(b)lines Ask the Experts – Timing for Coverage and General Nondiscrimination Testing

“I work for an Employee Retirement Income Security Act (ERISA) 403(b) plan sponsor who provides an employer base contribution that falls outside the safe harbors and is thus subject to the 410(b) coverage and 401(a)(4) general nondiscrimination tests each year. However, we recently transitioned to a new recordkeeper who has stated that we do not need to complete such testing annually, only once every three years. That would be excellent news, because the data collection process is burdensome on our end. Is our recordkeeper correct?”

Stacey Bradford, Kimberly Boberg, David Levine and David Powell, with Groom Law Group, and Michael A. Webb, vice president, Retirement Plan Services, Cammack Retirement Group, answer:

While your recordkeeper is correct that there is an exception to annual testing for the coverage test and the general nondiscrimination test, this exception is quite limited and is subject to the specific facts of your situation. 

First of all, an employer who seeks to rely for three years on a passing test in one year must reasonably conclude that there are no “significant changes” subsequent to the test, such as significant changes in plan provisions, the employer’s workforce, or compensation practices.  Further, whether a change is significant varies based upon the degree by which the plan has satisfied the applicable test in the most recently tested year, and the likelihood that the change would eliminate any such passing margin.  In other words, the lower the passing margin, the more likely a change would be significant enough to prevent the plan from relying on the three-year exception. 

In addition, even with a larger passing margin, it may be hard for a small plan to fit within the exception, as a change in the number of non-highly compensated employees (NHCEs) by one or two could be a significant change which eats up a passing margin. Therefore, it is not a given that this three-year testing exception will be available for your plan.

NOTE: This feature is to provide general information only, does not constitute legal advice, and cannot be used or substituted for legal or tax advice.