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.