[Federal Register Volume 68, Number 130 (Tuesday, July 8, 2003)]
[Rules and Regulations]
[Pages 40510-40520]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 03-17226]


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DEPARTMENT OF TREASURY

Internal Revenue Service

26 CFR Part 1

[TD 9072]
RIN 1545-BA24


Catch-Up Contributions for Individuals Age 50 or Older

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Final regulations.

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SUMMARY: This document contains final regulations that provide guidance 
concerning the requirements for retirement plans providing catch-up 
contributions to individuals age 50 or older pursuant to the provisions 
of section 414(v). These final regulations affect section 401(k) plans, 
section 408(p) SIMPLE IRA plans, section 408(k) simplified employee 
pensions, section 403(b) tax-sheltered annuity contracts, and section 
457 eligible governmental plans, and affect participants eligible to 
make elective deferrals under these plans or contracts.

DATES: Effective Date: These final regulations are effective on July 8, 
2003.
    Applicability Date: These final regulations are applicable to 
contributions in taxable years beginning on or after January 1, 2004.

FOR FURTHER INFORMATION CONTACT: R. Lisa Mojiri-Azad or John T. Ricotta 
at 622-6060.

SUPPLEMENTARY INFORMATION:

[[Page 40511]]

Background

    This document contains amendments to the Income Tax Regulations (26 
CFR Part 1) under sections 402(g) and 414(v) of the Internal Revenue 
Code (Code). Section 414(v), added by the Economic Growth and Tax 
Relief Reconciliation Act of 2001 (EGTRRA) (Public Law 107-16; 115 
Stat. 38), effective for years beginning after December 31, 2001, 
permits an individual age 50 or older to make additional elective 
deferrals each year, up to a dollar limit, if certain requirements 
provided under that section are satisfied. Under section 414(v)(3), 
these additional elective deferrals are not subject to certain 
otherwise applicable limitations on elective deferrals and are excluded 
from consideration for certain nondiscrimination tests. Under section 
414(v)(4), catch-up contributions generally must be made available to 
all catch-up eligible individuals who participate under any plan 
maintained by the employer that provides for elective deferrals.
    Section 402(g)(1)(C) was added by the Job Creation and Worker 
Assistance Act of 2002, (JCWAA) (Public Law 107-147; 116 Stat. 21), 
effective for years beginning after December 31, 2001. This section 
increases the amount of elective deferrals that a catch-up eligible 
participant, as defined in section 414(v), may exclude from gross 
income under section 402(g) by the same dollar limit applicable for the 
year under section 414(v).
    JCWAA also included technical corrections to section 414(v), 
including clarifications relating to: initial eligibility to make 
catch-up contributions, coordination of section 414(v) catch-up 
contributions for individuals who participate in more than one plan, 
coordination of section 414(v) catch-up contributions with the catch-up 
contributions provided under section 457(b)(3), and the application of 
the universal availability requirement of section 414(v)(4) in 
connection with mergers and acquisitions.
    Proposed regulations under section 414(v) were published in the 
Federal Register on October 23, 2001 (66 FR 53555). On February 21, 
2002, a public hearing was held on the proposed regulations. Notice 
2002-4 (2002-1 C.B. 298) provided transitional rules for complying with 
the universal availability requirement of section 414(v)(4) and the 
proposed regulations.
    After consideration of the comments and the changes made by JCWAA, 
these final regulations adopt the provisions of the proposed 
regulations with certain modifications, the most significant of which 
are highlighted below.

Explanation of Provisions

    Under these final regulations, an applicable employer plan is not 
treated as violating any provision of the Code merely because the plan 
permits a catch-up eligible participant to make catch-up contributions. 
For this purpose, an applicable employer plan is a section 401(k) plan, 
a SIMPLE IRA plan (as defined in section 408(p)), a simplified employee 
pension (as defined in section 408(k)) (SEP), a plan or contract that 
satisfies the requirements of section 403(b), or a section 457 plan 
maintained by an eligible governmental employer (a section 457 eligible 
governmental plan).
    Catch-up contributions are elective deferrals made by a catch-up 
eligible participant that exceed an otherwise applicable limit and that 
are treated as catch-up contributions under the plan, but only to the 
extent they do not exceed the maximum amount of catch-up contributions 
permitted for the taxable year. An employer is not required to provide 
for catch-up contributions in any of its plans. However, if any plan of 
an employer provides for catch-up contributions, all plans of the 
employer that provide for elective deferrals must comply with the 
universal availability requirement described below, to the extent 
applicable.

A. Eligibility for Catch-up Contributions

    As under the proposed regulations, a participant is a catch-up 
eligible participant, and thus is permitted to make catch-up 
contributions, if the participant is otherwise eligible to make 
elective deferrals under the plan and would attain age 50 or older 
before the end of the participant's taxable year. In the case of a non-
calendar year plan, a participant is treated as a catch-up eligible 
participant beginning on January 1 of the calendar year that includes 
the participant's 50th birthday, without regard to the plan year.

B. Determination of Catch-up Contributions

    These final regulations retain the same basic structure for 
determining catch-up contributions as provided in the proposed 
regulations. Elective deferrals made by a catch-up eligible participant 
are treated as catch-up contributions if they exceed any otherwise 
applicable limit, to the extent they do not exceed the maximum dollar 
amount of catch-up contributions permitted under section 414(v). Catch-
up contributions are determined by reference to three types of 
otherwise applicable limits: statutory limits, employer-provided 
limits, and the actual deferral percentage (ADP) limit.
    A statutory limit is a limit contained in the Code on elective 
deferrals or annual additions permitted to be made under the plan or 
contract (without regard to section 414(v)). Statutory limits include 
the requirement under section 401(a)(30) that a plan limit all elective 
deferrals within a calendar year under the plan and other plans (or 
contracts) maintained by members of a controlled group to the amount 
permitted under section 402(g).
    An employer-provided limit is a limit on the elective deferrals an 
employee can make under the plan (without regard to section 414(v)) 
that is contained in the terms of the plan, but is not a statutory 
limit or the ADP limit. A number of commentators suggested that the 
regulations specifically provide that a limitation on elective 
deferrals set by the plan administrator in accordance with plan terms 
is a limit contained in the terms of the plan. As noted in the preamble 
to the proposed regulations, the condition that an employer-provided 
limit be contained in the terms of the plan is intended to correspond 
with the requirements of Sec.  1.401-1 that a qualified plan be a 
definite written program and provide for a definite predetermined 
formula for allocating contributions made to the plan. Accordingly, if 
a limit is otherwise permissible under a section 401(k) plan, the limit 
will also satisfy the requirement in section 414(v)(5) that the limit 
be contained in the terms of the plan.
    The ADP limit is the highest dollar amount of elective deferrals 
that any highly compensated employee (HCE) is permitted under a section 
401(k) plan for a plan year by reason of the ADP test under section 
401(k)(3) (without regard to section 414(v)). The ADP limit is 
determined after taking into account all elective deferrals (other than 
elective deferrals that are catch-up contributions because of an 
employer-provided limit or statutory limit) and qualified nonelective 
contributions or qualified matching contributions for the plan year in 
accordance with section 401(k)(3) and the applicable regulations, and 
after any necessary correction under section 401(k)(8).
    The final regulations retain the rule that the amount of elective 
deferrals in excess of an applicable limit is generally determined as 
of the end of a plan year by comparing the total elective deferrals for 
the plan year with the applicable limit for the plan year. For an 
applicable limit that is determined on the basis of

