor 401k plan, no ADP/ACP testing is done and HCE employee deferrals are not limited.

If it is not a safe harbor plan the results of the testing are known to the plan. It is often difficult to get through the bureaucracy, but I have always been able the get the previous year's results.

retiredjg
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Re: highly compensated employee (HCE) Time bomb?

Post by retiredjg » Sat Oct 12, 2019 6:54 am

Spirit Rider wrote:
Fri Oct 11, 2019 10:03 pm
It is often difficult to get through the bureaucracy, but I have always been able the get the previous year's results.
Does the previous year's result limit what you can contribute this year? Or is it simply a way to get a good estimate?

Bacchus01
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Re: highly compensated employee (HCE) Time bomb?

Post by Bacchus01 » Sat Oct 12, 2019 7:05 am

djpeteski wrote:
Wed Oct 09, 2019 10:28 am
IMHO the employer that allows HCE to trigger, and not provide a safe harbor plan, is penny wise and pound foolish.

Meeting the qualifications of a safe harbor plan through reasonable matches is not very expensive, makes an effort to take care of all employees, and is far less than a pension scheme. Also it takes good care of top management.
This is interesting, but somehow I think disconnected from reality.

I have worked for three reasonably large companies. One, a $15B public megacorp, the second a $2B PE-backed and the third is a $7B privately held company. All had HCE limits. All had very competitive matches for the market. Two of the three had pension plans. One of them had a NQ deferred comp plan.

The reason they had the HCE limits was because despite th match, most lower income employees did not take advantage of it at all and few contributed enough to get the max match.

What did they all have in common? Manufacturing companies where 70% of the employee basis was hourly manufacturing employees who don’t contribute lurch to 401ks.

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Re: highly compensated employee (HCE) Time bomb?

Post by smitcat » Sat Oct 12, 2019 7:09 am

CnC wrote:
Thu Oct 10, 2019 5:39 pm
sd323232 wrote:
Thu Oct 10, 2019 2:07 pm
CnC wrote:
Wed Oct 09, 2019 9:11 am

Correct me if I am wrong but that bump into becoming a HCE actually is a huge penalty and unless you continue to get substantial races from that point you are better off financially not getting any raises and staying under that amount staying under that amount.
So you rather decline a promotion at work to make less money so you can max out your 401k? You do realize that there is nothing wrong with taking after tax income and putting it into brokerage? I wouldnt turn down promotions and more money so I can max out 401k. Absolutley not, do not let this slow down your career and your ability to increase your income.
Promotions are not free money. They are more money for more time and effort.
"Promotions are not free money. They are more money for more time and effort."
Not in my experience.

smitcat
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Re: highly compensated employee (HCE) Time bomb?

Post by smitcat » Sat Oct 12, 2019 7:11 am

Bacchus01 wrote:
Sat Oct 12, 2019 7:05 am
djpeteski wrote:
Wed Oct 09, 2019 10:28 am
IMHO the employer that allows HCE to trigger, and not provide a safe harbor plan, is penny wise and pound foolish.

Meeting the qualifications of a safe harbor plan through reasonable matches is not very expensive, makes an effort to take care of all employees, and is far less than a pension scheme. Also it takes good care of top management.
This is interesting, but somehow I think disconnected from reality.

I have worked for three reasonably large companies. One, a $15B public megacorp, the second a $2B PE-backed and the third is a $7B privately held company. All had HCE limits. All had very competitive matches for the market. Two of the three had pension plans. One of them had a NQ deferred comp plan.

The reason they had the HCE limits was because despite th match, most lower income employees did not take advantage of it at all and few contributed enough to get the max match.

What did they all have in common? Manufacturing companies where 70% of the employee basis was hourly manufacturing employees who don’t contribute lurch to 401ks.

"The reason they had the HCE limits was because despite th match, most lower income employees did not take advantage of it at all and few contributed enough to get the max match."
Exactly the same as our experience in both large and small companies - many (most) lower income employees ignore the match and/or drop the 401K within a year or so.

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celia
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Re: highly compensated employee (HCE) Time bomb?

