Deferral on Severance Pay

[Guest grazetti]

We have a plan sponsor who mistakenly withheld deferrals on severance pay for one individual and this amount was deposited into the plan. According to the ERISA Outline Book, one of the ways that this can be corrected is to distribute the mistaken deferral to the participant.

Since the participant was not previously taxed on this amount, I believe that this participant should be receive a 1099R at the end of the year. What Distribution Code should be used?

[doombuggy]

Hey, Brenda:

My thought would be that since the participant did not pay taxes on the amount being refunded (so to speak) that you would use whatever dist. code applied and indicate that no taxes were paid in box 4. The only hole in that theory is that the partiicpant should not be penalized for the employer's mistake. I just looked over my distribuiton code list that I printed out from Relius before I left PA and I can't find anything else that would fit.

When I left PA, Susq did not take any deferrals out of my last pay check. It is my understanding, however, that this may change in the future. I sure felt cheated when I got that check (and I am still not eligible for the plan here). Good luck with your problem and take it easy!

Jesse

EDIT:

I was just telling my boss, Jeff, about your question and his answer was this:

It's not a distributable event, so there would be no 1099. The company would need to refund the participant out of the comapny funds (assuming that the errored $$ was already paid to the plan), paying the federal and/or state taxes at that time. Whatever money was paid to the plan in error would be credited towards future er contribuitons to the plan.

I fell like something similar happend to me while we were at PB/PA. This might not be the answer that you are looking for, but it might be your best choice. Jeff has been in the business for quite awhile (he's from Delaware) and I always feel comfortable with his answers (not like some other people we know). Good luck!

[Leopurrd]

I agree - if ineligible, the funds should be forfeited for future allocation/reduction and the participant should be made whole through a payroll check.

However, you may want to look into the new 415 regs - although proposed I believe you can rely on some of the proposed changes, including the fact that you can defer on severance pay up to 2 1/2 mos following termination if it would have been "normal pay". So, it may not need to be returned???

Here's an exact quote from an article posted here on BL:

"7. Payments After Termination of Employment

Addressing an issue that has lain dormant since the inception of Section 415, the proposed regulations state that Section 415 compensation generally does not include payments made after termination of employment, except for regular compensation, commissions, bonuses, overtime, shift differential and cashouts of accrued leave that could have been used if employment had continued. So long as these payments are made within 2-1/2 months of severance from employment, they may be considered compensation for purposes of Section 415. However, pure "severance pay" is not considered compensation for Section 415 purposes."

Here's the link for more info: http://benefitslink.com/articles/washbull050620.html

Hope this helps!