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Excess deferrals over plan limit


Guest ladycpa2

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Guest ladycpa2

We do the audit of a 401k plan and notified them in 2006 that several participants made deferrals over the 15% plan limit in 2003 and 2004. Three of the participants terminated and rolled their distributions to IRAs. Unfortunately, our advice was never taken and these excess deferrals are still in the 401k for the active participants and presumably in IRAs for those that terminated. They are not de minimis amounts. I explained to the client that we should really take the plan and correct under VCP since it happened for 2 years and has not been corrected but they really don't want to. I told them that I would calculate the amounts that should have been distributed plus earnings for the affected participants. We can refund the deferrals plus earnings from the 4o1k for the active participants, but do we have to tell them they need to amend their 2003 and 2004 returns, or can we have them show the total excess for 2008 on a 1099-R from the plan? Any thoughts? Secondly, for those terminated participants amounts, does the plan issue a 1099-R for 2003 and 2004 or for 2008 to show the excess and then we also notify them that those amounts were not eligible for rollover so they would be subject to the 6% excise tax on the ineligible rollover amount? Really wish we hadn't been so thorough when we did the audit in 2006 for the first time! :o

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Are you saying the plan limits deferrals for all employees to 15% of pay? That type of provision was fairly common pre-EGTRRA. I would have expected them to remove that kind of limit starting in 2002.

Were any of these people with excess amounts age 50 by the end of the calendar year of deferral?

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If I were you I'd duly note that you informed them of the issue and move on. I'm not a CPA and have limited experience on plan audits but it doesn't keep you from giving an opinion, does it? I mean, don't you ultimately just have to certify the financials for the year in question, or do you have to "deal with" anything you find at all (I seriously don't know). There is no 15% statutory limit so it's an artificial plan limit that should have been removed a long time ago.

Ed Snyder

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Guest ladycpa2

I agree that was odd that it wasn't taken out with an amendment after 2002 but they were with a different document provider and TPA up until 2005 so we are limited as far as making sure that it wasn't amended to remove that limitation. Some of the individuals are over age 50 and so we have reduced the excess by the applicable catch-up but some still have excess.

It doesn't effect the audit opinion necessarily but I know I want to document that we have communicated the consequences once we found that they had never corrected. They also have engaged us to draft the letter to the participants explaining the excess and the tax consequences and that's where I wanted to get some feedback since even the new EPCRS rev. proc doesn't address this error specifically.

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Well, there is really no way to correct as this constitued a failure to follow the terms of the plan. You cannot distribute the excess as such action would constitute another operation outside the terms of the plan, as there is no statutory authority to distribute the elective deferrals in these circumstances. So, without IRS guidance on the permissive steps to take, the employer would have to make a risk assessment as to whether this event is significant enough to file VCP.

I typically have clients correct prospectively as this type of error is seldom seen as a flagrant violation. That would still be a matter of perspective.

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I agree that was odd that it wasn't taken out with an amendment after 2002 but they were with a different document provider and TPA up until 2005 so we are limited as far as making sure that it wasn't amended to remove that limitation.

I don't understand your statement here. Are you saying you know they did not amend to remove the limit? Or that you don't know if they amended or not?

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ERISAnut -- Based on my experiences with plan errors discovered on audit recently--and a recent thread discusses some of our bloggers' experiences: http://benefitslink.com/boards/index.php?showtopic=39578 --I'd be very careful playing the audit game anymore when there's a pretty safe and relatively easy way to correct in a reasonable manner through EPCRS (especially, of course, where EPCRS permits self-correction). At a bare minimum, certainly, a client should carefully take into account the EPCRS correction principles.

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Guest ladycpa2
I agree that was odd that it wasn't taken out with an amendment after 2002 but they were with a different document provider and TPA up until 2005 so we are limited as far as making sure that it wasn't amended to remove that limitation.

I don't understand your statement here. Are you saying you know they did not amend to remove the limit? Or that you don't know if they amended or not?

When we took over the plan document we amended in 2005 to remove the limit. The prior EGTRRA amendments that were completed by a different provider did not remove the 15% plan limit on deferrals. So unless they did not provide us with all amendments, they did not remove the limit and it was still in effect for the 2003 and 2004 plan years.

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I wouldn't expect to see the deferral limit removed in the good faith EGTRRA amendment. We only had a few clients with deferral limits due to the old deduction limits. I incorporated the removal of the deferral limit into their GUST restatements.

Before you turn to a correction method, I would make sure that they really did not amend. We have taken over plans where the client did not initially provide copies of all the executed amendments. They usually remember the amendments when we go over the inconsistent provisions in the current SPD versus the document they provided.

If they did not amend, I'm not sure that distributing the excess is the only way to correct. I just noticed in Rev.Proc 2008-50, 6.05(3) that they address the correction of a failure to timely adopt an amendment required to implement optional law changes. Removal of the deferral limit would have been one way to comply with the catch-up universal availability requirement. You might be able to fix this with a VCP non-amender filing. It would be worth looking into.

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Guest ladycpa2
I wouldn't expect to see the deferral limit removed in the good faith EGTRRA amendment. We only had a few clients with deferral limits due to the old deduction limits. I incorporated the removal of the deferral limit into their GUST restatements.

Before you turn to a correction method, I would make sure that they really did not amend. We have taken over plans where the client did not initially provide copies of all the executed amendments. They usually remember the amendments when we go over the inconsistent provisions in the current SPD versus the document they provided.

If they did not amend, I'm not sure that distributing the excess is the only way to correct. I just noticed in Rev.Proc 2008-50, 6.05(3) that they address the correction of a failure to timely adopt an amendment required to implement optional law changes. Removal of the deferral limit would have been one way to comply with the catch-up universal availability requirement. You might be able to fix this with a VCP non-amender filing. It would be worth looking into.

That's a great point. I looked at that and they did timely adopt GUST, EGTRRA and post-EGTRRA amendments but did not remove the deferral limit in any of these. I definitely, will have them check all their documents and hope that they find one somewhere. As of right now, they are telling me that they have given us all the amendments. Assuming, there was no amendment done, the way I read that section of Rev. Proc. 2008-50, 6.05(3) is that you can submit under VCP the amendment for optional changes that conforms the operation to the terms of the plan. I would definitely feel more comfortable recommending they do that and pay the fee than I do about distributing those excess deferrals. Especially, since there are some that have terminated and rolled to an IRA. That seems a lot less risky than assuming this is the corrections the IRS would approve of and then those participants would not have to go back and amend their 2003 returns. Do you agree?

Thanks for your feedback!

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That's what I was thinking. But, I didn't read all of the Rev Proc with that in mind. I was looking through it for another issue and noticed that wording. If there isn't something else in the Rev Proc that would prevent you from doing the retroactive amendment, I think that correction would be a lot easier on everyone than trying to distribute the excess.

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Guest ladycpa2
That's what I was thinking. But, I didn't read all of the Rev Proc with that in mind. I was looking through it for another issue and noticed that wording. If there isn't something else in the Rev Proc that would prevent you from doing the retroactive amendment, I think that correction would be a lot easier on everyone than trying to distribute the excess.

I agree. That is the route I am going to recommend to the client and hope that they buy off on it. Thanks for all your feedback -- always nice to have someone else to run it past.

Thanks, Susan

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