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Employer liability for non-ERISA 403(b)


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A not-for-profit hospital is concerned that its group of ten annuity issuers may not be correctly computing the maximum contributions that employees may defer into their tax-deferred annuities. However, before the hospital spends much money to investigate the problem, we wanted to identify the hospital's liability.

We're familiar with IRS audit activities, but what is the employer's possible exposure? IRC 6672 potentially exposes the employer to penalties for failure to withhold on overmax contributions, but only if the hospital was willfully failing to withhold taxes, which seems very difficult for the IRS to prove.

Is there any other basis for liability? Is anyone familiar with a case where the IRS has actually imposed monetary penalties on the employer for overmax contributions to a non-ERISA 403(B)?

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Guest CVCalhoun

Actually, the biggest "penalty" arises under Code section 3403, which provides that the employer is responsible for the amount of tax withholding which should have been made (whether or not it is in fact made). Thus, even without a formal penalty applying, an employer which permitted contributions over the maximum could end up with liability for the tax which should have been withheld on such contributions.

Although I do not have details on any specific cases, IRS officials have said informally that they are using this mechanism routinely in existing audits. Moreover, if the contracts involved are section 403(B)(7) mutual funds, theoretically employees should be paying taxes on the earnings of the mutual fund attributable to the excess contributions. Although the employer is not liable for this tax, IRS officials have said that in many instances, they have collected some portion of this tax from the employer anyway. This was accomplished by an IRS threat that if the employer did not pay, the IRS would go after the employees and tell them that their employer was responsible for the fact that they owed the tax.

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  • 2 weeks later...

one other point - if the over contributed amounts are due to employees exceeding the $10,000 402(g) limit (or the alternative limit of 402(g)(8) for employees with 15 or more years of service) then the employer is the one with the real exposure. Violations of 402(g) are "plan" defects which taint the entire arrangement. The exposure may be huge - because if discovered by IRS under audit, it may create a closing agreement program (CAP) settlement. Under CAP, the sanctions become large very quickly, especially considering the calculation of the sanction based on the maximum payment amount - or the tax that would have been due had the arrangment not been qualified.

I also have seen what Carol is referring to above, however, that the threat of going back to all employees for taxes on overcontributed amounts is the leverage that IRS is using - and it works. Most employers don't want the bad employee relations that would create.

[This message has been edited by derek (edited 11-12-98).]

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