Post by celia » Sat Oct 12, 2019 7:23 am

If you are an HCE, you can still contribute to a tax-deferred account, but not just max it out like you currently want to. Instead, just start thinking that “your” max is only 2/3 of what it really is.

You will still get the benefits and be glad in retirement that you don’t have “too much” in tax-deferred accounts. It is short-sighted to want to minimize your taxes now when your situation tells me you will still have lots of income in retirement. At that time, it is possible that the income taxes in retirement could be at a higher tax rate than the rate you would have now (without your large contributions).
A dollar in Roth is worth more than a dollar in a taxable account. A dollar in taxable is worth more than a dollar in a tax-deferred account.

Bacchus01
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Re: highly compensated employee (HCE) Time bomb?

Post by Bacchus01 » Sat Oct 12, 2019 8:05 am

celia wrote:
Sat Oct 12, 2019 7:23 am
If you are an HCE, you can still contribute to a tax-deferred account, but not just max it out like you currently want to. Instead, just start thinking that “your” max is only 2/3 of what it really is.

You will still get the benefits and be glad in retirement that you don’t have “too much” in tax-deferred accounts. It is short-sighted to want to minimize your taxes now when your situation tells me you will still have lots of income in retirement. At that time, it is possible that the income taxes in retirement could be at a higher tax rate than the rate you would have now (without your large contributions).
Just work on making more money! Many plans limit HCEs to 10%. Well, just work he’s and get that salary over $185k!

I’m limited to 8% and hit the IRS max in 6 months.

Silence Dogood
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Re: highly compensated employee (HCE) Time bomb?

Post by Silence Dogood » Sat Oct 12, 2019 10:19 am

Spirit Rider wrote:
Fri Oct 11, 2019 10:03 pm
First, @Silence Dogood.l, it bears pointing out again. If her employer 401k plan is a safe harbor 401k plan, no ADP/ACP testing is done and HCE employee deferrals are not limited.

If it is not a safe harbor plan the results of the testing are known to the plan. It is often difficult to get through the bureaucracy, but I have always been able the get the previous year's results.
Unfortunately there is no employer match.

It looks like it shouldn't be too difficult to make the plan comply with the safe harbor rules. I will see if she can bring this up with the HR person.

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Tamarind
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Re: highly compensated employee (HCE) Time bomb?

Post by Tamarind » Sat Oct 12, 2019 10:32 am

Silence Dogood wrote:
Fri Oct 11, 2019 9:27 pm
nisiprius wrote:
Wed Oct 09, 2019 12:58 pm
jebmke wrote:
Wed Oct 09, 2019 11:01 am
...If you pass 2? Or more of these you are in essence prevented from using a 401k to save for retirement...
I'm not an expert, all I know is what I went through personally. But I certainly wasn't prevented from using a 401k. I just had a dollar limit that was a less than the maximum available to non-HCEs. The awkward thing was that HR didn't seen to be able to tell me in advance any firm value for the number of dollars. But it wasn't boom! surprise! you're an HCE, no 401(k) for you. It was boom! surprise! paperwork and taxes I hadn't expected to have to pay.
What if someone is working for an employer with very few employees?

For example, if there are 50 employees and 30 are highly compensated, the 401(k) contribution limit could be drastically lowered for the 30 highly compensated employees, depending on how much the 20 non-highly compensated employees contribute.

Perhaps not "surprise! no 401(k) for you"... but possibly close?

My spouse (working for an employer not unlike what I described above) is not currently a highly compensated employee, but may possibly be in a few years. I wonder if this will be an issue.
My employer (owned by a couple) currently employs about 20 people, and their solution was to establish the 401k as a safe harbor from the start.

They preferred to avoid the extra work of testing since most of us are over the HCE threshold.

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Re: highly compensated employee (HCE) Time bomb?

Post by Spirit Rider » Sat Oct 12, 2019 10:46 am

retiredjg wrote:
Sat Oct 12, 2019 6:54 am
Spirit Rider wrote:
Fri Oct 11, 2019 10:03 pm
It is often difficult to get through the bureaucracy, but I have always been able the get the previous year's results.
Does the previous year's result limit what you can contribute this year? Or is it simply a way to get a good estimate?
A 401k plan can use prior year testing. In that case they will usually limit HCE contributions.