[[Page 40512]]

a year other than a plan year (such as the calendar year limit on 
elective deferrals under section 401(a)(30)), the determination of 
whether elective deferrals are in excess of the applicable limit is 
made on the basis of such other year.
    As under the proposed regulations, this annual method for 
determining whether amounts are in excess of an applicable limit also 
applies to an employer-provided limit that is applied on a payroll-by-
payroll basis during the plan year. A number of commentators suggested 
that plans that provide for payroll-by-payroll limits, or similar 
limits that apply to a portion of the plan year, be permitted to 
determine amounts in excess of an applicable limit based on the period 
for which the limit is applied. These commentators noted that, although 
a plan is permitted to determine an additional amount of elective 
deferrals that a catch-up eligible participant is permitted to make on 
a payroll-by-payroll basis, the plan could not designate these elective 
deferrals as catch-up contributions on the same basis. These 
commentators suggested that for such a plan, an annual determination 
process would require the plan to collect and retain additional data 
during the year. In many cases, plans use a definition of compensation 
for purposes of ADP testing that is different from the definition used 
during the year to determine elective deferrals. Recordkeepers for 
these plans must collect and retain payroll-by-payroll compensation, 
and then determine the employer-provided limit on an annual basis 
before determining the amount of elective deferrals that are catch-up 
contributions.
    A number of advocates for a payroll-by-payroll determination of 
catch-up contributions acknowledged that their proposal creates a risk 
that ADP testing could be distorted through changes in plan limits 
during the year. For example, if a plan were to provide that HCEs' 
elective deferrals are limited, on a payroll-by-payroll basis, to 1% of 
compensation for the first 2 months of the plan year, and then to 15% 
of compensation for the remainder of the year, the result would be 
equivalent to treating the first dollars deferred as catch-up 
contributions. While few employers might be likely to adopt such a 
design, a payroll-by-payroll system for determining catch-up 
contributions would require restrictions on the extent to which changes 
in employer-provided limits during the year could be made.
    After considering these comments, Treasury and the IRS have 
determined that the need for rules to prevent abuse associated with a 
payroll-by-payroll method of determining catch-up contributions 
outweighs the relative administrative advantages of that method, and 
these regulations retain the annual method. However, to address 
administrative concerns raised in these comments, these regulations 
also expand the alternative methods for determining an employer-
provided limit in order to avoid requiring plans that use one 
definition of compensation for elective deferrals and another 
definition for ADP testing purposes to collect and retain data on both 
definitions.
    These final regulations retain the rule in the proposed regulations 
that a plan that changes an employer-provided limit during the plan 
year is permitted to use a time-weighted average of these limits as the 
employer-provided limit. For example, under this alternative method, a 
plan that provides for an employer-provided limit of 8% for the first 6 
months of the plan year and 10% for the second 6 months is permitted to 
use 9% as the employer-provided limit for the plan year. These final 
regulations also provide that the plan is permitted to use the 
definition of compensation used for ADP testing purposes for this 
weighted-average simplification, and can use this alternative method 
without regard to whether the employer-provided limit is changed during 
the plan year.

C. Treatment of Catch-up Contributions

    An elective deferral that is treated as a catch-up contribution is 
not subject to otherwise applicable limits under the applicable 
employer plan and the plan will not be treated as failing otherwise 
applicable nondiscrimination requirements because of catch-up 
contributions. Under these final regulations (including changes from 
the proposed regulations to reflect the provisions of JCWAA), catch-up 
contributions are not taken into account in applying the limits of 
section 401(a)(30), 402(h), 403(b), 408, 415(c), or 457(b)(2) 
(determined without regard to section 457(b)(3)) to other contributions 
or benefits under the plan offering catch-up contributions or under any 
other plan of the employer.
    Elective deferrals that are treated as catch-up contributions under 
a plan because they exceed a statutory limit or an employer-provided 
limit are disregarded for purposes of ADP testing. These catch-up 
contributions are subtracted from the participant's elective deferrals 
for the plan year prior to determining the participant's actual 
deferral ratio. This subtraction applies without regard to whether the 
catch-up eligible participant is an HCE or a nonhighly compensated 
employee (NHCE). If a plan needs to take corrective action under 
section 401(k)(8), the plan must determine the amount of elective 
deferrals for HCEs that are catch-up contributions because they are in 
excess of the ADP limit and retain such amounts. The plan would not be 
treated as failing section 401(k)(8) because these excess contributions 
are treated as catch-up contributions and retained.
    Amounts in excess of an applicable limit are treated as catch-up 
contributions only to the extent that such excess amounts, combined 
with amounts previously treated as catch-up contributions for the 
taxable year, do not exceed the catch-up contribution limit for the 
year. As discussed above, whether elective deferrals in excess of an 
applicable limit can be treated as catch-up contributions is determined 
based on the year (e.g., plan year, calendar year, or limitation year) 
with respect to which each applicable limit is applied.
    The interaction of this timing rule and the catch-up contribution 
limit for the year is most significant for a plan with a plan year that 
is not the calendar year. For example, in a plan with a plan year 
ending on June 30, 2005, elective deferrals in excess of the employer-
provided limit or the ADP limit for the plan year ending June 30, 2005, 
would be treated as catch-up contributions as of the last day of the 
plan year, up to the catch-up contribution limit for 2005. These catch-
up contributions are not taken into account for purposes of compliance 
with section 401(a)(30) for 2005. After June 30, 2005, the catch-up 
eligible participant is permitted to continue to make elective 
deferrals up to the section 401(a)(30) limit for 2005 (disregarding any 
amounts treated as catch-up contributions for 2005, as of June 30, 
2005) and these additional contributions are not treated as 
contributions in excess of the section 401(a)(30) limit. Accordingly, 
these additional contributions are generally taken into account under 
the ADP test for the plan year ending June 30, 2006. In addition, to 
the extent the catch-up eligible participant has not made catch-up 
contributions up to the catch-up contribution limit for 2005, the 
participant can make additional catch-up contributions in excess of the 
section 401(a)(30) limit for 2005. These latter contributions are 
catch-up contributions which will not be taken into account under the 
ADP test for the plan year ending June 30, 2006.
    Without regard to their special treatment under certain 
nondiscrimination provisions and limitations under the Code, catch-up

[[Page 40513]]

contributions are elective deferrals and remain subject to the 
applicable requirements for elective deferrals. For example, catch-up 
contributions under an applicable employer plan that is a section 
401(k) plan are subject to the distribution and vesting restrictions of 
section 401(k)(2)(B) and (C), although the plan provisions applicable 
to distributions of elective deferrals treated as catch-up 
contributions may differ from those applicable to other elective 
deferrals under the plan (as long as each provision complies with the 
distribution restrictions of section 401(k)(2)(B)). In addition, excess 
contributions treated as catch-up contributions nevertheless remain 
excess contributions for purposes of section 411(a)(3)(G). Therefore, 
the plan is permitted to provide that matching contributions related to 
excess contributions treated as catch-up contributions are forfeited. 
However, as discussed below, it is also permissible for a plan to 
provide that these matching contributions are not forfeited, without 
violating section 401(a)(4).
    These final regulations retain the rules of the proposed 
regulations on the treatment of catch-up contributions for purposes of 
sections 416, 410(b) and 401(a)(4). Catch-up contributions for the 
current plan year are not taken into account under section 416 or 
410(b). However, catch-up contributions for prior years are taken into 
account in determining whether a plan is top-heavy under section 416, 
and for purposes of average benefit percentage testing to the extent 
prior years' contributions are taken into account (i.e., if accrued-to-
date calculations are used). In addition, a plan does not fail the 
requirements of section 401(a)(4) merely because it permits only catch-
up eligible participants to make catch-up contributions, without regard 
to whether the group of catch-up eligible employees would satisfy 
section 410(b). Similarly, if a plan applies a single matching formula 
to elective deferrals whether or not they are catch-up contributions, 
the matching formula as applied to catch-up eligible participants is 
not treated as a separate benefit, right, or feature under Sec.  
1.401(a)(4)-4 from the matching formula as applied to the other 
participants. However, the matching contributions under the plan must 
satisfy the actual contribution percentage test under section 401(m)(2) 
taking into account all matching contributions, including matching 
contributions on catch-up contributions.
    A number of commentators indicated that some employers would not 
want to provide matching contributions on catch-up contributions and 
requested guidance on how they might accomplish that goal in light of 
the annual determination of whether amounts are in excess of an 
employer-provided limit. The IRS and Treasury believe that employers 
can achieve their desired goal by specifying which contributions will 
be matched, rather than specifying which contributions will not be 
matched. For example, if an employer-provided limit on elective 
deferrals is 10% of compensation for each payroll period, the plan can 
specify that matching contributions will be made based on elective 
deferrals that do not exceed 10% of compensation for that payroll 
period (and that do not exceed a statutory limit), and that matching 
contributions on elective deferrals in excess of the ADP limit will be 
forfeited, with the assurance that the plan will not be matching catch-
up contributions.

