Traditional 401(k) plan designs are subject to nondiscrimination and compliance testing — tests that compare overall contribution levels with those made by Highly Compensated Employees and Non-Highly Compensated Employees. As more fully explained in Section III, a Highly Compensated Employee (HCE) is generally defined as any employee who is a more-than-5 percent owner of the business in the year of testing (or the preceding year) and/or has compensation in excess of the specified dollar limit for the preceding year (this amount is indexed periodically by the IRS). A Non-Highly Compensated Employee (NHCE) is defined as an employee that does not meet the above criteria of a HCE.
Nondiscrimination testing ensures the plan is in compliance with IRS regulations that prohibit discrimination in favor of HCEs. The nondiscrimination tests that traditional 401(k) plans must pass each year and the consequences of failing testing are explained in Section III.
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