What Is Plan Compensation for 401(k)? (2025)

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• Plan compensation for 401(k) is the total income used to calculate employee contributions and employer matching.
• It includes salary, wages, commissions, bonuses, taxable income, and pre-tax 401(k) contributions.
• It excludes reimbursements, fringe benefits, moving expenses, welfare benefits, employer-provided healthcare, and travel reimbursements.
• Compensation is defined using methods like W-2 wages, 401(a) wages, or the 415 safe harbor method.
• Plan compensation determines how much employees can contribute and how much employers will match.
• Complications in defining plan compensation can arise with bonuses, overtime, and deferred compensation.
• Employees should confirm with employers how compensation is defined for their specific 401(k) plan.

When it comes to your 401(k) retirement plan, understanding how plan compensation works is essential for both employees and employers. One of the most critical factors in determining how much you can contribute to your 401(k) is the amount of compensation you earn.

But what exactly is plan compensation for 401k? In simple terms, it refers to the total amount of money an employee earns, which is then used to calculate their 401(k) contributions. This compensation is also known as 415 compensation, a term that comes from a specific IRS regulation related to retirement plans.

In this blog post, we’ll break down what is included in plan compensation for 401k, what’s excluded, how it’s defined, and how it’s used to calculate employee and employer contributions. We’ll also discuss some complications that might arise when defining plan compensation.

What Is Included in Plan Compensation for 401(k)?

Plan compensation for 401(k) is the total income that employers use to calculate how much they will contribute to an employee’s retirement plan. It includes various types of earnings, such as:

1. Salary – The regular payment made to an employee for their work, typically paid on a monthly, bi-weekly, or weekly basis.
2. Wages – Wages are similar to salary but are often paid on an hourly basis. If an employee works overtime or extra shifts, those additional earnings are considered part of their wages.
3. Commissions – For employees who earn commission-based pay (such as salespeople), the amount of money earned from commissions is included in the calculation of 401(k) compensation.
4. Bonuses – Any bonus payments made by the employer, such as performance-based bonuses or holiday bonuses, are also considered part of compensation.
5. Other Taxable Income – This category includes other forms of taxable income that may not fall under salary or wages but are still subject to federal income tax.
6. Pre-tax 401(k) Contributions – If employees contribute to their 401(k) on a pre-tax basis, these contributions are also included in plan compensation. However, this doesn’t affect how much the employee can contribute. It is simply included in the total earnings for the purpose of calculating the employer’s contributions.

These components of compensation ensure that employees receive the maximum benefit for their retirement plans, based on their total earnings.

What Is Not Included in Plan Compensation for 401(k)?

It’s equally important to understand what is not considered part of plan compensation. While many forms of income are included, there are several exclusions that employees and employers need to be aware of.

These exclusions can affect both the employee’s retirement savings and the employer’s contribution calculations.

1. Reimbursements – Any reimbursements made by the employer for expenses incurred by the employee (such as business travel expenses or office supplies) are not included in 401(k) compensation.
2. Fringe Benefits – These are non-cash benefits that an employer provides, such as gym memberships, company cars, or educational reimbursements. While valuable, these benefits don’t contribute to the 401(k) plan compensation.
3. Moving Expenses – If an employer reimburses an employee for moving expenses, those amounts are not counted as part of plan compensation for 401(k) purposes.
4. Welfare Benefits – Health insurance, disability benefits, or life insurance premiums paid by the employer are not included in the calculation of 401(k) compensation.
5. Employer-Provided Healthcare Plan – Contributions made by an employer toward an employee’s healthcare plan are excluded from the 401(k) compensation calculation.
6. Travel Expenses Reimbursed by the Employer – If an employer reimburses an employee for travel costs, those reimbursements are excluded from the compensation figure used to calculate 401(k) contributions.

Understanding these exclusions is just as important as knowing what is included in plan compensation, as they can impact the total amount that goes into your 401(k).

How Is Plan Compensation Defined?

The definition of what constitutes 401(k) plan compensation can vary slightly depending on the employer’s specific retirement plan design. However, there are common standards that employers often follow when determining what income counts toward plan compensation.

1. W-2 Wages – W-2 wages refer to the wages reported on an employee’s W-2 form, which is issued annually by the employer. This figure is reported in Box 1 of the W-2 and includes all taxable income, such as salary, bonuses, and other earnings.
2. 401(a) Wages – 401(a) wages are defined as wages that are subject to federal income tax withholding. This includes wages and compensation amounts similar to W-2 wages, but with slight variations depending on the specific type of contribution plan.
3. 415 Safe Harbor – Under the IRS 415 rules, the safe harbor method includes pre-tax salary deferrals. These are amounts that employees contribute to their 401(k) plan before taxes are deducted. If an employer adopts the 415 safe harbor method, they are also required to include those deferrals in their definition of plan compensation.

