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Employer failed to make 401K loan payroll deductions


Guest Mark Cornwell

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Guest Mark Cornwell

It took out a 4 year loan for $20,000 from my 401K in April of this year (2008). The deal was made over the phone with the 401K management company. The company told me they would notify payroll and I did not need to do anything more. On the cover letter accompanying the check the management company stated payments would be deducted from payroll.

Six months later, I learned from my employer that no payroll deductions were applied against the loan that the loan was in default. This is despite the fact that for the year, I had already had about $19,000 in payroll deductions sent to my 401K. (Apparently the 401K and the 401K loan are two different things. They say I should have known that from my check stub.) A 1099 had been sent to the IRS and the 20K that was a loan now becomes a distribution that is subject to penalties and taxes. I received no notice of the overdue loan until after the default occurred two weeks ago.

After many long and heated sessions on the phone with the 401K management company, I was eventually told that since I was still an employee with the company that the company could use the IRS's Voluntary Compliance Program (VCP) to correct the error. The management company still accepts no responsibilty telling me they sent a "feed" to my employer. Basically this means it would have appeared on a page at the management site if they had bothered to look at it. Since my employer tells me they have never had a 401K load before and were not notified, they didn't know to go look at the page. The management company tells them that is their fault.

I was just told by my company that after they looked into the VCP they decided the fees charged were more than a small company like ours was willing to pay. They told me they are sorry, but I am left to deal with it on my own.

Right now I face about $10,000 in taxes and penalties as a result of the oversight. My employer and the 401K management company accept no responsibility.

Are they correct that this is all my fault?

Do they have any responsibility to correct the error?

What leverage, if any, do I have to persuade them to do so?

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Some of what you are asking was recently discussed at length in this thread

John Simmons

johnsimmonslaw@gmail.com

Note to Readers: For you, I'm a stranger posting on a bulletin board. Posts here should not be given the same weight as personalized advice from a professional who knows or can learn all the facts of your situation.

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Doesn't look like it's your fault from your recitation of the facts, but, whether or not it's your fault, the consequences of the error certainly are yours. And, you can't fix under VCP without your employer's cooperation.

You could let your employer know that you intend to call the DOL claiming that the employer, as ERISA administrator, failed to monitor the plan to determine if the loan was being repaid, and therefore breached its fiduciary duty. Perhaps that will wake them up a bit.

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It is unfortunate and certainly enough to make anyone angry. But the fact that you did not notice that no loan payments coming out of your check is NOT the fault of your employer or the firm administering the plan. The paperwork you received should have told you the amount of each payment. When your paycheck continued without being lowered by that amount, you should have inquired about it.

P.S. I just noticed your name is the same as someone I used to work with. Is the employer in question a magazine publisher? If so I might have some tips on dealing with the individuals involved.

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The design of a pay stub is beyond the control of the employee.

If a pay stub has only 1 line for 401(k) deductions, the employee has no way of knowing what the deduction is for. Employees usually assume that "regular' deductions are relatively accurate and do not compare the entries on each pay stub with copies of time sheets, order slips, salary reduction agreements etc.

We do not know how much info regarding 401(K) salary deductions etc are on this pay stub, so we do not know how much this employee is to blame for not having noticed that there was n change in the amount of the deduciton, assuming that there was a noticeable change in amount.

As a result I am hard pressed to immediately start blaming this employee or even assigning any fault to anyone, without more details.

**************

Mark

See if the management company will give you a copy or proof of what they used to notify your employer. They might never have been properly notified.

I do not see how corrective steps can be taken without knowing where the system failed.

I also would get a copy of the SPD and the Plan Document to see how the employer wassupposed to treat a loan payment delinquency etc, how a loan default is treated and when the 1099 should be issued. I feel that it is quite possible that proper procedures were not followed. I also questionwhether or not the 1099 should have been issued so quickly, but I really do not know.

You should have this info before you threaten to or call the DoL etc just to make sure you are coherent and have some basis for complaining. A clear position always appears stronger than a vague one.

George D. Burns

Cost Reduction Strategies

Burns and Associates, Inc

www.costreductionstrategies.com(under construction)

www.employeebenefitsstrategies.com(under construction)

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If this is the only loan ever taken from the plan, why wouldn't they be able to correct using SCP instead of VCP? Even if there are few enough participants that one is a significant percentage, he is still within the SCP correction period for significant operational errors.

Mark,

Did they send you any paperwork with the loan check that listed a payment schedule?

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Kevin -- A proper loan correction under these circumstances (e.g., through reamortization over the remaining portion of the period, or over 5 years) can only occur under VCP (EPCRS Section 6.02(2)(a)), so SCP is not available.

K2 -- I agree with you that the employee certainly is not blameless for this situation continuing for so long. Nevertheless, this fits into VCP despite that fact.

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I have a freeze on hiring and it is fee sharing only but would reconsider for someone with a number of CEO contacts at large companies. I have no full--time staff but I have a few professonals on retainer who work as needed but almost everyone else get paid for referrals that become clients (sales). None would have noticed unless idly nit-picking.

I do not know how prevalent or legal it is, but I have seen pay stubs from 401(k) participants who reduced elective deferrals to the minimum for employer matching and used the difference in reduction (plus a little extra) as loan repayment. Thus the impact was negligible especially if earnings fluctuate with OT or commissions etc. I do not know how much impact a $20,000 loan would have in that scenario or this.

