Special Considerations for Non-Calendar Year 401(k) Plans

Defined contribution plans, including 401(k) plans, generally operate on the basis of calendar years, which coincides with many of ERISA’s and the Internal Revenue Code (IRC)’s requirements, and prevents compliance and administration complications that can arise from using off-calendar plan years. However, occasionally a 401(k) plan will follow a non-calendar plan year, often because some of the plan’s terms are governed by a union contract, or perhaps because the sponsoring employer’s fiscal year is based on a non-calendar year.

But because so many of a 401(k) plan’s governing rules are based on calendar year principles, having a non-calendar year plan does present special considerations. Non-calendar plan years can also be more expensive to administer, since certain deadlines and plan limits do not coincide with those of calendar plan years, thereby requiring special scheduling, calculating, and monitoring to ensure timeliness and compliance.

Some of the most frequently encountered compliance and administrative issues regarding non-calendar year 401(k) plans are briefly discussed below.

Data Collection

Since the typical payroll system is based on an annual reporting system based on the calendar year, producing records for periods that straddle two calendar years requires additional effort. This generally entails generating two separate reports – one that follows the calendar year (for purposes of preparing W2 forms and similar items), and another solely for 401(k) plan purposes (see below). The dual process can be time-consuming and may lead to blunders if not carefully undertaken.

Eligibility and Participation

401(k) plans typically require employees to complete a certain number of hours of service (usually 1,000) to become eligible to participate in the plan. If the plan operates on an off-calendar year, then those hours must be measured on the basis of the selected plan year – not on the basis of the calendar year — in order to properly determine when a new hire has accumulated enough hours to become eligible to participate.

Similarly, plan entry dates (the dates on which an employee actually enters the plan once he or she satisfies the eligibility requirements) must be managed on the basis of the plan year. Many 401(k) plans, for example, have quarterly entry dates. For calendar year plans, these are easy to determine; however, for off-calendar plan years, the first day of the quarter for plan purposes will not coincide with the first day of the calendar quarter. This may seem simple enough, but it is often missed. The plan document should set forth the plan’s entry dates, and it is important to know what they are! If the plan uses monthly entry dates, then of course the entry dates will not differ in operation from those of a calendar year plan.

401(k) Plan Limits

Elective Deferral Limit – The limit on elective deferrals (including any catch-up contributions) under IRC Section 402(g) operates on a calendar year basis, not a plan year basis. This is true because the limit is applied to the individual as a taxpayer, not to the plan itself – and individuals are always taxed on the basis of calendar year. Therefore, application of the 402(g) limit (including any annual adjustment that may be made upon the beginning of a new calendar year) is independent of, and has no bearing on, the plan year. Therefore, it is critical to be sure that the payroll system is setup to properly monitor these limits for each calendar year, even though the plan operates on an off-calendar year.

Limit on Annual Additions – Similarly, the limit under IRC Section 415(c) upon the total contributions that a participant can receive in a single plan year from all sources (including employee deferrals and any employer contributions) is measured on a calendar year basis – unless the plan provides otherwise. However, the IRC Section 415(c) limit itself (see 401(k) Retirement Plan Limits) is always set by the IRS each calendar year.

So, for example, if the plan year (and the limitation year, assuming the plan says so) runs from July 1 through June 30, then, although this is the period used for actually measuring contributions, the limit itself is the limit for the calendar year that ends during the plan year.

• EXAMPLE: The County X Steel Workers 401(k) Plan has a July 1 through June 30 plan year and, per the plan document, this is also the limitation year. In 2021, the Code Section 415(c) limit on annual additions is $58,000. The 415(c) limit to be used for determining annual additions for the plan year running from July 1, 2010 through June 30, 2021 is $58,000, which is the 415 limit set by the IRS for the calendar year 2021 – the calendar year ending during the plan year being measured.

Annual Compensation Limit – The amount of compensation that may be taken into account for 401(k) plan purposes also is an annual limit (see 401(k) Retirement Plan Limits). Again, any annual adjustment that may be made by the IRS is independent of the plan year in the case of a non-calendar year plan.

But unlike the annual additions limit, the annual compensation limit for an off-calendar plan year is based on the annual Internal Revenue Code limit that is set for the calendar year in which the plan year begins (not ends).

• EXAMPLE: Under The County X Steel Workers 401(k) Plan, the annual compensation limit to be used in determining the maximum amount of employee compensation that may be taken into account for plan purposes during the plan year beginning on July 1, 2020 and ending on June 30, 2021, is the limit that is set to be in effect as of January 1, 2021 ($290,000).

Miscellaneous Limits – Most of the other limits that apply to 401(k) plans, including limits for identifying “highly compensated employees “and “key employees” for purposes of top-heavy testing, follow the same logic as the annual compensation limit – in other words, the annual limit to be applied to the plan year is the Internal Revenue Code limit set to be in effect for the calendar year in which the plan year begins, not ends.