In my case, I just used the previous year's results as an approximation of this year's likely results. For most larger companies in relatively stable economic times it does not vary very much year to year. I remember in 2009 and later, HCE and to greater degree NHCE contribution percentages cratered.

In a small company (25 employees) I worked for many years ago. The finance guy would apply the ADP testing and HCE limit formulas quarterly. He was an HCE and thus had a vested interest in the limits. He would notify HCEs of the prior year results by the middle of January so you would have heads up before 3/15 and what to use this year. He would then provide YTD results quarterly. He was never off by more than 0.1% - 0.2%.

So the information is available. At least the prior year results are by 3/15. Yet most companies protect it like it is a trade secret.

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Re: highly compensated employee (HCE) Time bomb?

Post by retiredjg » Sat Oct 12, 2019 10:53 am

Thanks. That makes some of the earlier comments make more sense to me.

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Re: highly compensated employee (HCE) Time bomb?

Post by dknightd » Sat Oct 12, 2019 10:57 am

Being highly compensated must suck. You could do a crappy job to avoid the Time bomb ;) ;)

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Re: highly compensated employee (HCE) Time bomb?

Post by THY4373 » Sat Oct 12, 2019 11:14 am

My ex is hit by this. She works for a megacorp and they use the salary definition provided by the IRS. They limit her to 10% per year. It sort of sucks because she is basically middle management and has no real influence of the running of the corporation and of course the folks who do run the company make enough that they are able to max out even with the 10% limit. In my ex's case for a number of years she was just above the limit so she was pretty hard hit in that her salary was riding just barely above the HCE line. She moved teams a couple of years ago and got bigger raises and a promotion so now she is enough above the line that the impact is a bit more limited.

Thankfully I work for a unique organization that is quasi public and our 457 plan is not subject to HCE BS and I am able to max out both trad/roth and after-tax non-Roth with in-plan conversion or in-service distribution as I choose. And I do the max + catch-up contribs every year.

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Re: highly compensated employee (HCE) Time bomb?

Post by zaboomafoozarg » Sun Oct 13, 2019 4:13 pm

If you work at a company with a safe harbor 401k, this is a non-issue. Everywhere I've worked has had a safe harbor 401k so I figured they were common, but maybe not.

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Re: highly compensated employee (HCE) Time bomb?

Post by lazydavid » Mon Oct 14, 2019 10:05 am

Bacchus01 wrote:
Sat Oct 12, 2019 7:05 am
djpeteski wrote:
Wed Oct 09, 2019 10:28 am
IMHO the employer that allows HCE to trigger, and not provide a safe harbor plan, is penny wise and pound foolish.

Meeting the qualifications of a safe harbor plan through reasonable matches is not very expensive, makes an effort to take care of all employees, and is far less than a pension scheme. Also it takes good care of top management.
This is interesting, but somehow I think disconnected from reality.

I have worked for three reasonably large companies. One, a $15B public megacorp, the second a $2B PE-backed and the third is a $7B privately held company. All had HCE limits. All had very competitive matches for the market. Two of the three had pension plans. One of them had a NQ deferred comp plan.

The reason they had the HCE limits was because despite th match, most lower income employees did not take advantage of it at all and few contributed enough to get the max match.

What did they all have in common? Manufacturing companies where 70% of the employee basis was hourly manufacturing employees who don’t contribute lurch to 401ks.
There are two ways to achieve safe harbor and avoid this situation:

1. Offer a 3% nonelective contribution to all employees, regardless of whether they contribute themselves.
2. Offer a 100% match on at least the first 3% of contributions, plus enough 50% match to get to 4% total match.

