Everything You Need To Know About New Comparability (And Why We Love It)

Everything You Need To Know About New Comparability (And Why We Love It)

What is New Comparability?

New Comparability, sometimes referred to as cross-tested or class-based, is a type of allocation formula within the Non-Elective (Profit Sharing) provision of a qualified retirement plan. The New Comparability formula is one of the most flexible types of allocation formulas a defined contribution plan can employ. The term "new comparability" is not that new. It is a throwback to an old, now obsolete, revenue ruling from 1981. 

What is Cross-Tested?

A defined contribution plan, such as a 401(k) plan, will generally have a profit sharing component. Should the plan provide for a profit sharing allocation that does not meet certain Safe Harbor requirements, it may need to prove that the allocation is not discriminatory; meaning that the allocation does not favor HCEs over NHCEs. Under IRC §401(a)(4), a plan may not discriminate in the amount of benefits or contributions provided.

Defined contribution plans customarily determine whether or not an employer contribution allocation is discriminatory by testing on a contribution rate basis. Essentially, the tester examines if highly compensated participant A's contribution rate (% of compensation) is more or less favorable than non-highly compensated participant B's rate. This is an over-simplified example, but highlights the purpose of nondiscrimination testing on employer allocations.

Should a defined contribution plan use the benefits basis to analyze and determine nondiscrimination, the method is called cross-testing. The tester is able to "cross" the line between defined contribution and defined benefit plans. Plans that have the ability to use this method are called New Comparability plans.

Is A New Comparability Plan Right For Our Company?

Employers looking for enhanced plan designs might consider adding new comparability to their retirement plan for a number of reasons:

  • Enhanced allocation modeling
  • Ability to benefit higher performing groups at higher rates
  • Need for efficiency in how employer money is used (allocated) in the plan
  • Competitive edge
  • To compliment a new or existing Safe Harbor Non-Elective provision (see our Focus Article on Safe Harbor plans), and
  • Flexibility

While working with our design team you'll be able to explore how New Comparability might work well for you and your company's retirement needs.

How Is New Comparability Different?

This chart highlights the primary differences between the major types of employer non-elective formulas in defined contribution plans. Points and Age-Weighted are not covered below, but are options an employer may use. However, these formulas are rarely used in new plan designs. 

 

Pro-Rata Integrated Fixed New Comparability
In the ratio that each Participant's Compensation bears to the Compensation of all eligible Participants (i.e. Same % of Compensation for All)  Base Contribution - Same as Pro-Rata but capped at the Integration level (Taxable Wage Base, generally) + Excess Contribution up to the maximum permitted disparity percentage (5.7% if Integration = TWB) In an amount equal to the total Non-Elective Contribution divided by the number of Participants eligible to share in such contribution. The fixed contribution is, as it suggests, fixed in the plan document. An amendment is required to change or remove the fixed allocation amount/percentage. One Group per Participant: There shall be one group created for each Participant eligible to receive allocations of Non-Elective Contributions. The contribution shall be allocated to each group in a manner determined by the Company. The amount allocated to one group need not bear any relationship to amounts allocated to any other group.
Defined Groups:  The contribution for a defined group shall then be further allocated to the members of such group who are eligible to receive allocations of Non-Elective Contributions in the method specified for such group. The amount allocated to one group need not bear any relationship to amounts allocated to any other group

As seen above, New Comparability allows the company to allocate funds to groups of participants or per participant in a manner that has no bearing on the amounts allocated to other groups or participants, so long as nondiscrimination testing passes. 

The ability for this kind of flexibility allows employers to control how efficient they are with the money they decide to allocate to plan participants. In some instances, this is the only formula that could ease an employer into allocating anything to plan participants. The below hypothetical allocation comparison illustrates how New Comparability could be used to pin-point groups or participants that might be deserving of greater benefits.

  Pro Rata   New Comparability
Participant A 5% Participant A 9.75%
Participant B 5% Participant B 3.25%
Participant C 5% Participant C 3.25%
Participant D 5% Participant D 6.50%

And, Finally, Why We Love It!

New Comparability is great for employers who want maximum flexibility on employer allocation scenarios. For us, well, it's an opportunity to show you how creative we can be in obtaining your goals for a retirement plan program. The complexities of testing allocations that use new comparability are numerous and varied (#NerdsLoveNumbers). Let us show you how this type of contribution formula could benefit you and your plan participants while keeping your goals in mind - connect with us to schedule a consultation.