D. Universal Availability

    Section 414(v)(4)(A) provides that an applicable employer plan is 
treated as failing to comply with section 401(a)(4) unless the plan 
allows all catch-up eligible participants to make the same election 
with respect to additional elective deferrals. Section 414(v)(4)(B) 
provides that, for this purpose, all plans maintained by employers 
treated as a single employer under section 414(b), (c), (m) or (o) are 
treated as a single plan. The proposed regulations provided that, if an 
applicable employer plan otherwise subject to section 401(a)(4) 
provides for catch-up contributions, all other applicable employer 
plans in the controlled group that provide for elective deferrals 
(including plans not subject to section 401(a)(4)) must provide catch-
up eligible participants with the same effective opportunity to make 
catch-up contributions. The proposed regulations also included a 
transition rule for collectively bargained plans and an exception 
related to mergers and acquisitions.
    Several commentators requested that collectively bargained 
employees described in section 410(b)(3) be disregarded for purposes of 
the universal availability requirement, just as they are disregarded 
for purposes of section 401(a)(4) compliance. These commentators 
explained that it is difficult to coordinate catch-up contributions 
among non-collectively bargained employees and collectively bargained 
employees, particularly when more than one collective bargaining unit 
is involved. For employers participating in multiemployer plans, the 
difficulties are increased significantly, because of the implications 
for other, unrelated employers. Some commentators also requested that 
other groups of employees be excluded pursuant to provisions of the 
regulations under section 410(b) allowing employees to be excluded 
based on plan design, such as participants who have not met the minimum 
age and service requirements of section 410(a)(1) or employees in 
different qualified separate lines of business under section 414(r).
    In response to comments, these final regulations provide that 
employees described in section 410(b)(3), most notably collectively 
bargained employees, are disregarded for purposes of determining 
whether an applicable employer plan complies with the universal 
availability requirement. Pursuant to sections 401(a)(4) and 410(b)(3), 
collectively bargained employees are disregarded for purposes of 
section 401(a)(4), without regard to plan design or an employer's 
choice of testing method. The final regulations do not adopt the other 
suggested exclusions, participants who have not met minimum age and 
service or participants in different qualified separate lines of 
business, because these exclusions are based on plan design and testing 
choices.
    These regulations otherwise retain the basic rules of the proposed 
regulations relating to universal availability and provide that a plan 
that offers catch-up contributions satisfies the requirements of 
section 401(a)(4) only if all catch-up eligible participants are 
provided with an effective opportunity to make the same dollar amount 
of catch-up contributions. Catch-up eligible participants do not have 
an effective opportunity to make catch-up contributions unless the 
applicable employer plan permits each catch-up eligible participant to 
make sufficient elective deferrals during the year so that the 
participant has the opportunity to make elective deferrals up to the 
otherwise applicable limit plus the catch-up contribution limit. An 
effective opportunity could be provided in several different ways. For 
example, a plan that limits elective deferrals on a payroll-by-payroll 
basis might also provide participants with an opportunity to make 
catch-up contributions that is administered on a payroll-by-payroll 
basis (i.e., by allowing catch-up eligible participants to increase 
their deferrals above the otherwise applicable limit by a pro-rata 
portion of the catch-up limit for the year). The plan would satisfy the 
effective opportunity requirement even though, as discussed above, 
whether these elective deferrals are treated as catch-up contributions 
would not be determined until the end of the year.

[[Page 40514]]

    A plan will not fail the universal availability requirement solely 
because an employer-provided limit does not apply to all employees or 
different employer-provided limits apply to different groups of 
employees, as long as each limit satisfies the nondiscriminatory 
availability requirements of Sec.  1.401(a)(4)-4 for benefits, rights, 
and features. Thus, for example, a plan could provide for an employer-
provided limit that applies to HCEs, even though no employer-provided 
limit applies to NHCEs. However, as under the proposed regulations, 
these final regulations retain the rule that an applicable employer 
plan is not permitted to provide lower employer-provided limits for 
catch-up eligible participants. Furthermore, a plan fails to provide an 
effective opportunity to make catch-up contributions if it has an 
applicable limit (e.g., an employer-provided limit) and does not permit 
all catch-up eligible participants to make elective deferrals in excess 
of that limit.
    In addition to the exclusion for collectively bargained employees 
discussed above, these final regulations include several other 
exceptions to the universal availability requirement. Under these 
regulations, a plan does not fail the universal availability 
requirement because it restricts elective deferrals, including elective 
deferrals for catch-up eligible participants, under a cash availability 
limit. A cash availability limit is a limit that restricts elective 
deferrals to amounts available after withholding from the employee's 
pay (e.g., after deduction of all applicable income and employment 
taxes). For this purpose, a limit of 75% of compensation or higher will 
be treated as limiting employees to amounts available after other 
withholdings.
    These final regulations also include a broader exception to the 
universal availability requirement during the transition period 
provided under section 410(b)(6)(C) than was included in the proposed 
regulations, consistent with the amendments made by JCWAA. Under these 
final regulations, an applicable employer plan that satisfies the 
universal availability requirement before an acquisition or disposition 
described in Sec.  1.410(b)-2(f) continues to be treated as satisfying 
the universal availability requirement of section 414(v)(4) through the 
end of the period described in section 410(b)(6)(C). These final 
regulations also retain a rule providing for coordination between 
catch-up contributions under section 414(v) and the provisions of 
section 457(b)(3), in accordance with section 414(v)(6)(C).
    A number of comments were received on the application of the 
universal availability requirement to an applicable employer plan that 
is qualified under Puerto Rico tax law as well as under the Code. These 
final regulations do not affect the transitional relief granted in 
Notice 2002-4 that provides that an applicable employer plan will not 
fail to satisfy the universal availability requirement solely because 
another applicable employer plan of the employer that is qualified 
under Puerto Rico law does not provide for catch-up contributions.

E. Participants in Multiple Plans

    The technical corrections in JCWAA amended section 414(v) to 
provide that all applicable employer plans of an employer, other than 
section 457 eligible governmental plans, are treated as one plan for 
purposes of determining the amount of catch-up contributions and all 
section 457 eligible governmental plans of the same employer are 
treated as one plan for this purpose. Statutory limits, such as the 
limits under section 401(a)(30) or 415, already provide for 
coordination among plans in the same controlled group, and elective 
deferrals in addition to the amounts permitted under these limits are 
similarly coordinated. Employer-provided limits, however, apply only to 
the plan that provides for the limit, and the ADP limit applies only to 
section 401(k) plans. Accordingly, these final regulations provide 
guidance on coordination of the amount in excess of these limits on a 
controlled-group basis.
    With respect to employer-provided limits, these regulations allow a 
plan to permit a catch-up eligible participant to defer an amount in 
addition to the amount allowed under the employer-provided limit, 
without regard to whether the employee has already utilized his or her 
catch-up opportunity under another plan of the same employer. However, 
to the extent elective deferrals under another plan maintained by the 
employer have already been treated as catch-up contributions during the 
taxable year, the elective deferrals under the plan may be treated as 
catch-up contributions only up to the amount remaining under the catch-
up limit for the year. Any other elective deferrals that exceed the 
employer-provided limit may not be treated as catch-up contributions 
and must satisfy the otherwise applicable nondiscrimination rules. For 
example, the right to make contributions in excess of the employer-
provided limit is an other right or feature which must satisfy Sec.  
1.401(a)(4)-4 to the extent that the contributions are not catch-up 
contributions. Also, contributions in excess of the employer provided 
limit are taken into account under the ADP test to the extent they are 
not catch-up contributions.
    Finally, these regulations retain the allocation rule included in 
the proposed regulations. When a participant is eligible under more 
than one applicable employer plan maintained by the same employer, the 
specific plan under which amounts in excess of an applicable limit are 
treated as catch-up contributions is permitted to be determined in any 
manner that is not inconsistent with the manner in which such amounts 
were actually deferred under the plans.

F. Excludability of Catch-up Contributions

    JCWAA amended section 402(g) to increase the elective deferral 
limit for a catch-up eligible participant by the amount of the 
allowable catch-up contributions for the taxable year. The provisions 
of these final regulations related to these provisions are under new 
Sec.  1.402(g)-2, rather than under Sec.  1.414(v)-1, as in the 
proposed regulations. Under Sec.  1.402(g)-2, the amount of elective 
deferrals that a catch-up eligible participant is permitted to exclude 
from income under section 402(g) for the taxable year is increased by 
the maximum amount of catch-up contributions permitted for the taxable 
year under section 414(v). This treatment by the catch-up eligible 
participant is not affected by whether the applicable employer plans 
treat the elective deferrals as catch-up contributions. Thus, a catch-
up eligible participant who participates in plans of two or more 
employers is permitted to exclude from gross income elective deferrals 
that exceed the section 402(g) limit, even though neither plan treats 
those elective deferrals as catch-up contributions. In addition, the 
treatment by an individual of such elective deferrals as catch-up 
contributions will not have any effect on either employer's plan.

Effective Date

    These final regulations are applicable to contributions in taxable 
years beginning on or after January 1, 2004. Taxpayers are permitted to 
rely on these final regulations and the proposed regulations for 
taxable years beginning prior to January 1, 2004.

