What Is a 404(a)? Deduction Limits and Excess Contributions

Under Section 404(a) of the Internal Revenue Code, the deduction limits for employer contributions to qualified retirement plans are capped at 25% of total participant compensation for defined contribution plans like 401(k)s and profit-sharing plans, while defined benefit plans use an actuarial ceiling. Contributions must be deposited into the plan trust by the due date of the employer’s tax return, including extensions, to count for the prior year. Go over the limit and the excess is nondeductible and hit with a 10% excise tax under Section 4972.¹

The 25% Cap for Defined Contribution Plans

For profit-sharing plans, 401(k) plans, and money purchase pension plans, the deductible amount cannot exceed 25% of the total compensation paid or accrued during the year to all participating employees.¹ Both non-elective profit-sharing contributions and employer matching contributions count against this cap.

Employee elective deferrals do not count against the 25% limit.² They are, however, included in the compensation base used to calculate that 25%. So if a company pays $1 million in total compensation to plan participants, the employer can deduct up to $250,000 in employer contributions no matter how much employees defer on their own.

A separate per-person ceiling operates alongside the deduction limit. The total annual additions to any single participant’s account — employer contributions, employee deferrals, and forfeitures combined — cannot exceed $72,000 for 2026 under Section 415(c).³ The 415(c) cap is per employee; the 25% cap is aggregate.

When Contributions Must Be Deposited

The deduction is available in the taxable year the employer actually pays the contribution into the plan trust. Accruing a deduction for money you plan to send later does not work. The funds have to move.

Section 404(a)(6) provides one significant exception. A contribution is treated as made on the last day of the prior taxable year if it is paid on account of that year and deposited no later than the due date of the employer’s tax return, including extensions.¹ This applies to both cash-basis and accrual-basis taxpayers. It lets an employer close the books, see final income for the year, and then make or adjust the contribution before filing.

The Per-Employee Compensation Cap

Every deduction calculation under Section 404(a) is built on participant compensation, and that compensation is capped per person. For 2026, the maximum compensation that can be counted for any single employee is $360,000.³ If an executive earns $500,000, only $360,000 goes into the 25% math for that person. The plan document specifies which definition of compensation applies, and the employer has to use it consistently.

Defined Benefit Plan Limits

Defined benefit plans do not use a flat percentage. The deductible amount is set by actuarial calculations, and the employer needs an actuary to determine both the minimum required contribution and the maximum deductible amount.²

For single-employer defined benefit plans, Section 404(o) sets the maximum. The deductible limit for a year is the greater of a calculated ceiling or the minimum required contribution under Section 430.¹ The calculated ceiling equals the plan’s funding target, plus its target normal cost, plus a cushion amount, minus the current value of plan assets. The cushion amount is 50% of the funding target, plus projected benefit increases from expected future compensation growth.

The practical floor: an employer can always deduct at least the minimum required contribution, even if the ceiling formula would produce a smaller number. Meeting a legal funding obligation is never penalized by the deduction rules.

Combined Limit When You Sponsor Both

An employer that sponsors both a defined contribution plan and a defined benefit plan covering overlapping participants faces an additional cap under Section 404(a)(7). The total deductible amount across both plans is capped at the greater of:

25% of total compensation paid or accrued during the year to beneficiaries under both plans, or
The contributions needed to satisfy the minimum funding requirement for the defined benefit plan under Section 430 (or, if larger, the excess of the funding target over plan assets).

Because the second prong is available, the combined limit never forces an employer to underfund its pension. If the defined benefit plan’s required contribution alone exceeds 25% of compensation, the full amount is still deductible. In effect, the 25% combined cap constrains only the defined contribution side.⁴

SEP and SIMPLE Plans

Simplified Employee Pension plans are treated as profit-sharing plans for deduction purposes, so the 25% cap carries over. For 2026, employer contributions to any employee’s SEP-IRA cannot exceed the lesser of 25% of compensation or $72,000.⁵ SEPs do not allow elective salary deferrals, aside from a narrow exception for grandfathered SARSEP plans established before 1997.

