Overly generous employer

[Santo Gold]

From the no good deed goes unpunished file.......

Employer faithfully deposited 401(k) contributions during the year. However, due to a payroll glitch, everyones W-2's reflect a slighlty larger 401(k) amount than what was actually the correct (and deposited) amount for 2006. W-2's were sent out with the wrong amounts.

There are quite a few people in this plan so, rather than fix and re-issue the W-2's, the employer decided to make an additional contribution to the plan for the difference between what the W-2 shows and what was actually deposited (Again, the actual amounts deposited as 2006 401(k) contributions were correct, it was the W-2 that was incorrect). This was done recently, well after 12/31.

The proper thing to do would have been to correct the W-2s, but that apparantly is not going to happen. If the employer does not take the amount of this additional deposit as an employer contribution deduction, does that help the situation somewhat? Also, would you consider this extra deposit as a "late contribution"? Really, its not late because it shouldn't have went into the plan in the first place.

This is messed up. Any comments or suggestions are appreciated.

[Belgarath]

IMHO...

This really needs to be separated into two things - one is the plan, and the second is the employer and the liability for incorrect W-2's.

As far as the plan goes, there is no problem here. The deferrals were made, testing done, etc. and presumably passed. The additional contribution is presumably witin applicable limits, and whether the employer chooses to claim it as a deduction is irrelevant to the operation of the plan.

As far as the employer is concerned, it isn't smart to knowingly have sent incorrect W-2's, and then not bother to fix them. The employees have now been credited with incorrect larger deferrals on their W-2's, resulting in under reported taxable income. The IRS frowns upon this practice. Making an additional employer contribution, whether deducted or not, makes no difference here.

As a TPA, it isn't really your problem, although I agree that you should tell the employer (in writing) to discuss with tax counsel as to how to handle it. This way, you have done your duty, and the employer can suffer the consequences if and when this ever appears upon audit.

[BG5150]

Would there be an operational failure because people (in the end) were deferring more than the agreements they signed were for?

For example, say I signed an agreement for 5% of my comp to be deferred. However, after this add'l contribution, it turns out to be 5.2?

[masteff]

So is it just box 12 that's wrong on W-2 or is box 1 wrong as well?

Because the employer is contributing the money rather than actually deducting it from pay, it sounds more like a profit sharing contribution (which can be made by certain deadlines after the end of the year) (provided the plan allows for discretionary profit share contributions). So not necessarily a late contribution and no operation failure for not following deferral agreements.

I like Belgarath's answer of putting in writing to client to talk to tax counsel.

However were I the employer, I'd also be tempted to read through EPCRS and see if a reasonably similar situation is provided in the voluntary self-correction procedures. My concern is that an employer contribution does not automatically, by itself, fix a W-2 box 12 error (because box 12 is for deferrals and an employer contribution is not a deferral). However it might be a valid self-correction since the deferral amounts reported to the Service do not match actual contributions.

[Kimberly S]

[because the employer is contributing the money rather than actually deducting it from pay, it sounds more like a profit sharing contribution (which can be made by certain deadlines after the end of the year) (provided the plan allows for discretionary profit share contributions). ]

And if it profit sharing you need to make certain that it was allocated in accordance with the document -- which may or may not match the W-2 error for each person.

[Santo Gold]

masteff: I do not know if its box 12 or Box 1. I suspect its just box 12; otherwise, I think the ER would not be so quick to try to fix the contribution only, and not the wage information.

The problem I see is that if its treated as an employer contribution, then only those participants who are putting money into the plan actually benefit from this contribution. And while that may or may not be discriminatory, it certainly won't be allocated in accordance with the plan document.

[Belgarath]

Now you've really got me confused.

The employer makes an additional contribution. This must be allocated according to the plan document, which will specify the allocation method for an employer discretionary contribution. Whoever gets it, gets it, in whatever amount. The document language should prevent any discriminatory allocation.

This has no effect on the W-2's whatsoever. They are already wrong no matter what the employer does with a discretionary contribution, and a discretionary contribution doesn't alter the W-2's. If the employer reads the instructions for W-2's, I would think that the potential penalties might cause a change of heart on the decision not to correct them, but again, that's not your problem. All you have to do is make sure the employer contribution is allocated correctly.

I'm just not understanding the problem here. As a TPA, I certainly don't care if the employer gets screwed due to an affirmative decision to ignore the incorrect W-2's. If I've done my duty by notifying the employer and suggesting that this be discussed with tax/legal counsel, then I'm happy!

[Santo Gold]

Now you've really got me confused.

The employer makes an additional contribution. This must be allocated according to the plan document, which will specify the allocation method for an employer discretionary contribution. Whoever gets it, gets it, in whatever amount. The document language should prevent any discriminatory allocation.

This has no effect on the W-2's whatsoever. They are already wrong no matter what the employer does with a discretionary contribution, and a discretionary contribution doesn't alter the W-2's. If the employer reads the instructions for W-2's, I would think that the potential penalties might cause a change of heart on the decision not to correct them, but again, that's not your problem. All you have to do is make sure the employer contribution is allocated correctly.

I'm just not understanding the problem here. As a TPA, I certainly don't care if the employer gets screwed due to an affirmative decision to ignore the incorrect W-2's. If I've done my duty by notifying the employer and suggesting that this be discussed with tax/legal counsel, then I'm happy!

It's a confusing solution to what should not be a tough decision to make. Employee A made 401k contributions totaling $1000 in 2006, but her W-2 says she put in $1050. Rather than fix the W-2, the employer wants to make a deposit of $50 into her 401(k) account, call it a 2006 401(k) contribution, and say "see, now her 2006 401(k) contributions equal $1,050, which is what the W-2 states". Do this for the other 200 or so participants and that is what is being proposed.

To me, this solves 1 problem by creating another (and I'm not sure it really solves the first problem either). If the employer makes this extra contribution and shows it as a deductible employer contribution, then it should be allocated as called for in the plan document. Instead, it is just going to a select group of employees, namely only those who made 401k contributions, and in varying amounts.

[Belgarath]

This is just one of those situations where I think you are trying to hard, and it is hard to believe the answer is as simple as it is.

"It's a confusing solution to what should not be a tough decision to make. Employee A made 401k contributions totaling $1000 in 2006, but her W-2 says she put in $1050. Rather than fix the W-2, the employer wants to make a deposit of $50 into her 401(k) account, call it a 2006 401(k) contribution, and say "see, now her 2006 401(k) contributions equal $1,050, which is what the W-2 states". Do this for the other 200 or so participants and that is what is being proposed."

Simple answer - no, this cannot be done. End of answer.

"To me, this solves 1 problem by creating another (and I'm not sure it really solves the first problem either). If the employer makes this extra contribution and shows it as a deductible employer contribution, then it should be allocated as called for in the plan document. Instead, it is just going to a select group of employees, namely only those who made 401k contributions, and in varying amounts."

You are correct that this doesn't solve the first problem. You are also correct that that it must be allocated as per the plan document. What the employer wants to do as a correction will not correct the problem. There isn't really anything more that I can say that I haven't already, so I wish you good luck in your dealings with this employer! Sounds like a fun one...

[david rigby]

The original proposed solution ignores any possible FICA tax.