Special Analyses

    It has been determined that these final regulations are not a 
significant regulatory action as defined in

[[Page 40515]]

Executive Order 12866. Therefore, a regulatory assessment is not 
required. It also has been determined that section 553(b) of the 
Administrative Procedure Act (5 U.S.C. chapter 5) does not apply to 
these regulations. Because Sec. Sec.  1.402(g)-2 and 1.414(v)-1 impose 
no new collection of information on small entities, the Regulatory 
Flexibility Act (5 U.S.C. chapter 6) does not apply. Pursuant to 
section 7805(f) of the Internal Revenue Code, the notice of proposed 
rulemaking that preceded these final regulations was submitted to the 
Chief Counsel for Advocacy of the Small Business Administration for 
comment on its impact on small business.

Drafting Information

    The principal authors of these regulations are R. Lisa Mojiri-Azad 
and John T. Ricotta of the Office of the Division Counsel/Associate 
Chief Counsel (Tax Exempt and Government Entities). However, other 
personnel from the IRS and Treasury participated in their development.

List of Subjects in 26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

Adoption of Amendments to the Regulations

0
Accordingly, 26 CFR part 1 is amended as follows:

PART 1--INCOME TAXES

0
Paragraph 1. The authority citation for part 1 continues to read in 
part as follows:

    Authority: 26 U.S.C. 7805 * * *.


0
Par. 2. Section 1.402(g)-2 is added to read as follows:


Sec.  1.402(g)-2  Increased limit for catch-up contributions.

    (a) General rule. Under section 402(g)(1)(C), in determining the 
amount of elective deferrals that are includible in gross income under 
section 402(g) for a catch-up eligible participant (within the meaning 
of Sec.  1.414(v)-1(g)), the otherwise applicable dollar limit under 
section 402(g)(1)(B) (as increased under section 402(g)(7), to the 
extent applicable) shall be further increased by the applicable dollar 
catch-up limit as set forth under Sec.  1.414(v)-1(c)(2).
    (b) Participants in multiple plans. Paragraph (a) of this section 
applies without regard to whether the applicable employer plans (within 
the meaning of section 414(v)(6)) treat the elective deferrals as 
catch-up contributions. Thus, a catch-up eligible participant who makes 
elective deferrals under applicable employer plans of two or more 
employers that in total exceed the applicable dollar amount under 
section 402(g)(1) by an amount that does not exceed the applicable 
dollar catch-up limit under either plan may exclude the elective 
deferrals from gross income, even if neither applicable employer plan 
treats those elective deferrals as catch-up contributions.
    (c) Effective date--(1) Statutory effective date. Section 
402(g)(1)(C) applies to contributions in taxable years beginning on or 
after January 1, 2002.
    (2) Regulatory effective date. Paragraphs (a) and (b) of this 
section apply to contributions in taxable years beginning on or after 
January 1, 2004.

0
Par. 3. Section 1.414(v)-1 is added to read as follows:


Sec.  1.414(v)-1  Catch-up contributions.

    (a) Catch-up contributions--(1) General rule. An applicable 
employer plan shall not be treated as failing to meet any requirement 
of the Internal Revenue Code solely because the plan permits a catch-up 
eligible participant to make catch-up contributions in accordance with 
section 414(v) and this section. With respect to an applicable employer 
plan, catch-up contributions are elective deferrals made by a catch-up 
eligible participant that exceed any of the applicable limits set forth 
in paragraph (b) of this section and that are treated under the 
applicable employer plan as catch-up contributions, but only to the 
extent they do not exceed the catch-up contribution limit described in 
paragraph (c) of this section (determined in accordance with the 
special rules for employers that maintain multiple applicable employer 
plans in paragraph (f) of this section, if applicable). To the extent 
provided under paragraph (d) of this section, catch-up contributions 
are disregarded for purposes of various statutory limits. In addition, 
unless otherwise provided in paragraph (e) of this section, all catch-
up eligible participants of the employer must be provided the 
opportunity to make catch-up contributions in order for an applicable 
employer plan to comply with the universal availability requirement of 
section 414(v)(4). The definitions in paragraph (g) of this section 
apply for purposes of this section and Sec.  1.402(g)-2.
    (2) Treatment as elective deferrals. Except as specifically 
provided in this section, elective deferrals treated as catch-up 
contributions remain subject to statutory and regulatory rules 
otherwise applicable to elective deferrals. For example, catch-up 
contributions under an applicable employer plan that is a section 
401(k) plan are subject to the distribution and vesting restrictions of 
section 401(k)(2)(B) and (C). In addition, the plan is permitted to 
provide a single election for catch-up eligible participants, with the 
determination of whether elective deferrals are catch-up contributions 
being made under the terms of the plan.
    (3) Coordination with section 457(b)(3). In the case of an 
applicable employer plan that is a section 457 eligible governmental 
plan, the catch-up contributions permitted under this section shall not 
apply to a catch-up eligible participant for any taxable year for which 
a higher limitation applies to such participant under section 
457(b)(3). For additional guidance, see regulations under section 457.
    (b) Elective deferrals that exceed an applicable limit--(1) 
Applicable limits. An applicable limit for purposes of determining 
catch-up contributions for a catch-up eligible participant is any of 
the following:
    (i) Statutory limit. A statutory limit is a limit on elective 
deferrals or annual additions permitted to be made (without regard to 
section 414(v) and this section) with respect to an employee for a year 
provided in section 401(a)(30), 402(h), 403(b), 408, 415(c), or 
457(b)(2) (without regard to section 457(b)(3)), as applicable.
    (ii) Employer-provided limit. An employer-provided limit is any 
limit on the elective deferrals an employee is permitted to make 
(without regard to section 414(v) and this section) that is contained 
in the terms of the plan, but which is not required under the Internal 
Revenue Code. Thus, for example, if, in accordance with the terms of 
the plan, highly compensated employees are limited to a deferral 
percentage of 10% of compensation, this limit is an employer-provided 
limit that is an applicable limit with respect to the highly 
compensated employees.
    (iii) Actual deferral percentage (ADP) limit. In the case of a 
section 401(k) plan that would fail the ADP test of section 401(k)(3) 
if it did not correct under section 401(k)(8), the ADP limit is the 
highest amount of elective deferrals that can be retained in the plan 
by any highly compensated employee under the rules of section 
401(k)(8)(C) (without regard to paragraph (d)(2)(iii) of this section). 
In the case of a simplified employee pension (SEP) with a salary 
reduction arrangement (within the meaning of section 408(k)(6)) that 
would fail the requirements of section 408(k)(6)(A)(iii) if it did not 
correct in accordance with section 408(k)(6)(C), the ADP limit is the 
highest amount of elective deferrals that can be made by any highly 
compensated employee

[[Page 40516]]

under the rules of section 408(k)(6) (without regard to paragraph 
(d)(2)(iii) of this section).
    (2) Contributions in excess of applicable limit--(i) Plan year 
limits--(A) General rule. Except as provided in paragraph (b)(2)(ii) of 
this section, the amount of elective deferrals in excess of an 
applicable limit is determined as of the end of the plan year by 
comparing the total elective deferrals for the plan year with the 
applicable limit for the plan year. In addition, except as provided in 
paragraph (b)(2)(i)(B) of this section, in the case of a plan that 
provides for separate employer-provided limits on elective deferrals 
for separate portions of plan compensation within the plan year, the 
applicable limit for the plan year is the sum of the dollar amounts of 
the limits for the separate portions. For example, if a plan sets a 
deferral percentage limit for each payroll period, the applicable limit 
for the plan year is the sum of the dollar amounts of the limits for 
the payroll periods.
    (B) Alternative method for determining employer-provided limit--(1) 
General rule. If the plan limits elective deferrals for separate 
portions of the plan year, then, solely for purposes of determining the 
amount that is in excess of an employer-provided limit, the plan is 
permitted to provide that the applicable limit for the plan year is the 
product of the employee's plan year compensation and the time-weighted 
average of the deferral percentage limits, rather than determining the 
employer-provided limit as the sum of the limits for the separate 
portions of the year. Thus, for example, if, in accordance with the 
terms of the plan, highly compensated employees are limited to 8% of 
compensation during the first half of the plan year and 10% of 
compensation for the second half of the plan year, the plan is 
permitted to provide that the applicable limit for a highly compensated 
employee is 9% of the employee's plan year compensation.
    (2) Alternative definition of compensation permitted. A plan using 
the alternative method in this paragraph (b)(2)(i)(B) is permitted to 
provide that the applicable limit for the plan year is determined as 
the product of the catch-up eligible participant's compensation used 
for purposes of the ADP test and the time-weighted average of the 
deferral percentage limits. The alternative calculation in this 
paragraph (b)(2)(i)(B)(2) is available regardless of whether the 
deferral percentage limits change during the plan year.
    (ii) Other year limit. In the case of an applicable limit that is 
applied on the basis of a year other than the plan year (e.g., the 
calendar-year limit on elective deferrals under section 401(a)(30)), 
the determination of whether elective deferrals are in excess of the 
applicable limit is made on the basis of such other year.
    (c) Catch-up contribution limit--(1) General rule. Elective 
deferrals with respect to a catch-up eligible participant in excess of 
an applicable limit under paragraph (b) of this section are treated as 
catch-up contributions under this section as of a date within a taxable 
year only to the extent that such elective deferrals do not exceed the 
catch-up contribution limit described in paragraphs (c)(1) and (2) of 
this section, reduced by elective deferrals previously treated as 
catch-up contributions for the taxable year, determined in accordance 
with paragraph (c)(3) of this section. The catch-up contribution limit 
for a taxable year is generally the applicable dollar catch-up limit 
for such taxable year, as set forth in paragraph (c)(2) of this 
section. However, an elective deferral is not treated as a catch-up 
contribution to the extent that the elective deferral, when added to 
all other elective deferrals for the taxable year under any applicable 
employer plan of the employer, exceeds the participant's compensation 
(determined in accordance with section 415(c)(3)) for the taxable year. 
See also paragraph (f) of this section for special rules for employees 
who participate in more than one applicable employer plan maintained by 
the employer.
    (2) Applicable dollar catch-up limit--(i) In general. The 
applicable dollar catch-up limit for an applicable employer plan, other 
than a plan described in section 401(k)(11) or 408(p), is determined 
under the following table:

------------------------------------------------------------------------
                                                            Applicable
             For taxable years beginning in                dollar catch-
                                                             up limit
------------------------------------------------------------------------
2002....................................................          $1,000
2003....................................................           2,000
2004....................................................           3,000
2005....................................................           4,000
2006....................................................           5,000
------------------------------------------------------------------------

    (ii) SIMPLE plans. The applicable dollar catch-up limit for a 
SIMPLE 401(k) plan described in section 401(k)(11) or a SIMPLE IRA plan 
as described in section 408(p) is determined under the following table:

------------------------------------------------------------------------
                                                            Applicable
             For taxable years beginning in                dollar catch-
                                                             up limit
------------------------------------------------------------------------
2002....................................................           $ 500
2003....................................................           1,000
2004....................................................           1,500
2005....................................................           2,000
2006....................................................           2,500
------------------------------------------------------------------------

    (iii) Cost of living adjustments. For taxable years beginning after 
2006, the applicable dollar catch-up limit is the applicable dollar 
catch-up limit for 2006 described in paragraph (c)(2)(i) or (ii) of 
this section increased at the same time and in the same manner as 
adjustments under section 415(d), except that the base period shall be 
the calendar quarter beginning July 1, 2005, and any increase that is 
not a multiple of $500 shall be rounded to the next lower multiple of 
$500.
    (3) Timing rules. For purposes of determining the maximum amount of 
permitted catch-up contributions for a catch-up eligible participant, 
the determination of whether an elective deferral is a catch-up 
contribution is made as of the last day of the plan year (or in the 
case of section 415, as of the last day of the limitation year), except 
that, with respect to elective deferrals in excess of an applicable 
limit that is tested on the basis of the taxable year or calendar year 
(e.g., the section 401(a)(30) limit on elective deferrals), the 
determination of whether such elective deferrals are treated as catch-
up contributions is made at the time they are deferred.
    (d) Treatment of catch-up contributions--(1) Contributions not 
taken into account for certain limits. Catch-up contributions are not 
taken into account in applying the limits of section 401(a)(30), 
402(h), 403(b), 408, 415(c), or 457(b)(2) (determined without regard to 
section 457(b)(3)) to other contributions or benefits under an 
applicable employer plan or any other plan of the employer.
    (2) Contributions not taken into account in application of ADP 
test--(i) Calculation of ADR. Elective deferrals that are treated as 
catch-up contributions pursuant to paragraph (c) of this section with 
respect to a section 401(k) plan because they exceed a statutory or 
employer-provided limit described in paragraph (b)(1)(i) or (ii) of 
this section, respectively, are subtracted from the catch-up eligible 
participant's elective deferrals for the plan year for purposes of 
determining the actual deferral ratio (ADR) (as defined in regulations 
under section 401(k)) of a catch-up eligible participant. Similarly, 
elective deferrals that are treated as catch-up contributions pursuant 
to paragraph (c) of this section with

[[Page 40517]]

respect to a SEP because they exceed a statutory or employer-provided 
limit described in paragraph (b)(1)(i) or (ii) of this section, 
respectively, are subtracted from the catch-up eligible participant's 
elective deferrals for the plan year for purposes of determining the 
deferral percentage under section 408(k)(6)(D) of a catch-up eligible 
participant.
    (ii) Adjustment of elective deferrals for correction purposes. For 
purposes of the correction of excess contributions in accordance with 
section 401(k)(8)(C), elective deferrals under the plan treated as 
catch-up contributions for the plan year and not taken into account in 
the ADP test under paragraph (d)(2)(i) of this section are subtracted 
from the catch-up eligible participant's elective deferrals under the 
plan for the plan year.
    (iii) Excess contributions treated as catch-up contributions. A 
section 401(k) plan that satisfies the ADP test of section 401(k)(3) 
through correction under section 401(k)(8) must retain any elective 
deferrals that are treated as catch-up contributions pursuant to 
paragraph (c) of this section because they exceed the ADP limit in 
paragraph (b)(1)(iii) of this section. In addition, a section 401(k) 
plan is not treated as failing to satisfy section 401(k)(8) merely 
because elective deferrals described in the preceding sentence are not 
distributed or recharacterized as employee contributions. Similarly, a 
SEP is not treated as failing to satisfy section 408(k)(6)(A)(iii) 
merely because catch-up contributions are not treated as excess 
contributions with respect to a catch-up eligible participant under the 
rules of section 408(k)(6)(C). Notwithstanding the fact that elective 
deferrals described in this paragraph (d)(2)(iii) are not distributed, 
such elective deferrals are still considered to be excess contributions 
under section 401(k)(8), and accordingly, matching contributions with 
respect to such elective deferrals are permitted to be forfeited under 
the rules of section 411(a)(3)(G).
    (3) Contributions not taken into account for other 
nondiscrimination purposes--(i) Application for top-heavy. Catch-up 
contributions with respect to the current plan year are not taken into 
account for purposes of section 416. However, catch-up contributions 
for prior years are taken into account for purposes of section 416. 
Thus, catch-up contributions for prior years are included in the 
account balances that are used in determining whether the plan is top-
heavy under section 416(g).
    (ii) Application for section 410(b). Catch-up contributions with 
respect to the current plan year are not taken into account for 
purposes of section 410(b). Thus, catch-up contributions are not taken 
into account in determining the average benefit percentage under Sec.  
1.410(b)-5 for the year if benefit percentages are determined based on 
current year contributions. However, catch-up contributions for prior 
years are taken into account for purposes of section 410(b). Thus, 
catch-up contributions for prior years would be included in the account 
balances that are used in determining the average benefit percentage if 
allocations for prior years are taken into account.
    (4) Availability of catch-up contributions. An applicable employer 
plan does not violate Sec.  1.401(a)(4)-4 merely because the group of 
employees for whom catch-up contributions are currently available 
(i.e., the catch-up eligible participants) is not a group of employees 
that would satisfy section 410(b) (without regard to Sec.  1.410(b)-5). 
In addition, a catch-up eligible participant is not treated as having a 
right to a different rate of allocation of matching contributions 
merely because an otherwise nondiscriminatory schedule of matching 
rates is applied to elective deferrals that include catch-up 
contributions. The rules in this paragraph (d)(4) also apply for 
purposes of satisfying the requirements of section 403(b)(12).
    (e) Universal availability requirement--(1) General rule--(i) 
Effective opportunity. An applicable employer plan that offers catch-up 
contributions and that is otherwise subject to section 401(a)(4) 
(including a plan that is subject to section 401(a)(4) pursuant to 
section 403(b)(12)) will not satisfy the requirements of section 
401(a)(4) unless all catch-up eligible participants who participate 
under any applicable employer plan maintained by the employer are 
provided with an effective opportunity to make the same dollar amount 
of catch-up contributions. A plan fails to provide an effective 
opportunity to make catch-up contributions if it has an applicable 
limit (e.g., an employer-provided limit) that applies to a catch-up 
eligible participant and does not permit the participant to make 
elective deferrals in excess of that limit. An applicable employer plan 
does not fail to satisfy the universal availability requirement of this 
paragraph (e) solely because an employer-provided limit does not apply 
to all employees or different limits apply to different groups of 
employees under paragraph (b)(2)(i) of this section. However, a plan 
may not provide lower employer-provided limits for catch-up eligible 
participants.
    (ii) Certain practices permitted--(A) Proration of limit. An 
applicable employer plan does not fail to satisfy the universal 
availability requirement of this paragraph (e) merely because the plan 
allows participants to defer an amount equal to a specified percentage 
of compensation for each payroll period and for each payroll period 
permits each catch-up eligible participant to defer a pro-rata share of 
the applicable dollar catch-up limit in addition to that amount.
    (B) Cash availability. An applicable employer plan does not fail to 
satisfy the universal availability requirement of this paragraph (e) 
merely because it restricts the elective deferrals of any employee 
(including a catch-up eligible participant) to amounts available after 
other withholding from the employee's pay (e.g., after deduction of all 
applicable income and employment taxes). For this purpose, an employer 
limit of 75% of compensation or higher will be treated as limiting 
employees to amounts available after other withholdings.
    (2) Certain employees disregarded. An applicable employer plan does 
not fail to satisfy the universal availability requirement of this 
paragraph (e) merely because employees described in section 410(b)(3) 
(e.g., collectively bargained employees) are not provided the 
opportunity to make catch-up contributions.
    (3) Exception for certain plans. An applicable employer plan does 
not fail to satisfy the universal availability requirement of this 
paragraph (e) merely because another applicable employer plan that is a 
section 457 eligible governmental plan does not provide for catch-up 
contributions to the extent set forth in section 414(v)(6)(C) and 
paragraph (a)(3) of this section.
    (4) Exception for section 410(b)(6)(C)(ii) period. If an applicable 
employer plan satisfies the universal availability requirement of this 
paragraph (e) before an acquisition or disposition described in Sec.  
1.410(b)-2(f) and would fail to satisfy the universal availability 
requirement of this paragraph (e) merely because of such event, then 
the applicable employer plan shall continue to be treated as satisfying 
this paragraph (e) through the end of the period determined under 
section 410(b)(6)(C)(ii).
    (f) Special rules for an employer that sponsors multiple plans--(1) 
General rule. For purposes of paragraph (c) of this section, all 
applicable employer plans, other than section 457 eligible governmental 
plans, maintained by the same employer are treated as one plan and all 
section 457 eligible

