Late 401(k) Contributions and the applicable rate of interest

[Guest MEGary]

We have a 401(k) plan that is self directed. During 2001, we have found that one of the 2000 payroll contributions was not deposited within the applicable time frame. We are trying to determine what interest rate to use in order to calculate the interest associated with the late contributions. These are the options we are looking at:

1. Take a blend of all rates associated with all investments

2. Take the rate of the investment that earned the most during the year

3. Take the going rate of loans

Thanks in advance for any input - please let me know if I need to clarify anything for anyone.

Thanks!!!

[Guest Bud]

The best approach is to use each participants' actual earnings rate for the relevant time period. I think, under Rev. Proc. 2001-17, precision is not required if being precise is too expensive; therefore, either 1 or 2 should work. Number 3 is wierd and does not seem related to participants' actual earnings rates.

[Guest MEGary]

Thanks Bud!

The reason we thought about using the loan interest rate is because this prohibited transaction is considered a loan from the plan to the company. It was just an idea.

[Guest PAL100759]

I spoke with someone at the IRS about a year ago regarding this issue. They said that the rate of interest used for purposes of the Form 5330 should be what it would have cost the company to borrow the money - regardless of the actual experience of the participant investments. Their reasoning was that even if participant accounts had experienced a loss during the period, the company would still have a PT and would still owe a penalty.

On the otherhand, if your average gain was 15% for the period and you only make-up earnings using an 8% rate, you could run into some fiduciary issues.

I think we ended up using one interest rate for making up the earnings in participant accounts and one rate for calculating the penalty.

(the IRS person agreed with this method)