Employer Contributions

It is important to understand how and when any employer matching and/or profit-sharing contributions (either discretionary or non-discretionary) are made under a non-calendar year plan. Although the Internal Revenue Code deadline for actually making tax-deductible employer contributions — actually depositing the money into the plan’s trust — generally is the due date (including extensions) for filing the sponsoring employer’s tax return, the employer contributions will generally be made on the basis of the plan year, not the calendar year, for accounting purposes. The employer’s taxable year and the plan year may not coincide, particularly in the case of a non-calendar year plan.

Further, making employer contributions on a non-calendar year basis can interact with the various Internal Revenue Code limits discussed above in a way that can present accounting difficulties that do not exist when everything is measured on the same calendar year basis. Further, the results can occasionally limit the amount of money that higher paid employees can accumulate in the plan during a given plan year. As a practical matter, this usually does not present problems, since non-calendar year plans tend to cover mostly union and other moderately paid employees.

Nondiscrimination Testing

Nondiscrimination testing also can be tricky in the case of a non-calendar year plan – here again, because the tests are normally conducted based on calendar year principles.

In terms of timing, although there are no explicit deadlines for performing the various tests (see chart below), each of them should be performed as soon as possible following the end of the plan year (except as otherwise noted), in order to determine whether any corrective action might need to be taken. Even though there are no deadlines for performing the tests themselves, there are deadlines for completing any corrective action that may need to be taken by the plan, should any of the tests fail. These deadlines generally also are determined relative to the plan year, unless otherwise noted.

Professional employee benefits advisors often recommend mid-year testing to help plan administrators determine whether informal steps (such as adjusting contribution rates for certain highly compensated employees) might need to be taken prior to the end of the plan year, in order to avoid having to take formal corrective action (such as making corrective distributions or taking remedial steps under EPCRS after the close of the plan year. So, for non-calendar year plans, both mid-year testing and testing after the close of the plan year must be based on the plan year, not the calendar year.

The following chart shows the deadlines for taking corrective action in the event of a failure to pass any of the various 401(k) plan nondiscrimination tests:

*NOTE: 402(g) elective deferral limit testing and correction, if necessary, is always performed on a calendar year basis, since it is unique to the taxpayer (participant), not the plan. For example, if a participant changes jobs mid-year and is therefore covered by two employer plans, he or she might exceed the 402(g) limit for the calendar year – which is generally a taxpayer issue, not an issue for the employer(s) or the plan(s).

Because the IRC limits previously discussed are set as annual limits based on calendar years, applying them to data compiled for non-calendar year plans can complicate the calculation of the 401(k) plan nondiscrimination tests (for example, the ADP and ACP tests), in much the same way as how this fact can also calculate data collection generally. It is critical to ensure that the limits and data are accurately reported and calculated, notwithstanding the straddling of two calendar years, to ensure proper testing results.

Reporting

Reporting and disclosure for non-calendar year plans can also present special concerns. Although many of the deadlines for reporting and disclosure are based on calendar years or calendar quarters (see below), or are based on the occurrence of certain events (for example, summary plan descriptions (“SPDs”) generally must be furnished to participants within 90 days of becoming covered under the plan), other deadlines are unique in the case of non-calendar year plans. The most critical of these are summarized below:

Form 5500 series – The annual Form 5500 series reports that 401(k) plan sponsors must file electronically with the DOL are due on or before the last day of the seventh month after the closing of the plan year. This, of course, is July 31 for calendar year plans. For non-calendar year plans, however, the filing date will differ; for example, for a plan year that ends on May 31st, the Form 5500 filing deadline would be December 31st.

Form 8955-SSA (Annual Registration Statement) – The deadline for these is the same as for Form 5500 (see above).

Form 5558 (Application for Extension to File) – The deadline for these is the same as for Form 5500 (see above).

Summary Annual Report (“SAR”) – The deadline for filing a 401(k) plan’s summary annual report is on or before the last day of the ninth month after the closing of the plan year. This would be September 30 for calendar plans, and, as an example, March 31st in the case of a plan having a plan year ending on May 31st.

Auto Enrollment Notice – Annual notices to participants and eligible employees participating in a 401(k) plan having an automatic enrollment feature must be provided by at least 30 days, but not more than 90 days, before the beginning of each plan year. So, for example, in the case of a plan having a plan year ending on May 31st, this would be any time from between May 2nd and March 3rd (not taking into account Sundays and holidays).

Annual and Quarterly Disclosures – A number of participant reports and disclosures (for example, individual benefit statements and financial performance disclosures) are required to be distributed on either a calendar year or calendar quarter basis. One possible result of this is that participants in non-calendar year plans might become confused when trying to compare fund performance or otherwise analyze data as it relates to their own plan. Non-calendar year plan disclosures, therefore, should be carefully drafted to help eliminate any possible confusion based on this discrepancy.

The information and content contained in this reference material are for general informational purposes only, and does not, and is not intended to, constitute legal advice. For specific questions concerning your 401(k) retirement plan, please consult your own ERISA attorney or professional advisor.