[[Page 40518]]

governmental plans maintained by the same employer are treated as one 
plan. Thus, the total amount of catch-up contributions under all 
applicable employer plans of an employer (other than section 457 
eligible governmental plans) is limited to the applicable dollar catch-
up limit for the taxable year, and the total amount of catch-up 
contributions for all section 457 eligible governmental plans of an 
employer is limited to the applicable dollar catch-up limit for the 
taxable year.
    (2) Coordination of employer-provided limits. An applicable 
employer plan is permitted to allow a catch-up eligible participant to 
defer amounts in excess of an employer-provided limit under that plan 
without regard to whether elective deferrals made by the participant 
have been treated as catch-up contributions for the taxable year under 
another applicable employer plan aggregated with such plan under this 
paragraph (f). However, to the extent elective deferrals under another 
plan maintained by the employer have already been treated as catch-up 
contributions during the taxable year, the elective deferrals under the 
plan may be treated as catch-up contributions only up to the amount 
remaining under the catch-up limit for the year. Any other elective 
deferrals that exceed the employer-provided limit may not be treated as 
catch-up contributions and must satisfy the otherwise applicable 
nondiscrimination rules. For example, the right to make contributions 
in excess of the employer-provided limit is another right or feature 
which must satisfy Sec.  1.401(a)(4)-4 to the extent that the 
contributions are not catch-up contributions. Also, contributions in 
excess of the employer provided limit are taken into account under the 
ADP test to the extent they are not catch-up contributions.
    (3) Allocation rules. If a catch-up eligible participant makes 
additional elective deferrals in excess of an applicable limit under 
paragraph (b)(1) of this section under more than one applicable 
employer plan that is aggregated under the rules of this paragraph (f), 
the applicable employer plan under which elective deferrals in excess 
of an applicable limit are treated as catch-up contributions is 
permitted to be determined in any manner that is not inconsistent with 
the manner in which such amounts were actually deferred under the plan.
    (g) Definitions--(1) Applicable employer plan. The term applicable 
employer plan means a section 401(k) plan, a SIMPLE IRA plan as defined 
in section 408(p), a simplified employee pension plan as defined in 
section 408(k) (SEP), a plan or contract that satisfies the 
requirements of section 403(b), or a section 457 eligible governmental 
plan.
    (2) Elective deferral. The term elective deferral means an elective 
deferral within the meaning of section 402(g)(3) or any contribution to 
a section 457 eligible governmental plan.
    (3) Catch-up eligible participant. An employee is a catch-up 
eligible participant for a taxable year if--
    (i) The employee is eligible to make elective deferrals under an 
applicable employer plan (without regard to section 414(v) or this 
section); and
    (ii) The employee's 50th or higher birthday would occur before the 
end of the employee's taxable year.
    (4) Other definitions. (i) The terms employer, employee, section 
401(k) plan, and highly compensated employee have the meanings provided 
in Sec.  1.410(b)-9.
    (ii) The term section 457 eligible governmental plan means an 
eligible deferred compensation plan described in section 457(b) that is 
established and maintained by an eligible employer described in section 
457(e)(1)(A).
    (h) Examples. The following examples illustrate the application of 
this section. For purposes of these examples, the limit under section 
401(a)(30) is $15,000 and the applicable dollar catch-up limit is 
$5,000 and, except as specifically provided, the plan year is the 
calendar year. In addition, it is assumed that the participant's 
elective deferrals under all plans of the employer do not exceed the 
participant's section 415(c)(3) compensation, that the taxable year of 
the participant is the calendar year and that any correction pursuant 
to section 401(k)(8) is made through distribution of excess 
contributions. The examples are as follows:

    Example 1. (i) Participant A is eligible to make elective 
deferrals under a section 401(k) plan, Plan P. Plan P does not limit 
elective deferrals except as necessary to comply with sections 
401(a)(30) and 415. In 2006, Participant A is 55 years old. Plan P 
also provides that a catch-up eligible participant is permitted to 
defer amounts in excess of the section 401(a)(30) limit up to the 
applicable dollar catch-up limit for the year. Participant A defers 
$18,000 during 2006.
    (ii) Participant A's elective deferrals in excess of the section 
401(a)(30) limit ($3,000) do not exceed the applicable dollar catch-
up limit for 2006 ($5,000). Under paragraph (a)(1) of this section, 
the $3,000 is a catch-up contribution and, pursuant to paragraph 
(d)(2)(i) of this section, it is not taken into account in 
determining Participant A's ADR for purposes of section 401(k)(3).
    Example 2. (i) Participants B and C, who are highly compensated 
employees each earning $120,000, are eligible to make elective 
deferrals under a section 401(k) plan, Plan Q. Plan Q limits 
elective deferrals as necessary to comply with section 401(a)(30) 
and 415, and also provides that no highly compensated employee may 
make an elective deferral at a rate that exceeds 10% of 
compensation. However, Plan Q also provides that a catch-up eligible 
participant is permitted to defer amounts in excess of 10% during 
the plan year up to the applicable dollar catch-up limit for the 
year. In 2006, Participants B and C are both 55 years old and, 
pursuant to the catch-up provision in Plan Q, both elect to defer 
10% of compensation plus a pro-rata portion of the $5,000 applicable 
dollar catch-up limit for 2006. Participant B continues this 
election in effect for the entire year, for a total elective 
contribution for the year of $17,000. However, in July 2006, after 
deferring $8,500, Participant C discontinues making elective 
deferrals.
    (ii) Once Participant B's elective deferrals for the year exceed 
the section 401(a)(30) limit ($15,000), subsequent elective 
deferrals are treated as catch-up contributions as they are 
deferred, provided that such elective deferrals do not exceed the 
catch-up contribution limit for the taxable year. Since the $2,000 
in elective deferrals made after Participant B reaches the section 
402(g) limit for the calendar year does not exceed the applicable 
dollar catch-up limit for 2006, the entire $2,000 is treated as a 
catch-up contribution.
    (iii) As of the last day of the plan year, Participant B has 
exceeded the employer-provided limit of 10% (10% of $120,000 or 
$12,000 for Participant B) by an additional $3,000. Since the 
additional $3,000 in elective deferrals does not exceed the $5,000 
applicable dollar catch-up limit for 2006, reduced by the $2,000 in 
elective deferrals previously treated as catch-up contributions, the 
entire $3,000 of elective deferrals is treated as a catch-up 
contribution.
    (iv) In determining Participant B's ADR, the $5,000 of catch-up 
contributions are subtracted from Participant B's elective deferrals 
for the plan year under paragraph (d)(2)(i) of this section. 
Accordingly, Participant B's ADR is 10% ($12,000/$120,000). In 
addition, for purposes of applying the rules of section 401(k)(8), 
Participant B is treated as having elective deferrals of $12,000.
    (v) Participant C's elective deferrals for the year do not 
exceed an applicable limit for the plan year. Accordingly, 
Participant C's $8,500 of elective deferrals must be taken into 
account in determining Participant C's ADR for purposes of section 
401(k)(3).
    Example 3. (i) The facts are the same as in Example 2, except 
that Plan Q is amended to change the maximum permitted deferral 
percentage for highly compensated employees to 7%, effective for 
deferrals after April 1, 2006. Participant B, who has earned $40,000 
in the first 3 months of the year and has been deferring at a rate 
of 10% of compensation plus a pro-rata portion of the $5,000 
applicable dollar catch-up limit for 2006, reduces the 10% of pay 
deferral rate to 7% for the remaining 9 months of the year (while 
continuing to defer a pro-rata portion of the $5,000 applicable 
dollar catch-up limit

