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What is a Highly Compensated Employee?

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Are you a highly compensated employee? No matter what you make, you probably don’t feel like a highly compensated employee (what’s that old saying – happiness is making a dollar more than you’re wife’s sister’s husband? :) ), but you might just be one. Whether or not you’re a highly compensated employee has an impact on your employer’s retirement benefits package. The retirement program has to prove that there is no bias towards highly compensated employees or it could lose the tax breaks it gets for having a retirement package.

A highly compensated employee is someone who owns more than a 5% interest in your business at any time during the year. Or, they could be considered highly compensated if they, in the preceding year, received compensation in excess of a specified amount (see the list below) and, if you choose to add this criteria, be in the top 20% of employees when ranked by compensation.

Highly compensated employee compensation limits:

  • 2006-2007: $100,000
  • 2008: $105,000
  • 2009-2011: $110,00
  • 2012-2013: $115,000

So if you earned more than $115,000 last year (2012) then you could be considered a highly compensated employee. Congratulations!

The bias becomes a factor because many companies contribute to a defined benefit or defined contribution plan based on the employee’s salary. Those earning more will naturally get a bigger benefit from the employer’s retirement package and the IRS wants to avoid this bias towards more richly compensated employees. They compare the amount the company contributes to the pool for highly compensated employees to the amount the company contributes to the remaining employees. if the difference is too great, as fined in this document, then the company could lose its tax benefits.

OK so what? If you are a highly compensated employee, you might be limited in how much you can contribute to your retirement plans. While the typical 401(k) plan limits employee contributions at $17,000, your employer may drop that limit to account for potential pension (defined benefit) contributions they are making on your behalf because of your salary. So if you are like my friend, who just recently received this letter, now you know what it means to be highly compensated.

Congratulations! :)

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52 Responses to “What is a Highly Compensated Employee?”

  1. Carol says:

    Soooo, this has happened twice to my husband, I think mostly because not a whole lot of people are contributing to the 401k @ his company. He is over 50 & we do max contributions so we can retire. It’s very frustration toget that stupid check because both times it was about $10,000. Yipes, that’s a terrible tax bill! We never are told untiol right around tax day. Is there a way we can know or figure out during the year where we stand? Is there a formula? His peoplethat supervise

  2. What about people having two jobs, none of them qualifying as HCE, but when combined together, qualifying as HCE. Or what about self-employed or CEOs with no salary / not on payroll, but making big enough income to qualify?

  3. JR says:

    Is a HCE eligible for participation in an FSA if the employer does not contribute to the FSA. In other words if the FSA is 100% funded by payroll deductions, how could there be an unfair advantage over other employees?

  4. Anonymous says:

    In my W-2 for 2010 Box 1 is less than
    $ 110,000, but Box 3 and Box 6 is more than
    $ 110,000. Am I fall within the 2010 limit for
    Highly Compensated Employee? In my organization all employees are welcome to participate in the 403 (b) retirement plan.
    Does the organization need to undego test?

  5. Stanley Smith says:

    In my W-2 for 2010 Box 1 is less than
    $ 110,000, but Box 3 and Box 6 is $ 123,000.
    Of the $123,000 (Socail Security & Medicare wages) $ 24,000 did not undergo treatment for Retirement benefits. That means $ 24000 is not the subjected to Retirement benefits.
    Only $ 99,000 is the suject matter for Retirement benefits.
    Do I fall within the 2010 limit for
    Highly Compensated Employee? In my organization all employees are welcome to participate in the 403 (b) retirement plan.
    Does the organization need to undego test?

  6. Monica E. says:

    I was awarded a 30K bonus last year for representing my company in court. This threw me over the 110K limit. This year I am making way less yet I am limited to a 6% contribution which is only about 5K for the year. I am way under the 16500 allowed. What other options do I have to shelter my money?

  7. Todd Bonham says:

    I am an employee of a small company, about 25 employees, noone makes over 110K. How would you determine HCEs in this case?

  8. Anonymous says:

    This is Crap!!!

  9. Anonymous says:

    I just got my first HCE letter and ‘refund check’ from my 401k provider. They took the money out of my 401k and charged me tax. What can I do with it now? I make too much to get a tax break in an IRA. Is my only option to plop it into a ROTH?

  10. Shane says:

    The company I work for just switched over to a new plan as far as my retirement goes and when the switch was made I was informed that I won’t receive my pretax benefits because I earned more than 110,000, the benefit was 6.75 a hour and like I said was pretax so that would cover my medical and after that the rest would trickle into my pension each month, now instead of that covering that I get the 6.75 straight as a sub on my check, taxed of course and I have to pay out of pocket for my medical, can’t the company just contribute less so I can still receive my pension and not go thru this hassle?


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