What is the ADP/ACP Test?
The ADP/ACP test, which stands for Actual Deferral Percentage/Actual Contribution Percentage, is a test that determines your plan’s equitability and ensures that all participants benefit in a non-discriminatory manner. More highly compensated employees—typically owners, executives, or upper level managers—may not benefit disproportionately from the plan’s 401(k) feature.
Why does ADP/ACP test matter?
In addition to being an IRS requirement, The ADP/ACP test is one of the more significant tests of the year because you will have to deal with the results of the test and be mindful of the test’s outcome for the entire year. Because of that, the plan sponsor will consistently be paying attention to the many factors that impact the test results.
In addition, missing the deadline can result in penalties if the adjustments, if required, are not made before March 15.
What impacts the ADP/ACP test?
The ADP/ACP Tests primarily exists to make sure that employers are not running 401(k) plans that primarily benefit owners and highly paid employees. For example, a plan may be either (a) structured to, or (b) in actual operation, provide disproportionally low benefits to rank and file employees. How? An example of a structural violation would be providing matching contributions only to those who contribute large amounts to the plan each year. Obviously, highly compensated employees are in a much better position to make such contributions. In this way, they are benefitting significantly more from the plan. An example of an operational violation would be high levels of employee participation by highly compensated employees and very much lower levels by rank and file employees.
The ADP/ACP Tests are set up to ensure that inequities between rank and file and owners/highly compensated, that exceed permitted IRS differentials, do not exist.
How does the ADP/ACP test do that?
Step one: Your employees are separated into two groups—highly compensated and non-highly compensated.
Step two: The ADP/ACP test evaluates the average contribution percent of each group. The average contribution percent of the non-highly compensated group directly controls the allowable average of the highly compensated.
What can I do to prepare for the ADP/ACP test?
Testing plans is a complex process, and the IRS requires many different kinds of tests for each plan.
At Robin S. Weingast and Associates, we focus on IRS Tax Qualified Retirement Plans that, when properly designed, will allow the business owner, family members, and even key employees to contribute higher amounts than the test would normally provide, if certain contributions are made by the employer to the plan.
These are called Safe Harbor contributions, and will allow the overriding of this test so that the highly compensated employees can indeed benefit to a greater extent.
Custom Designed Plans that Favor Owners, Officers and/or Highly Compensated Employees
Robin S. Weingast and Associates, Inc. specializes in custom designed plans that “legally discriminate” in favor of selected classes of owners/employees. These plans can be designed to maximize contributions to the selected class(es) while providing the minimum benefits that the law requires to all other plan participants.
The result is a highly effective and efficient retirement savings vehicle for the selected classes.
Our team can provide this value added service and is equipped to advise and conduct ADP/ACP tests, as well as the many other tests required by the IRS. If you would like a free consultation, please contact us, and we would be happy to work with you.