George D. Burns

Cost Reduction Strategies

Burns and Associates, Inc

www.costreductionstrategies.com(under construction)

www.employeebenefitsstrategies.com(under construction)

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  • 8 years later...

I came across this thread in a search, and could use some assistance.

Our situation is that the ER changed HR databases and along with that all the benefit integration to payroll - no paper trail besides reports that benefits does not intend to review, just all electronic.

Two participants took out 401k loans in 2016 - the Provider received the information, Benefits received the information from the provider and payroll did not...the Benefits administrator does not monitor/communicate/audit her information - so if the information is not passed to payroll and deducted on the check...no one knows if something is missed - payroll did not receive notice of these 401k loans and the loans defaulted.  Benefits administrator washed her hands of all involvement and leaves the payroll department to "figure it out".

Also employees never reviewed their stubs throughout this process, after being told to do so once they acquired the loan.

1) Shouldn't the benefits department be in charge of all benefits, and audit...is there something in writing that says that is their duty??

2) Is there any way to salvage this for the employees?

Any advice would be great!

 

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The employer has a fiduciary duty to make sure that loans, if offered, are properly administered. How they divide that responsibility internally is up to them. 

Failure to do so is grounds for possible disqualification of the plan, so it is in their best interest to figure it out.

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kwatts,

The Employer can correct the situation, but you haven't given us many details.  When were the loans taken?  What is the loan program's cure period, if any?

If the loans are still within the loan program's cure period, it's fairly easy to fix.  The missed payments can be made up, with interest, or the loan can be reamortized.  

If the loans have gone beyond the end of the cure period, they are taxable and the only way to change that is to request a change in the tax treatment as part of a VCP filing.  The Employer should be able to get the IRS to agree to reamortizing the loans and having them not be taxable as part of a VCP correction.  

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  • 4 weeks later...

What if loan amounts ARE being deducted from your paycheck and you find out that these loan payments are just not being made?  My employer recently changed payroll companies and our retirement plan is still managed by the previous company.  The last two paychecks (from the new payroll company) had my loan payment deducted, but I was notified by the previous company that I had missed two loan payments and was in danger of default.  When I asked my employer about this, I was told that they are having a difficult time figuring out how to make these payments through the new payroll company, but that I shouldn't worry because they have been assured  that these payments really don't need to be made until the end of the year.  I am now having them write me checks for the amount withheld from my paycheck so that I can make the payments myself through my online retirement plan account.

Another questionable practice happening is that, with the changes, our retirement plan payroll deductions (12% with a 4% employer match) have been "temporarily" stopped and we have been encouraged to "save" the money that is now not being deducted from our paychecks, so that when the retirement plan is re-setup, we can deposit those monies into it - no explanation has been offered for what will happen with the employer match portion.

My trust in my employer is very low right now considering that they weren't telling us about any of this until questioned.

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I'm getting grumpier and grumpier in my old age.  What you are seeing here is incompetence, and (probably) not anything sinister.  Your employer is either incompetent or the new payroll company is incompetent, or some combination.  You don't say whether the old payroll company was doing plan administration; apparently so, and the new payroll company...isn't?  Payroll and plan administration are two different functions; maybe the new payroll company signed on for more than they can chew.  Anyway, they shouldn't be stopping your deferrals arbitrarily; I wouldn't necessarily make the proverbial federal case out of it but you could certainly rattle their cage a bit and say that experts say it shouldn't be done this way.  Good luck and feel free to write back.

Ed Snyder

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1 hour ago, SER said:

 

Another questionable practice happening is that, with the changes, our retirement plan payroll deductions (12% with a 4% employer match) have been "temporarily" stopped and we have been encouraged to "save" the money that is now not being deducted from our paychecks, so that when the retirement plan is re-setup, we can deposit those monies into it - no explanation has been offered for what will happen with the employer match portion.

 

Well, that's just plain wrong, I think.

Is your employer planning on terminating the existing plan?  If so, you won't be able to make 401(k) contribution for a year after the current one completely closes down and has all its assets paid out.

If not, then there is no way for you to "save" your money and then deposit it at a later date.  Plus, they can't make you stop your 401(k) deferrals outside of amending the plan to just not allow them any more.  If they did, you should get a Summary of Material Modification detailing the amendment to the plan.

Again, if the deferrals are suspended in the plan, you won't be able to just write a check from your bank account for the deferrals you saved on your own.

The match is a different animal.  The company can amend the plan to stop the match any time they want. (pretty much)

You are not in an enviable situation here, that's for sure.

QKA, QPA, CPC, ERPA

Two wrongs don't make a right, but three rights make a left.

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We actually dealt with a similar situation here. Both the payroll and the plan were with a payroll provider P***x. The employer changed their payroll provider but the notification that they would also have to find another plan provider came at the 11th hour - too late to get something new set up before the P***x discontinued contribution processing. So we had to give the participants a similar direction. (This is not a client of ours, but someone we were helping out in this situation as a professional courtesy).

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Nearly every client I've heard of who let a payroll provider that also offers 401(k) plans found out after the switch that they could no longer make deposits to the 401(k) plan. 

The employer could set up a bank account in the name of the plan to hold the contributions and loan payments temporarily while they get a new provider in place for a transfer of the plan.

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