Employer contributions to a SIMPLE retirement account are deductible in the taxable year that ends with or within the calendar year for which the contributions were made. Contributions made after the calendar year ends still qualify if they reach the plan by the employer’s tax return deadline, including extensions.¹ For 2026, the SIMPLE employee deferral limit is $16,500, with a $4,000 catch-up at age 50 and a $5,250 catch-up for participants aged 60 through 63.³

The Self-Employed Calculation

Sole proprietors and partners can contribute to their own plans, but the math is trickier than for common-law employees. The 25% limit still applies. But “compensation” for a self-employed person is net earnings from self-employment, reduced by both the deductible portion of self-employment tax and the retirement plan contribution itself.⁶

That creates a circular calculation: the deduction depends on compensation, and compensation depends on the deduction. The IRS breaks the loop with a reduced contribution rate formula. Divide the plan contribution rate by one plus that rate. For a plan with a 25% rate, the reduced rate is 20% (0.25 ÷ 1.25). Apply that 20% to net self-employment earnings after subtracting the deductible half of self-employment tax.

The deduction goes on Schedule 1 of Form 1040, not on Schedule C. It reduces adjusted gross income rather than business income, so it does not lower self-employment tax.⁶

What Happens if You Contribute Too Much

Contributions above the Section 404(a) limit are classified as nondeductible. The excess triggers a 10% excise tax under Section 4972, paid by the employer.⁷ The tax is measured against the nondeductible amount as of the close of the employer’s taxable year, and it recurs each year the excess stays in the plan. Employers report it on Form 5330, due by the last day of the seventh month after the tax year ends; a six-month extension is available on Form 5558, though the tax itself is still due by the original deadline.⁸

The excess is not lost. Section 404(a) allows nondeductible contributions to be carried forward and deducted in later years.² The carryover stacks on top of new contributions in the following year, but the combined total still cannot exceed that year’s deduction limit. As the carryover is absorbed, the amount exposed to the 10% excise tax shrinks with it.

Exceptions to the Excise Tax

Not every over-limit contribution triggers the penalty. Section 4972(c) carves out several situations:

Matching contributions nondeductible only because of the Section 404(a)(7) combined plan limit, if described in Section 401(m)(4)(A), are excluded from the excise tax calculation.
Contributions to a SIMPLE IRA or SEP that are nondeductible solely because they were not made in connection with a trade or business are excluded, though this exception does not cover contributions made on behalf of the employer or the employer’s family.
An employer can elect to exclude defined benefit plan contributions from the excise tax calculation for a year, except for multiemployer plan contributions exceeding the full-funding limitation. Making the election changes the order in which the combined limit is applied and disables the other exceptions for that year.
If the excess is distributed back to the employer before the Section 404(a)(6) contribution deadline, the returned amount is not counted as a nondeductible contribution.

Applying these exceptions correctly generally means coordinating with the plan’s actuary or administrator before filing.⁷

1
Office of the Law Revision Counsel. 26 USC 404 – Deduction for Contributions of an Employer to an Employees Trust or Annuity Plan and Compensation Under a Deferred-Payment Plan
2
Internal Revenue Service. Publication 560 – Retirement Plans for Small Business
3
Internal Revenue Service. Notice 2025-67 – 2026 Amounts Relating to Retirement Plans and IRAs, as Adjusted for Cost of Living
4
Internal Revenue Service. Combined Limits Under IRC Section 404(a)(7)
5
Internal Revenue Service. SEP Contribution Limits (Including Grandfathered SARSEPs)
6
Internal Revenue Service. Self-Employed Individuals – Calculating Your Own Retirement Plan Contribution and Deduction
7
Office of the Law Revision Counsel. 26 US Code 4972 – Tax on Nondeductible Contributions to Qualified Employer Plans
8
Internal Revenue Service. Instructions for Form 5330