Are You Taking Your Nondiscrimination ADP Test For Granted? – Rea CPA

Are You Taking Your Nondiscrimination ADP Test For Granted?

Preparing Will Only Take You So Far

When it comes to managing your retirement plan, compliance is key. And maintaining your compliance with the Employee Retirement Income Security Act (ERISA) requires you to juggle a lot of moving pieces. For this reason, plan sponsors and company management teams must work together at all times to ensure ongoing success and, of course, compliance.

Together, you will make sure that eligible employees are properly informed of the company’s plan and have an opportunity to participate. Together, you will make requested adjustments to deferral rates. Together, you will review your investment options and make necessary changes based on quality information for the best interests of your participants. Together, you will hire suitable service providers. But when it comes to your company’s annual required compliance testing, there are some things you can’t do alone, much less together.

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Similar to preparing a student for a big test, there’s only so much that can be done leading up to your plan’s compliance testing. When the testing finally occurs you must trust that, in working together, your retirement plan has been equipped with everything needed to come out on top.

Consider the nondiscrimination accrual deferral percentage (ADP) test, for example. Of course it would be easy to tune out right about now after making declaring “we don’t discriminate” or “we’ve always passed that test,” but that would be short-sided. Instead, stop taking this particular test for granted and start thinking about what the test actually involves and consider what you had to do to pass it.

Nondiscrimination ADP Test | Retirement Plan Compliance | Ohio CPA Firm
Similar to preparing a student for a big test, there’s only so much that can be done leading up to your plan’s compliance testing. When the testing finally occurs you must trust that, in working together, your retirement plan has been equipped with everything needed to come out on top. Read on to learn how to can prepare to pass your nondiscrimination ADP test.

How To Pass Your Nondiscrimination ADP Test

If you want to pass your nondiscrimination ADP test, you have to make sure that, of your plan participants, those identified as highly compensated are not able to defer (on average) at a percentage that is significantly greater than all others. This is important, especially to the Department of Labor (DOL), because your retirement plan should be designed for everybody – not just your highly compensated employees.

Collecting the necessary data from plan sponsors and making sure it all matches up to the plan documents takes the largest amount of time when preparing to conduct the initial calculation. But (referring back to the teacher/student example), even after spending so much time preparing, there’s still no guarantee that your plan will pass.

If things didn’t go your way the first time around, a third party administrator or recordkeeper can implement some testing strategies before jumping to correction.

  • The “otherwise excludable employees” strategy can be used to exclude participants from the test if your plan’s eligibility requirements are generally more liberal than the requirements set forth in the test. In deploying this strategy, you could effectively reduce the number of employees involved in the test, which would alter the test’s results.
  • The alternative definition of compensation strategy would change the compensation used in the calculation, which would potentially reduce the variance between the plan’s average participants and highly compensated participants.
  • The amended plan strategy would introduce language to the plan document that officially changes the ADP testing method or the definition of who is considered highly compensated.

If any (or all) of these strategies are applied and accomplish what they are designed to do, the test will pass.

But sometimes even these additional strategies, regardless of how many hours are invested into the project, fail to have the desired effect. When the tests continue to fail the nondiscrimination ADP test, the focus will shift to corrections.

Over the 12 months following the plan’s year-end, the plan sponsor can correct the plan’s failure by distributing excess contributions from highly compensated employees or issue additional contributions to the non-highly compensated employees. Performing these actions will force the test to have the minimum variance necessary to pass the test.

Retirement Plan Participation | ADP Test Score | Ohio CPA Firm
Collecting the necessary data from plan sponsors and making sure it all matches up to the plan documents takes the largest amount of time when preparing to conduct the initial calculation. But (referring back to the teacher/student example), even after spending so much time preparing, there’s still no guarantee that your plan will pass.

Don’t Take Your ‘Pass’ For Granted

In the past, you may have just opened your packet of testing results, saw a “Pass” and tossed the report aside. Hopefully you will now have a greater understanding, and appreciation for what this grade represents. Just as you and your management team continues to put in a significant amount of time and energy to keep your organization running, you can trust that your plan’s third party administrator or recordkeeper is working hard every day to keep your plan up and running – and compliant.

Do you have questions about your plan’s testing requirements? Email the retirement plan audit team at Rea & Associates or contact me directly.

By Kim Veal, CPA (Lima office)

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