[[Page 40519]]

for 2006). During those 9 months, Participant B earns $80,000. Thus, 
Participant B's total elective deferrals for the year are $14,600 
($4,000 for the first 3 months of the year plus $5,600 for the last 
9 months of the year plus an additional $5,000 throughout the year).
    (ii) The employer-provided limit for Participant B for the plan 
year is $9,600 ($4,000 for the first 3 months of the year, plus 
$5,600 for the last 9 months of the year). Accordingly, Participant 
B's elective deferrals for the year that are in excess of the 
employer-provided limit are $5,000 (the excess of $14,600 over 
$9,600), which does not exceed the applicable dollar catch-up limit 
of $5,000.
    (iii) Alternatively, Plan Q may provide that the employer-
provided limit is determined as the time-weighted average of the 
different deferral percentage limits over the course of the year. In 
this case, the time-weighted average limit is 7.75% for all 
participants, and the applicable limit for Participant B is 7.75% of 
$120,000, or $9,300. Accordingly, Participant B's elective deferrals 
for the year that are in excess of the employer-provided limit are 
$5,300 (the excess of $14,600 over $9,300). Since the amount of 
Participant B's elective deferrals in excess of the employer-
provided limit ($5,300) exceeds the applicable dollar catch-up limit 
for the taxable year, only $5,000 of Participant B's elective 
deferrals may be treated as catch-up contributions. In determining 
Participant B's actual deferral ratio, the $5,000 of catch-up 
contributions are subtracted from Participant B's elective deferrals 
for the plan year under paragraph (d)(2)(i) of this section. 
Accordingly, Participant B's actual deferral ratio is 8% ($9,600/
$120,000). In addition, for purposes of applying the rules of 
section 401(k)(8), Participant B is treated as having elective 
deferrals of $9,600.
    Example 4. (i) The facts are the same as in Example 1. In 
addition to Participant A, Participant D is a highly compensated 
employee who is eligible to make elective deferrals under Plan P. 
During 2006, Participant D, who is 60 years old, elects to defer 
$14,000.
    (ii) The ADP test is run for Plan P (after excluding the $3,000 
in catch-up contributions from Participant A's elective deferrals), 
but Plan P needs to take corrective action in order to pass the ADP 
test. After applying the rules of section 401(k)(8)(C) to allocate 
the total excess contributions determined under section 
401(k)(8)(B), the maximum deferrals which may be retained by any 
highly compensated employee in Plan P is $12,500.
    (iii) Pursuant to paragraph (b)(1)(iii) of this section, the ADP 
limit under Plan P of $12,500 is an applicable limit. Accordingly, 
$1,500 of Participant D's elective deferrals exceed the applicable 
limit. Similarly, $2,500 of Participant A's elective deferrals 
(other than the $3,000 of elective deferrals treated as catch-up 
contributions because they exceed the section 401(a)(30) limit) 
exceed the applicable limit.
    (iv) The $1,500 of Participant D's elective deferrals that 
exceed the applicable limit are less than the applicable dollar 
catch-up limit and are treated as catch-up contributions. Pursuant 
to paragraph (d)(2)(iii) of this section, Plan P must retain 
Participant D's $1,500 in elective deferrals and Plan P is not 
treated as failing to satisfy section 401(k)(8) merely because the 
elective deferrals are not distributed to Participant D.
    (v) The $2,500 of Participant A's elective deferrals that exceed 
the applicable limit are greater than the portion of the applicable 
dollar catch-up limit ($2,000) that remains after treating the 
$3,000 of elective deferrals in excess of the section 401(a)(30) 
limit as catch-up contributions. Accordingly, $2,000 of Participant 
A's elective deferrals are treated as catch-up contributions. 
Pursuant to paragraph (d)(2)(iii) of this section, Plan P must 
retain Participant A's $2,000 in elective deferrals and Plan P is 
not treated as failing to satisfy section 401(k)(8) merely because 
the elective deferrals are not distributed to Participant A. 
However, $500 of Participant A's elective deferrals cannot be 
treated as catch-up contributions and must be distributed to 
Participant A in order to satisfy section 401(k)(8).
    Example 5. (i) Participant E is a highly compensated employee 
who is a catch-up eligible participant under a section 401(k) plan, 
Plan R, with a plan year ending October 31, 2006. Plan R does not 
limit elective deferrals except as necessary to comply with section 
401(a)(30) and section 415. Plan R permits all catch-up eligible 
participants to defer an additional amount equal to the applicable 
dollar catch-up limit for the year ($5,000) in excess of the section 
401(a)(30) limit. Participant E did not exceed the section 
401(a)(30) limit in 2005 and did not exceed the ADP limit for the 
plan year ending October 31, 2005. Participant E made $3,200 of 
deferrals in the period November 1, 2005 through December 31, 2005 
and an additional $16,000 of deferrals in the first 10 months of 
2006, for a total of $19,200 in elective deferrals for the plan 
year.
    (ii) Once Participant E's elective deferrals for the calendar 
year 2006 exceed $15,000, subsequent elective deferrals are treated 
as catch-up contributions at the time they are deferred, provided 
that such elective deferrals do not exceed the applicable dollar 
catch-up limit for the taxable year. Since the $1,000 in elective 
deferrals made after Participant E reaches the section 402(g) limit 
for the calendar year does not exceed the applicable dollar catch-up 
limit for 2006, the entire $1,000 is a catch-up contribution. 
Pursuant to paragraph (d)(2)(i) of this section, $1,000 is 
subtracted from Participant E's $19,200 in elective deferrals for 
the plan year ending October 31, 2006 in determining Participant E's 
ADR for that plan year.
    (iii) The ADP test is run for Plan R (after excluding the $1,000 
in elective deferrals in excess of the section 401(a)(30) limit), 
but Plan R needs to take corrective action in order to pass the ADP 
test. After applying the rules of section 401(k)(8)(C) to allocate 
the total excess contributions determined under section 
401(k)(8)(C), the maximum deferrals that may be retained by any 
highly compensated employee under Plan R for the plan year ending 
October 31, 2006 (the ADP limit) is $14,800.
    (iv) Under paragraph (d)(2)(ii) of this section, elective 
deferrals that exceed the section 401(a)(30) limit under Plan R are 
also subtracted from Participant E's elective deferrals under Plan R 
for purposes of applying the rules of section 401(k)(8). 
Accordingly, for purposes of correcting the failed ADP test, 
Participant E is treated as having contributed $18,200 of elective 
deferrals in Plan R. The amount of elective deferrals that would 
have to be distributed to Participant E in order to satisfy section 
401(k)(8)(C) is $3,400 ($18,200 minus $14,800), which is less than 
the excess of the applicable dollar catch-up limit ($5,000) over the 
elective deferrals previously treated as catch-up contributions 
under Plan R for the taxable year ($1,000). Under paragraph 
(d)(2)(iii) of this section, Plan R must retain Participant E's 
$3,400 in elective deferrals and is not treated as failing to 
satisfy section 401(k)(8) merely because the elective deferrals are 
not distributed to Participant E.
    (v) Even though Participant E's elective deferrals for the 
calendar year 2006 have exceeded the section 401(a)(30) limit, 
Participant E can continue to make elective deferrals during the 
last 2 months of the calendar year, since Participant E's catch-up 
contributions for the taxable year are not taken into account in 
applying the section 401(a)(30) limit for 2006. Thus, Participant E 
can make an additional contribution of $3,400 ($15,000 minus 
($16,000 minus $4,400)) without exceeding the section 401(a)(30) for 
the calendar year and without regard to any additional catch-up 
contributions. In addition, Participant E may make additional catch-
up contributions of $600 (the $5,000 applicable dollar catch-up 
limit for 2006, reduced by the $4,400 ($1,000 plus $3,400) of 
elective deferrals previously treated as catch-up contributions 
during the taxable year). The $600 of catch-up contributions will 
not be taken into account in the ADP test for the plan year ending 
October 31, 2007.
    Example 6. (i) The facts are the same as in Example 5, except 
that Participant E exceeded the section 401(a)(30) limit for 2005 by 
$1,300 prior to October 31, 2005, and made $600 of elective 
deferrals in the period November 1, 2005, through December 31, 2005 
(which were catch-up contributions for 2005). Thus, Participant E 
made $16,600 of elective deferrals for the plan year ending October 
31, 2006.
    (ii) Once Participant E's elective deferrals for the calendar 
year 2006 exceed $15,000, subsequent elective deferrals are treated 
as catch-up contributions as they are deferred, provided that such 
elective deferrals do not exceed the applicable dollar catch-up 
limit for the taxable year. Since the $1,000 in elective deferrals 
made after Participant E reaches the section 402(g) limit for 
calendar year 2006 does not exceed the applicable dollar catch-up 
limit for 2006, the entire $1,000 is a catch-up contribution. 
Pursuant to paragraph (d)(2)(i) of this section, $1,000 is 
subtracted from Participant E's elective deferrals in determining 
Participant E's ADR for the plan year ending October 31, 2006. In 
addition, the $600 of catch-up contributions from the period 
November 1, 2005 to December 31, 2005 are subtracted from 
Participant E's elective deferrals in determining Participant E's 
ADR. Thus, the total elective deferrals taken into account in

