3571 / Can a private IRC Section 451 unfunded nonqualified deferred compensation employee account balance plan be used in connection with a qualified 401(k) elective deferral plan to maximize the annual deferrals into the qualified 401(k) and also to receive employee contributions that cannot go into the qualified plan because of nondiscrimination testing issues?

A 1995 private letter ruling approved a particular nonqualified/401(k) “wrap-around,” “spill-over” or “pour-over” plan.¹ Since then, more rulings approving the use of wrap-around plans have been issued.² Wrap-around plans have been primarily used to maximize elective deferrals under both an IRC Section 401(k) plan and a nonqualified voluntary employee account balance plan, which generally is subject to IRS Section 409A. These plans are referred to as “linked” plans by the IRS for purposes of Section 409A, as are “excess benefit” plans. Such a nonqualified arrangement may be unnecessary due to the method by which the actual deferral percentage test for 401(k) plans now is administered ( Q 3802).

For employers that continue to elect to use the current year testing method on their qualified plans, use of a wrap-around nonqualified employee account balance plan will continue to provide planning opportunities and any employer, regardless of method, may desire a nonqualified employee account balance plan to permit highly compensated employees to voluntarily defer more than that permitted under a qualified plan.

Section 409A Impact

Under final regulations to IRC Section 409A, the IRS advised that such a wrap-around nonqualified plan is still possible under IRC Section 409A if it meets certain requirements:

(1)   The plan must follow the structure provided in the favorable IRS letter rulings (contributions must all go first into the nonqualified employee account balance plan and then spill into the qualified 401(k) as it becomes clear the qualified plan may receive them, based on discrimination testing).

(2)   Such a linkage may not result in a decrease in deferrals in the nonqualified arrangement in excess of the deferral limits under IRC Section 402(g)(1)(b) ($23,500 in 2025, $23,000 in 2024, $22,500 in 2023, $20,500 in 2022, $19,500 in 2020 and 2021, $19,000 in 2019).³ For existing nonqualified wrap-around arrangements, the IRS offered transition relief through December 31, 2008. For these plans, elections as to the timing and form of payment under the nonqualified plan that are controlled by the qualified plan were permitted through December 31, 2008. Elections had to be made in accordance with the terms of the nonqualified plan as of October 3, 2004.⁴ In Notice 2010-80, the IRS modified Notice 2010-6 governing plan documentation correction to allow “linked” plan documentation under the notice’s guidance so long as certain prerequisites are met.