Employers who contribute more to a qualified retirement plan than the amount deductible under IRC § 404 face a 10% excise tax on the excess under § 4972. This must be reported on Form 5330, Schedule A. Unlike prohibited transactions, this tax is often driven by careful planning decisions rather than administrative errors.
What Is a Nondeductible Contribution?
Under § 404, employer contributions to a defined contribution plan are generally deductible up to 25% of the compensation of all participating employees. Contributions above this limit in a given tax year are "nondeductible" and subject to the § 4972 excise tax — even if they are otherwise permissible under the plan document and IRC § 415 annual addition limits.
Why Would an Employer Over-Contribute?
Common scenarios include:
- Employer contributions to a profit-sharing plan that exceed the § 404 limit due to a compensation decrease
- Carryforward excess from prior years that pushes the current year over the limit
- Contributions to a plan covering a small number of highly compensated employees where the compensation base is narrow
- Defined benefit + defined contribution combination plans where the combined deduction limit (also 25% of compensation) is exceeded
The Calculation: Schedule A, Lines 1–11
The calculation flows through Schedule A of Form 5330:
- Line 1: Total employer contributions for the year
- Line 2: § 404 deductible limit (generally 25% of covered compensation)
- Lines 3–8: Prior year nondeductible contributions and carryforward adjustments
- Line 9: Tentative nondeductible amount (Line 1 minus Line 2)
- Line 10: § 4972(c)(6)/(7) exempt contributions (e.g., certain employee stock ownership plan contributions)
- Line 11: Taxable nondeductible amount = Line 9 minus Line 10
The excise tax is 10% of Line 11, flowing to Part I, Line 1a of Form 5330.
Carryforward of Excess Deductions
Nondeductible contributions are not lost — they can be carried forward as deductions to future tax years under § 404(a)(1)(E). This is why Schedule A requires tracking of prior year nondeductible amounts and how much was deducted this year. The § 4972 excise tax continues to apply each year the excess exists in the plan, until it is absorbed by the carryforward deduction in a future year.
Correcting the Excess
The most direct correction is to withdraw the excess contribution from the plan (within certain limits). However, the tax for the year the excess occurred is not eliminated by later withdrawal — it is only stopped from accruing in future years. EPCRS correction procedures may also be available depending on the circumstances.