In either case, the proportion of non-HCEs that do not participate ceases to matter with regards to contribution restrictions on HCEs. If any of your employers had done one of the above, you would not have been limited.
THY4373 wrote:
Sat Oct 12, 2019 11:14 am
My ex is hit by this. She works for a megacorp and they use the salary definition provided by the IRS. They limit her to 10% per year. It sort of sucks because she is basically middle management and has no real influence of the running of the corporation and of course the folks who do run the company make enough that they are able to max out even with the 10% limit. In my ex's case for a number of years she was just above the limit so she was pretty hard hit in that her salary was riding just barely above the HCE line. She moved teams a couple of years ago and got bigger raises and a promotion so now she is enough above the line that the impact is a bit more limited.
Yes, this was the case for me up until a year or two ago. Our cap was 10% also, so that had the net effect of limiting anyone making $120-180k/year, while those below $120k and above $180k were not impacted. They changed our match from 50% on the first 8% of contribution (so total 4%), to 100% match on the first 3%, plus 50% on the next 2% (so total 4%), which made our plan Safe Harbor. We can now max out again.

The irony is, the average non-HCE contribution before going safe harbor was 8%, and I bet it's now close to 5% (maxing out the match in either case). So making a change that in theory is supposed to even out plan usage by HCEs vs. non-HCEs will in fact have the result of increasing the disparity.

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Re: highly compensated employee (HCE) Time bomb?

Post by Spirit Rider » Mon Oct 14, 2019 10:59 am

lazydavid wrote:
Mon Oct 14, 2019 10:05 am
Bacchus01 wrote:
Sat Oct 12, 2019 7:05 am
I have worked for three reasonably large companies. One, a $15B public megacorp, the second a $2B PE-backed and the third is a $7B privately held company. All had HCE limits. All had very competitive matches for the market. Two of the three had pension plans. One of them had a NQ deferred comp plan.

The reason they had the HCE limits was because despite th match, most lower income employees did not take advantage of it at all and few contributed enough to get the max match.

What did they all have in common? Manufacturing companies where 70% of the employee basis was hourly manufacturing employees who don’t contribute lurch to 401ks.
There are two ways to achieve safe harbor and avoid this situation:

1. Offer a 3% nonelective contribution to all employees, regardless of whether they contribute themselves.
2. Offer a 100% match on at least the first 3% of contributions, plus enough 50% match to get to 4% total match.

In either case, the proportion of non-HCEs that do not participate ceases to matter with regards to contribution restrictions on HCEs. If any of your employers had done one of the above, you would not have been limited.
@lazydavid is correct.

If the company met one of these safe harbor 401 low minimum contribution rates. Even with NO NHCE employee deferrals, the only reason they would have ADP/ACP testing and HCE employee deferral limits. Would be because they didn't meet the other safe harbor 401k requirement. They didn't 100% immediately vest the employer contributions. Instead they chose to put in place a restrictive vesting schedule.

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Re: highly compensated employee (HCE) Time bomb?

Post by JediMisty » Mon Oct 14, 2019 11:57 am

Spirit Rider wrote:
Thu Oct 10, 2019 7:49 pm
CnC wrote:
Thu Oct 10, 2019 7:14 pm
No, not really. Everything has a price and value. The promotion might be worth the extra effort since it pays extra money. But making say $20,000 more and losing access to be able to save $50,000 in your 401k savings ability isn't worth it.
It may or may not be worth it, but simply comparing $20K in income to the loss of $50K in tax-advantaged contribution space is not an apple to apple comparison.

If you invest the $50k in a taxable account in a total stock market ETF or Vanguard's TSM mutual fund. You will have a minimal tax drag from mostly/all qualified dividends during accumulation and capital gains in retirement. Both will be at lower capital gains tax rates.

The problem is obviously that it is a cliff. You could have the same loss of tax advantages on $2K in additional compensation making you an HCE.

Even so, tax advantaged retirement investing is public policy intended to help those who need the tax advantages to fund a reasonable retirement. Quite frankly, if you can afford to make $56K in retirement contributions, you don't need the government''s help.
I experienced this cliff - hovering for years at just a few hundred dollars or 2k one year above the HCE limit and was severely limited in my 401k contributions. I saved some in taxable to build up my EF and used the rest to pay down my mortgage. Eventually my previous megacorp adopted a safe harbour plan. By then my mortgage was paid up. After my megacorp sold my division to my new megacorp, the new 401k is a safe harbour plan AND allows up to 90% of income be contributed..With VG index institutional funds, low costs, and IRR daily allowed, I've been able to Max out the 62k total allowed even though it's more than 50% of my income after taxes. I would campaign for a safe harbour plan.

