Plan Sponsor Quick Tips: Understanding Compensation

Each Monday 401kBasics posts a new tip as a part of our series “Plan Sponsor Quick Tips”. This series is designed to assist plan sponsors in filling their fiduciary role and running their retirement plan efficiently. Your feedback or suggestions on future articles is welcome.

Understating the definition of compensation is important since plan administrators are supposed to abide by it in the operation and administration of their plans. The definition can be found in the plan document (i.e. Adoption Agreement). Failure to operate a plan by the definition can jeopardize the plan’s qualification status and could be costly. In the plan documents, Plan Sponsors can include or exclude certain components of the participants’ compensation as long as the end definition of compensation does not discriminate in favor of the highly compensated employees.  Some important features of compensation are as follows:

  • A plan document may exclude compensation received before a participant becomes eligible or is able to participate on the plan.
  • An employer can also choose to exclude components of compensation such as overtime or bonuses in its definition. The resulting definition should also not be nondiscriminatory.
  • The compensation definition must include the maximum compensation limit set by the IRS. It is currently $245000.00 for 2010. Thus for contributions and allocation purposes, in 2010, participants earning more than the set limit will only have compensation up to $245000 taken into consideration.

As stated earlier the compensation definition can be found in the plan document. The compensation limit set by the IRS in any year may be change or remain the same as a prior year. For further information please visit this link.

This site is for entertainment purposes only. 401kBasics and it’s authors are not financial advisors and no information found on this site should be construed as financial advice.

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