Glossary
Nondiscrimination Testing
Nondiscrimination testing is the set of annual IRS tests a 401(k) or similar plan must pass to show it does not disproportionately benefit owners and highly compensated employees over the rest of the workforce.
The main tests (ADP/ACP) compare average deferral and matching rates of highly compensated employees against everyone else; separate tests police coverage and "top-heavy" plans. Failing tests force corrective refunds to owners and high earners — taxable money bounced back after year-end.
Why it matters in practice
Testing is why small-business owners sometimes discover they personally cannot max out their own plan: if rank-and-file participation is low, the owners' contributions get capped or refunded. Safe harbor 401(k) designs exist largely to solve this — a required employer contribution buys exemption from the main tests, letting owners defer the full limit regardless of staff participation.
Related terms: Safe Harbor 401(k) · 401(k) · Plan Sponsor · Qualified Plan · Third-Party Administrator