These various methods of defining compensation allow employers to align their retirement plans with IRS rules while offering flexibility for different types of contributions.

How Is Plan Compensation Used in a 401(k)?

Plan compensation serves a central role in calculating both employee deferrals and employer contributions. Here’s a closer look at how it’s used:

1. Employee Deferrals – Employees are allowed to contribute a portion of their compensation to their 401(k) plan. The IRS sets annual contribution limits, which can vary based on factors such as the employee’s age. The amount that employees contribute to their plan is based on their plan compensation, which includes all the taxable income discussed earlier.
2. Employer Contributions – Employers may also contribute to their employees’ 401(k) plans, either as a matching contribution or a profit-sharing contribution. These contributions are often based on a percentage of the employee’s compensation. The higher the compensation, the larger the employer’s contribution.

For example, if an employer matches 50% of employee contributions up to 6% of their salary, the plan compensation determines how much the employee can contribute and, in turn, how much the employer will match.

In some cases, plan compensation can also be used to determine eligibility for certain benefits within the 401(k) plan. For example, if an employer offers vesting schedules or specific retirement benefits based on compensation levels, understanding how compensation is defined and calculated is crucial.

Complications in Defining Plan Compensation

While defining plan compensation seems straightforward, it can sometimes be more complicated. Certain types of compensation might be unclear or fall into gray areas. For example:

• Bonuses – Depending on how bonuses are structured, they may or may not count toward compensation. If bonuses are tied directly to work performance or achievement of company goals, they may be considered part of compensation. However, some employers may exclude bonuses when calculating retirement contributions.
• Deferred Compensation – For employees with deferred compensation arrangements, determining what constitutes plan compensation can be challenging. Deferred compensation refers to earnings that are set aside for future payment, and it may or may not be included in compensation calculations.
• Overtime – For hourly employees, overtime pay might or might not be included, depending on how the employer defines compensation. Some employers include overtime, while others exclude it.

These complications can make it difficult for both employees and employers to fully understand what constitutes 401(k) plan compensation. To avoid confusion, it’s always best to check with your employer or plan administrator to get a clear explanation of how compensation is defined in your specific plan.

Frequently Asked Questions

Here are some of the related questions people also ask:

What types of income are included in 401(k) plan compensation?

Plan compensation for 401(k) includes salary, wages, commissions, bonuses, taxable income, and pre-tax 401(k) contributions.

Are bonuses considered part of 401(k) compensation?

Yes, bonuses, including performance and holiday bonuses, are included in 401(k) plan compensation.

What is not included in 401(k) plan compensation?

Reimbursements, fringe benefits, moving expenses, welfare benefits, employer-provided healthcare, and travel reimbursements are not included in 401(k) compensation.

How is 401(k) plan compensation defined?

401(k) plan compensation can be defined using W-2 wages, 401(a) wages, or the 415 safe harbor method, depending on the employer’s plan.

How does 401(k) plan compensation affect employee contributions?

Employee contributions are based on the total compensation, meaning the more an employee earns, the higher the potential contribution to their 401(k).

Does overtime pay count toward 401(k) plan compensation?

Overtime pay may or may not count toward 401(k) compensation, depending on how the employer defines compensation.

What is the 415 safe harbor in relation to 401(k) compensation?

The 415 safe harbor includes pre-tax salary deferrals in the definition of 401(k) compensation, helping to ensure compliance with IRS rules.

Can reimbursements be counted toward 401(k) contributions?

No, reimbursements for business expenses or travel are not included in 401(k) compensation and do not affect contribution calculations.

How do employer contributions depend on 401(k) plan compensation?

Employer contributions, such as matching or profit-sharing, are based on a percentage of an employee’s compensation, making it important to understand how compensation is calculated.

The Bottom Line

In summary, understanding what is plan compensation for 401k is crucial for both employees and employers. Plan compensation includes salaries, wages, commissions, bonuses, other taxable income, and pre-tax 401(k) contributions.

It excludes reimbursements, fringe benefits, moving expenses, welfare benefits, employer-provided healthcare plans, and certain travel expenses. Employers define plan compensation in various ways, including W-2 wages, 401(a) wages, and the 415 safe harbor method.

The compensation definition is essential for calculating both employee deferrals and employer contributions. However, complications can arise when certain types of income are unclear, so it’s important to confirm with your employer how compensation is defined for your specific 401(k) plan.

With this understanding, you can make the most of your 401(k) plan and ensure that you are contributing the maximum allowed for your retirement savings.