Thorough knowledge of the remedial programs available through the Employee Plans Compliance Resolution System enables pension and employee benefit practitioners to properly guide plan sponsors through voluntary or involuntary correction, while avoiding liabilities associated with improper guidance. In this issue of The Benefits Professional Report, attorneys Leslie A. Klein and Hilary Duke of Sonnenschein Nath & Rosenthal continue to review EPCRS, focusing on the Voluntary Compliance Resolution program. This program permits plan sponsors to correct qualified plan operational failures with assurance that the IRS will not disqualify the plan based on the disclosed failures.
The Voluntary Compliance Resolution (“VCR”) program, as incorporated into the Employee Plans Compliance Resolution System (“EPCRS”) under Revenue Procedure 98-22, permits plan sponsors to correct qualified plan operational failures. The IRS implemented the VCR program to encourage plan sponsors and third party administrators to comply voluntarily with requisite tax laws.
Under the VCR program, plan sponsors voluntarily disclose and correct operational failures upon the payment of a user fee. An operational failure is a qualification failure that arises solely from the failure to follow plan provisions. Once failures are disclosed, the IRS and the plan sponsor must agree on a correction method. The IRS’s National Office will then issue a compliance statement, which provides the plan sponsor a significant degree of assurance that the IRS will not disqualify the plan based on the disclosed operational failures.
Eligibility for the VCR Program
To be eligible for the VCR program, a plan must not be under examination by the IRS. In addition, the VCR program is available only for a plan that has a current favorable determination letter, opinion letter, or notification letter.
Only operational failures arising from the failure to follow plan provisions may be corrected under the VCR program. The VCR program is not available for plan document failures, demographic defects, egregious failures, or for the misuse or diversion of plan assets. In addition, the IRS has excluded consideration for failures where sufficient information is not available to properly determine the extent of the defect or to effect proper correction. Potentially, this limitation could result in the exclusion of a substantial number of plans as often participation data and other information necessary to correct an operational failure is not available.
The VCR program also is not available for defects correctable under Section 401(b) where the remedial amendment period has not expired. Finally, the VCR program generally does not permit a retroactive plan amendment conforming the terms of the plan to the plan’s operation.
Correction Under the VCR Program
Generally, full correction for all plan years is required. The plan sponsor must propose a correction method and agreement must be reached with the IRS. While the IRS has issued guidance on acceptable correction methods (see Rev. Proc. 99-31), any list of possible correction methods should be used as guidance only.
The plan sponsor also must disclose the plan’s identity in the VCR submission. While programs permitting anonymity exist under Walk-in CAP, the IRS feels that it is inefficient to discuss cases with potential applicants only to have the applicants decide not to proceed with a VCR submission.
The inability for a plan sponsor to know in advance whether and how corrections will be made along with the requirement that the plan be identified limits the utility of the VCR program. In many cases a plan sponsor no longer has the participant data necessary for complete correction. Further, certain corrections methods are dramatically more expensive than others. Consequently, plan sponsors are discouraged from using the VCR program.
VCR Compliance Statement
A plan sponsor must follow specific procedures to request a compliance statement from the National Office. Generally, a request contains a description of the defects, a description of the proposed method of correction, and other procedural items that include supporting information and documentation.
The IRS has the right to request additional information. Requested information must be provided within 21 days or the plan may be forwarded to the appropriate key district office for possible audit. Seriously deficient requests may be returned without contacting the plan sponsor and presumably may be forwarded for examination. It appears that the IRS will not return submissions with only one or two deficiencies.
Once satisfied with the plan sponsor’s submission, the National Office will issue a compliance statement. The compliance statement assures the plan sponsor that the IRS will not seek to disqualify the plan on the information presented. The compliance statement sets forth the qualification failures identified and the required correction. The Service will not monitor every compliance statement it issues, but intends to follow up with a sample of plans to ensure compliance.
Other VCR Program Considerations
Except in unusual circumstances, a plan properly submitted under the VCR program will not be examined while the submission is pending. If the IRS discovers an unrelated plan defect, the defect generally will be added to those under consideration. However, where the IRS determines that a defect, not voluntarily disclosed by the plan sponsor, is outside the scope of the request, the plan may be forwarded to the appropriate key district office for examination.
While the forwarding of a VCR request for examination should occur only in rare circumstances, the IRS’s authority to do so may create a disincentive for plan sponsors to voluntarily disclose defects. Even in the case where plan defects are found egregious, plan sponsors are given 60 days in which to request consideration under Walk-in CAP. Based on a literal reading of the above authority, however, Walk-in CAP will not be offered in the case of ineligible defects. This is not what the IRS intended. Rather, to further the goal of voluntary compliance, plan sponsors presumably will have the option to submit the plan to Walk-in CAP. Senior IRS officials have confirmed this presumption is correct.
Finally, a submission under the VCR program generally does not waive excise taxes due. However, as a result of a VCR correction, excise taxes should not continue to accumulate as correct administration would thereafter occur.
Standardized Voluntary Compliance Resolution Procedure
Under the VCR program, certain operational failures may be corrected under the Standardized VCR Procedure (“SVP”) rules. The IRS developed SVP to permit plan sponsors to correct certain types of operational failures which the IRS found recurring and more easily fixed than other operational failures. A plan sponsor must request a compliance statement and pay a reduced fee of $350. Like the VCR program, SVP was consolidated into EPCRS under Revenue Procedure 98-22. The requirements and procedures for SVP are generally the same as the VCR program, except as noted below.
Eligibility for SVP
Eligibility for SVP requires a plan first to satisfy the eligibility requirements for the VCR program. SVP then is available only for specific plan operational failures and correction methods set forth in Revenue Procedure 98-22, Appendix A:
The use of SVP is subject to a two defect limit. In addition, SVP is available only if all of the plan’s failures are eligible for correction under SVP. These rules effectively prohibit sponsors of large plans from using SVP, as it is highly probable that such plans will have more than two qualification failures. As the use of SVP furthers the IRS’s goal of voluntary compliance and reduces the amount of IRS resources that must be expended, it appears that there is little reason for these limits. Rather, to achieve greater voluntary compliance, submission of additional specified defects should be encouraged.
SVP Notification Letter
A plan sponsor must send a SVP Notification Letter to the IRS containing a description of the plan failure and permitted correction method, a statement that the plan sponsor proposes to implement the permitted correction, and the time period for making the required correction. The National Office will review the Notification Letter within 120 days from the date it is received and determined to be complete.
SVP Cost Considerations
SVP has a number of advantages over the broader VCR program. First, the administrative costs of using SVP are lower. The user fee is limited to $350 whereas the VCR program can be as high as $10,000. The cost of preparing a SVP filing is relatively nominal due to the specified defects and correction methods. Second, the SVP program is given priority processing at the National Office over normal VCR program filings, thereby assuring relatively prompt processing of the request.
On the other hand, there may be substantial disadvantages of using SVP. The limited corrective methods may result in unnecessary high compliance costs. For example, it may be less costly for 401(k) plan sponsors to use the regular VCR program for a failure to satisfy the ADP or ACP tests. Plans filing under SVP may be required to make additional employer contributions for all of their nonhighly compensated employees, as opposed to plans filing under the VCR program, which may be required to make contributions only for participants with the lowest compensation. Therefore, in deciding which program to use, plan sponsors and their third party administrators should consider both the administrative costs of using the program and the costs of complying with a correction method.
Copyright 1999 by Professional Practice Insurance Brokers, Inc., a Hilb, Rogal & Hamilton Company. Reprinted with permission from The Benefits Professional Report, December 1999 (vol I, issue III).