Discretionary contribution

What a discretionary contribution is

The plan document has to permit the contribution and say how it is divided among participants. The employer then decides the amount each year, usually by a written resolution. To deduct it for a given tax year, the company must deposit it by the due date of its tax return, including extensions.

Why it matters to employers

Discretionary contributions let you give more in good years without a fixed commitment. They can carry a vesting schedule and conditions such as being employed on the last day of the year. Limits still apply: employer deductions are capped at 25% of eligible payroll, and each participant’s total annual additions at $72,000 in 2026. A discretionary match is ACP tested in a traditional 401(k). In a safe harbor plan it stays exempt only if it does not exceed 4% of pay and does not match deferrals above 6% of pay.

Example

After a strong year, a company with $2,000,000 of eligible payroll declares a 4% profit sharing contribution, or $80,000, divided in proportion to pay. An employee earning $75,000 receives $3,000.

Common mistakes

• Describing it to employees as a promise.

• Missing the deposit deadline and losing the deduction for that year.

• Ignoring the allocation conditions written in the plan document.

• Adding a discretionary match to a safe harbor plan beyond the 4% cap, which brings ACP testing back.