Do You Really Know Your Definition of Compensation?

christmas-bonus-cash‘Tis the time of year when many companies look back at their books to determine whether or not they can afford to pay year-end bonuses to their employees. If you are one of those companies who can give a little extra to your workforce this year, now is the time to take a closer look at your plan’s definition of compensation.

Just last week one of my plan sponsors called in a bit of a panic about how she was going to make sure that each employee received the bonus amount that the president of the company wanted to give them. Seems straight-forward enough, but her concern was how to correctly calculate the bonus amount to include tax, social security, and 401(k) bonus amounts. In other words, the president wanted each employee to receive $500, not $442 or $415, so our client was frantically trying to account for each employee’s 401(k) deferral amount in order to ensure that she gave each employee enough to get to the $500 mark. Before we started crunching the numbers, I stopped to praise her for knowing her plan well enough to know that bonuses were included in the definition of compensation! Because of her awareness, not only are the employees going to get a full $500 bonus (and those who defer into the plan will receive an even higher gross amount than their noncontributing counterparts), but the plan is safe from a possible finable offense.

On the other hand, we have also encountered some prospective 401(k) plan clients that did not have the same familiarity with their plan documents. In one case, a plan sponsor told us that no one expects 401(k) deferrals to be withheld from their paychecks, so they never had deducted that amount. Sound familiar? This is one of the most common mistakes we see plan sponsors make. Their intentions are good, but their execution is flawed. The fact is, if your company’s 401(k) plan document definition of compensation states that all W-2 wages and bonuses fall under W-2, then you must withhold deferrals (unless there are other provisions excluding them).

Unsure of what your 401(k) plan document says about bonuses or how to find this information? Please give me a call at 205.970.9088 or e-mail me at and let me help you!

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