Compliance testing: What plan sponsors need to know

Compliance testing refers to a series of IRS-required tests performed after year-end to ensure that a company’s 401(k) plan does not unfairly favor owners and highly compensated employees.

Traditionally, compliance testing can be a daunting process for employers. Testing conjures up images of the IRS, plan corrections, and paperwork upon paperwork. With Guideline, all testing is automatically performed for you, freeing you up to focus on your business and your employees.

Guideline’s system uses data you provide to review your plan during the year to help maintain the plan’s compliance. Based on the data we receive, if your plan is at risk at exceeding these tests, you will receive notifications and account alerts with actions you can take to increase the likelihood of passing and/or mitigating  the impact of any required corrections. It is very important that you read emails sent by Guideline and review your dashboard tasks often.

Why is compliance testing necessary?  

The Internal Revenue Service wants to ensure that 401(k) plans are used fairly to benefit employees, business owners, and officers alike when it comes to saving for retirement.

Because contributing to a 401(k) comes with significant tax advantages, a plan could fall into the trap of being almost exclusively enjoyed by company owners and executives. Staying compliant with 401(k) regulations ensures that all employees are fully encouraged and enabled to save for retirement while keeping your tax advantaged status safe.

I see a compliance alert on my dashboard. What does this mean?

Don’t be alarmed. It simply means if the year ended today, your company’s 401(k) plan would fall outside IRS-prescribed ratios for passing one or more of the compliance tests. While your preliminary compliance status is updated daily, the only test results that matter are those based on the plan’s year-end data. Final testing for the year is completed on 12/31/2020 for the 2020 year. Your plan has until that date to get back in compliance (or remain in compliance).

If your plan is outside the limits of one or more tests, Guideline will contact you with details on how you can get back into compliance or mitigate failures  before the end of the year.  By acting early, you have more options to pass compliance at year’s end. You should pay careful attention to all communications so that your plan is in it’s best place with compliance testing.

Please click on each topic below to learn more.

The Nondiscrimination and Limit Tests

Nondiscrimination Tests

Limit Tests

  • 402(g) Limit Test
  • 415 Annual Additions Test
  • Coverage Test

Want to avoid compliance testing next year?

Nondiscrimination testing is an important part of building up retirement in America because it gives employers incentive to encourage even lower-paid employees to start contributing toward their retirement nest egg. However, it can be troublesome and time-consuming for plan sponsors to conduct annual testing, not to mention cover the costs involved with plan corrections.

The best way to support your employees’ retirement while avoiding the hassle of nondiscrimination testing is to design your plan to meet a Safe Harbor requirement. Safe Harbor plan designs, if followed, satisfy nondiscrimination requirements thus automatically exempting your plan from many of the above tests. Learn more about creating a Safe Harbor plan design here.

We’re here to help!

Guideline monitors your 401(k) plan throughout the year and will alert you if your plan is at risk of falling outside IRS compliance limits. Guideline specialists are ready to discuss your correction options with you. Contact us with any questions!

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