The definition of compensation for the defined benefit plans may differ considerably from the definition for the defined contribution 401(k) and 457(b) plans (see IRA information below). Separation payments are not included as compensation for defined benefit purposes (see Compensation Table). However, separation payments such as lump-sum vacation pay, sick leave, bonuses, etc., may be considered as compensation for the 401(k) and 457(b) plans depending on how the employer reports such payments. Use IRS Publication 15, Circular E and Publication 15-A, the Employer’s Supplemental Tax Guide for assistance. (The 401(k) is a qualified plan, and the 457(b) is a deferred compensation plan.)
The total annual remuneration, salary, or wages for employment paid by the employer to employees from whatever source, including commissions and bonuses, is currently includable in gross income. Compensation does not include any employer matching or non-elective contributions to the savings plans, but does include all elective and tax-deferred contributions made by employees under IRC sections 125, 401(k), 403(b), and 457(b). Compensation does not include reimbursement for an expense not considered wages (nontaxable).
For savings plans purposes, our office uses the tax year to record salary received. By recording salary per tax year, we can assist employees who want to maximize contributions to their 401(k) or 457(b) plan accounts. Maximums for these contributions are based on tax year earnings.
Employees may elect to contribute the lump-sum value of their unused or accumulated sick, vacation, or other leave programs to the 401(k) and/or 457(b) plans. In this case, the contribution is treated as an employee’s elective contribution subject to limitations established under federal law.
Employers may contribute the lump-sum value of an employee’s unused or accumulated sick, vacation, or other leave programs to the employee’s 401(k) account when the employee does not have the option to receive cash or any other taxable benefit in lieu of the contribution to the 401(k) account. In this case, the contribution is treated as a nonelective employer contribution subject to limitations established under federal law.
Employee or employer contributions of lump-sum unused or accumulated sick, vacation, or other leave pay (as described above) must be paid by the latter of 2½ months after separation from employment or the end of the calendar year that includes the date of separation from employment.
Other types of separation pay that don’t meet the definition of compensation must be contributed while the employee is still working.
For contribution limits, refer to the Defined Contribution section.
Typically, compensation is earnings from working. For a more detailed explanation of compensation for IRAs, please refer to IRS Publication 590-A, Contributions to Individual Retirement Arrangements (IRAs).
Compensation includes wages, salaries, tips, professional fees, commissions, and bonuses. Taxable alimony payments and separate maintenance payments received under a divorce decree are also considered compensation.
Compensation does NOT include pension, annuity, Social Security benefits, or deferred compensation income. Rental, interest, and dividend income are also excluded. As a general rule, any amount excluded from income is not compensation.
Includes:
» Wages, salaries, etc.
» Commissions
» Self-employment income
» Alimony and separate maintenance.
Does not include:
» Pension or annuity income
» Social Security benefits
» Deferred compensation/defined contribution (401(k), 403(b), 457(b))
» Interest and dividend income
» Earnings and profits from property
» Any amounts you exclude from income.
For limits on contributions, see Roth and Traditional IRA Maximum.