Our company sponsors a safe harbor 401(k) plan with a match, and we also make a profit sharing contribution each year. Our payroll company calculates match and profit sharing contributions along the way, and we fund both of those each pay period. This year, when our TPA calculated the total match and profit sharing contributions for the year, we discovered that we funded more than we needed to throughout the year.
What are our options for applying the amount we overfunded? Can we carry it over and apply it to next year’s contribution?
The first thing that should happen right away is to transfer the overfunding (along with any associated investment gains) out of the accounts of the participants who received it and into a holding account within the plan.
From there, we have to go through several steps to determine what options are available for using the excess funding. The first thing we have to look at is the timing of the actual deposits. Let’s assume your plan operates on the calendar year and that we are referring here to the 2017 plan year. You mention that you fund the company contributions with each payroll. That means it is quite possible that the amount for the final pay period in December 2017 was not actually deposited into the plan until early January 2018.
The reason the timing matters is that any amounts physically deposited in 2017 must be allocated as a 2017 employer contribution; however, amounts deposited in early 2018 can be used for either 2017 or 2018 contributions. These restrictions are in place to prevent companies from trying to accelerate deposits into an earlier year to take advantage of a larger tax deduction or from using the plan as a place to park large sums of cash to protect it from creditors.
Assuming the total amount of the overfunding for 2017 is less than the amount deposited in January 2018, then the excess can simply be applied toward the funding of the 2018 contributions. Piece of cake!
If, however, some or all of the excess amounts were deposited in 2017, things can get a bit more complicated. We must consult the document to determine what options are available. If the plan permits additional matching contributions on top of the safe harbor, the excess funding could simply be allocated as an additional match, pro rata on employee deferrals. In order to ensure the safe harbor status is maintained, be sure to cap each person’s deferrals at 6% of pay when performing this allocation. As long as the additional match allocated to any one person does not exceed 4% of his or her compensation, the safe harbor status remains intact.
A second option is to allocate the excess funding as additional profit sharing contributions. If your plan uses either the salary proportional or social security integration method to allocate profit sharing contributions, simply add the excess funding to the profit sharing contribution already calculated to determine how the excess gets allocated. If your plan uses the new comparability (aka cross-tested) method to allocate profit sharing contributions, you will want to be sure that the excess is allocated in such a way that does not cause the plan to fail nondiscrimination testing. If the overfunding is a relatively small amount, the path of least resistance might be to select one or several non-highly compensated employees and allocate the full amount to them. If there is a larger amount that needs to be used, you will likely need to have whoever prepares your testing assist you in determining who should share in the excess allocation.