[[Page 40520]]

determining Participant E's ADR for the plan year ending October 31, 
2006, is $15,000 ($16,600 in elective deferrals for the current plan 
year, less $1,600 in catch-up contributions).
    (iii) The ADP test is run for Plan R (after excluding the $1,600 
in elective deferrals in excess of the section 401(a)(30) limit), 
but Plan R needs to take corrective action in order to pass the ADP 
test. After applying the rules of section 401(k)(8)(C) to allocate 
the total excess contributions determined under section 
401(k)(8)(C), the maximum deferrals that may be retained by any 
highly compensated employee under Plan R (the ADP limit) is $14,800.
    (iv) Under paragraph (d)(2)(ii) of this section, elective 
deferrals that exceed the section 401(a)(30) limit under Plan R are 
also subtracted from Participant E's elective deferrals under Plan R 
for purposes of applying the rules of section 401(k)(8). 
Accordingly, for purposes of correcting the failed ADP test, 
Participant E is treated as having contributed $15,000 of elective 
deferrals in Plan R. The amount of elective deferrals that would 
have to be distributed to Participant E in order to satisfy section 
401(k)(8)(C) is $200 ($15,000 minus $14,800), which is less than the 
excess of the applicable dollar catch-up limit ($5,000) over the 
elective deferrals previously treated as catch-up contributions 
under Plan R for the taxable year ($1,000). Under paragraph 
(d)(2)(iii) of this section, Plan R must retain Participant E's $200 
in elective deferrals and is not treated as failing to satisfy 
section 401(k)(8) merely because the elective deferrals are not 
distributed to Participant E.
    (v) Even though Participant E's elective deferrals for calendar 
year 2006 have exceeded the section 401(a)(30) limit, Participant E 
can continue to make elective deferrals during the last 2 months of 
the calendar year, since Participant E's catch-up contributions for 
the taxable year are not taken into account in applying the section 
401(a)(30) limit for 2006. Thus Participant E can make an additional 
contribution of $200 ($15,000 minus ($16,000 minus $1,200)) without 
exceeding the section 401(a)(30) for the calendar year and without 
regard to any additional catch-up contributions. In addition, 
Participant E may make additional catch-up contributions of $3,800 
(the $5,000 applicable dollar catch-up limit for 2006, reduced by 
the $1,200 ($1,000 plus $200) of elective deferrals previously 
treated as catch-up contributions during the taxable year). The 
$3,800 of catch-up contributions will not be taken into account in 
the ADP test for the plan year ending October 31, 2007.
    Example 7. (i) Participant F, who is 58 years old, is a highly 
compensated employee who earns $100,000 per year. Participant F 
participates in a section 401(k) plan, Plan S, for the first 6 
months of the year and then transfers to another section 401(k) 
plan, Plan T, sponsored by the same employer, for the second 6 
months of the year. Plan S limits highly compensated employees' 
elective deferrals to 6% of compensation for the period of 
participation, but permits catch-up eligible participants to defer 
amounts in excess of 6% during the plan year, up to the applicable 
dollar catch-up limit for the year. Plan T limits highly compensated 
employees' elective deferrals to 8% of compensation for the period 
of participation, but permits catch-up eligible participants to 
defer amounts in excess of 8% during the plan year, up to the 
applicable dollar catch-up limit for the year. Participant F earned 
$50,000 in the first 6 months of the year and deferred $6,000 under 
Plan S. Participant F also deferred $6,500 under Plan T.
    (ii) As of the last day of the plan year, Participant F has 
$3,000 in elective deferrals under Plan S that exceed the employer-
provided limit of $3,000. Under Plan T, Participant F has $2,500 in 
elective deferrals that exceed the employer-provided limit of 
$4,000. The total amount of elective deferrals in excess of 
employer-provided limits, $5,500, exceeds the applicable dollar 
catch-up limit by $500. Accordingly, $500 of the elective deferrals 
in excess of the employer-provided limits are not catch-up 
contributions and are treated as regular elective deferrals (and are 
taken into account in the ADP test). The determination of which 
elective deferrals in excess of an applicable limit are treated as 
catch-up contributions is permitted to be made in any manner that is 
not inconsistent with the manner in which such amounts were actually 
deferred under Plan S and Plan T.
    Example 8. (i) Employer X sponsors Plan P, which provides for 
matching contributions equal to 50% of elective deferrals that do 
not exceed 10% of compensation. Elective deferrals for highly 
compensated employees are limited, on a payroll-by-payroll basis, to 
10% of compensation. Employer X pays employees on a monthly basis. 
Plan P also provides that elective contributions are limited in 
accordance with section 401(a)(30) and other applicable statutory 
limits. Plan P also provides for catch-up contributions. Under Plan 
P, for purposes of calculating the amount to be treated as catch-up 
contributions (and to be excluded from the ADP test), amounts in 
excess of the 10% limit for highly compensated employees are 
determined at the end of the plan year based on compensation used 
for purposes of ADP testing (testing compensation), a definition of 
compensation that is different from the definition used under the 
plan for purposes of calculating elective deferrals and matching 
contributions during the plan year (deferral compensation).
    (ii) Participant A, a highly compensated employee, is a catch-up 
eligible participant under Plan P with deferral compensation of 
$10,000 per monthly payroll period. Participant A defers 10% per 
payroll period for the first 10 months of the year, and is allocated 
a matching contribution each payroll period of $500. In addition, 
Participant A defers an additional $4,000 during the first 10 months 
of the year. Participant A then reduces deferrals during the last 2 
months of the year to 5% of compensation. Participant A is allocated 
a matching contribution of $250 for each of the last 2 months of the 
plan year. For the plan year, Participant A has $15,000 in elective 
deferrals and $5,500 in matching contributions.
    (iii) A's testing compensation is $118,000. At the end of the 
plan year, based on 10% of testing compensation, or $11,800, Plan P 
determines that A has $3,200 in deferrals that exceed the 10% 
employer provided limit. Plan P excludes $3,200 from ADP testing and 
calculates A's ADR as $11,800 divided by $118,000, or 10%. Although 
A has not been allocated a matching contribution equal to 50% of 
$11,800, because Plan P provides that matching contributions are 
calculated based on elective deferrals during a payroll period as a 
percentage of deferral compensation, Plan P is not required to 
allocate an additional $400 of matching contributions to A.

    (i) Effective date--(1) Statutory effective date. Section 414(v) 
applies to contributions in taxable years beginning on or after January 
1, 2002.
    (2) Regulatory effective date. Paragraphs (a) through (h) of this 
section apply to contributions in taxable years beginning on or after 
January 1, 2004.

Robert E. Wenzel,
Deputy Commissioner for Services and Enforcement.
    Approved: June 27, 2003.
Pamela F. Olson,
Assistant Secretary (Tax Policy).
[FR Doc. 03-17226 Filed 7-7-03; 8:45 am]
BILLING CODE 4830-01-P