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Re: highly compensated employee (HCE) Time bomb?

Post by Watty » Mon Oct 14, 2019 12:20 pm

One thing I have not seen mentioned that in theory at least being under the HCE limit would be taken into account in setting your salary at a higher level. You may be getting the same total compensation that you would get if you worked at a company where there were no HCE limits.

There is also a silver lining to investing in a taxable account, that is when you are retired under the current laws the long term capital gains would likely only have a federal tax rate of 15%. You may even be able to structure your income so that it is taxed at 0%. If it goes to your estate someday then it may go at a stepped up cost basis and the federal capital gains taxes may never need to be paid.

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Re: highly compensated employee (HCE) Time bomb?

Post by rich126 » Mon Oct 14, 2019 1:29 pm

Spirit Rider wrote:
Wed Oct 09, 2019 7:02 pm
rich126 wrote:
Wed Oct 09, 2019 9:46 am
I'm not sure of the details but I've been over that amount for a while and haven't encountered any issues. And there are more things involved than just what I copied above.
There is no ADP testing for employee deferrals and ACP testing for employer contributions in a safe harbor plan. Also, even if the plan is a non-safe harbor plan it can still pass the testing. In neither case will HCE contributions be limited.
Thanks for bringing this up. Although my current employer plan is a safe harbor plan, I had no idea what it meant. Your statement caused me to look it up. I'll have to check around and see how common it is to have one. I don't expect to stay at my next job more than 2-3 years so I'd like to find something that vests immediately.

Thanks.

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Re: highly compensated employee (HCE) Time bomb?

Post by CnC » Mon Oct 14, 2019 3:31 pm

We already have substantial taxable contributions. I have had a previous thread on the reasoning for that so there is no benefit for having less in a pretax account.


My biggest concern was that just last year we found out that her employer allows after tax contributions and in plan roll overs allowing us to heavily fund her Roth to make up for the relatively little Roth money we have saved.

We were very excited for this benefit and would be sad to see it disappear within a year or so of finding out about it.


The goal was to get 35% in taxable 40% in pretax and 25% in Roth for maximum tax options.

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Re: highly compensated employee (HCE) Time bomb?

Post by Spirit Rider » Mon Oct 14, 2019 5:51 pm

rich126 wrote:
Mon Oct 14, 2019 1:29 pm
Thanks for bringing this up. Although my current employer plan is a safe harbor plan, I had no idea what it meant. Your statement caused me to look it up. I'll have to check around and see how common it is to have one. I don't expect to stay at my next job more than 2-3 years so I'd like to find something that vests immediately.
From the last IRS 401k Compliance report in 2013. 43% of 401k plans were safe harbor plans. Broken down by participant count:
  • 67% Small Plans: 0-5 participants
  • 43% Medium Plans: 6-100 participants
  • 15% Large Plans: 101-2,500 participants
  • 23% Very Large Plans: more than 2,500 participants
It is the larger plans that are less likely to have safe harbor plans. The sweet sour spot is plans with 101 - 2500 participants.

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Re: highly compensated employee (HCE) Time bomb?

Post by rich126 » Mon Oct 14, 2019 10:01 pm

Spirit Rider wrote:
Mon Oct 14, 2019 5:51 pm
rich126 wrote:
Mon Oct 14, 2019 1:29 pm
Thanks for bringing this up. Although my current employer plan is a safe harbor plan, I had no idea what it meant. Your statement caused me to look it up. I'll have to check around and see how common it is to have one. I don't expect to stay at my next job more than 2-3 years so I'd like to find something that vests immediately.
From the last IRS 401k Compliance report in 2013. 43% of 401k plans were safe harbor plans. Broken down by participant count:
  • 67% Small Plans: 0-5 participants
  • 43% Medium Plans: 6-100 participants
  • 15% Large Plans: 101-2,500 participants
  • 23% Very Large Plans: more than 2,500 participants
It is the larger plans that are less likely to have safe harbor plans. The sweet sour spot is plans with 101 - 2500 participants.
My current company falls into the very large category. Thanks!

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