What Is a Non-Highly Compensated Employee (NHCE)?

A Non-Highly Compensated Employee (NHCE) is a classification used in retirement plan administration, particularly in the context of employer-sponsored retirement plans like 401(k)s. This designation helps ensure that tax-advantaged retirement plans do not disproportionately benefit higher-earning or ownership-level employees at the expense of the broader workforce. The distinction between NHCEs and Highly Compensated Employees (HCEs) is critical when applying certain regulatory tests required by the IRS to maintain a retirement plan’s qualified status.

Definition and Thresholds

An NHCE is any employee who does not meet the criteria to be considered a Highly Compensated Employee under Internal Revenue Code (IRC) Section 414(q). There are two primary ways an employee could be classified as highly compensated, and if neither applies, the employee is considered non-highly compensated.

An employee is not an HCE if:

1. They earned less than a specific compensation threshold in the preceding year (for 2025, this threshold is $160,000).
2. They do not own more than 5% of the business at any time during the current or preceding year, either directly or through family attribution.

These criteria are reassessed annually, as the IRS adjusts the compensation limit for inflation. Importantly, the classification is based on prior year compensation, so for plan year 2025, the compensation earned in 2024 is what determines HCE or NHCE status.

Role in Retirement Plan Compliance

The NHCE designation plays a key role in non-discrimination testing, a requirement for qualified retirement plans under the Employee Retirement Income Security Act (ERISA). The IRS mandates that these plans must offer benefits in a manner that does not unduly favor highly compensated employees.

There are two main annual compliance tests where NHCE status becomes relevant:

• Actual Deferral Percentage (ADP) Test: Measures the average salary deferral rates of HCEs compared to NHCEs.
• Actual Contribution Percentage (ACP) Test: Applies to employer matching and after-tax contributions, ensuring that benefits do not skew too heavily toward HCEs.

These tests compare the behaviors and benefits of NHCEs and HCEs. If HCEs contribute significantly more to their plans than NHCEs, the plan may fail the tests. In such cases, corrective action — like refunding excess contributions to HCEs or making additional contributions to NHCEs — must be taken to maintain the plan's qualified status.

Impact on Employers and Plan Design

From an employer’s perspective, understanding and tracking which employees are NHCEs is essential for retirement plan administration. This classification influences how plans are designed, tested, and adjusted. Employers may implement features like safe harbor plans, which are specifically structured to automatically pass certain compliance tests by committing to minimum contribution levels and vesting schedules.

Safe harbor contributions are typically made uniformly across all eligible employees, often providing a guaranteed benefit to NHCEs regardless of their own deferral choices. This structure helps simplify plan management and avoid the complexities of annual non-discrimination testing.

Additionally, some employers may offer automatic enrollment or eligibility enhancements for NHCEs as a way to boost participation rates and ensure the plan meets the required testing thresholds.

Examples in Practice

Consider a mid-sized company offering a 401(k) plan. Suppose in the prior year, the HCEs deferred an average of 8% of their salaries while NHCEs only deferred an average of 4%. Under the ADP test, this disparity may cause the plan to fail compliance requirements unless corrected.

In another case, an NHCE earning $60,000 might be eligible for an employer matching contribution, and even though they’re not contributing the maximum amount personally, the employer’s safe harbor match ensures they still receive meaningful retirement benefits.

Why It Matters to Employees

While NHCE status might sound like a technical label, it has real-world implications for individual workers. For NHCEs, it often means increased access to employer contributions or a greater emphasis on participation efforts from the plan sponsor. For example, if a company wants to maintain its plan’s qualified status, it may introduce educational programs or financial wellness initiatives targeting NHCEs to encourage higher deferral rates.

This classification also affects how much HCEs can contribute to their retirement plans. If NHCE participation is low, HCEs may face contribution limits, which can indirectly lead to increased attention and incentives for NHCE engagement.

The Bottom Line

Non-Highly Compensated Employees are central to the regulatory framework of employer-sponsored retirement plans. Their participation and benefits are closely monitored to ensure fairness across income levels. For employers, maintaining compliance often hinges on understanding and addressing the needs of NHCEs. For employees, being classified as an NHCE can lead to enhanced plan features and targeted benefits designed to promote retirement readiness across the organization.