Cessation of deferrals in Simple IRA

[jlea]

Client A has maintained a Simple IRA for several years; it attempted to terminate the Simple IRA mid-year and, in so doing, stopped elective deferrals for three and a half months. Having been counselled that it cannot terminate the Simple IRA mid-year, it is resuming plan operations for the remainder of 08 and will correct under VCP. I've spoken with an IRS agent regarding the proposed correction and received positive feedback. The question arises, though, regarding what interest rate we should use for purposes of calculating earnings.

Section 6.10(4)(B) of Rev. Proc. 2006-27 (which is not directly relevant (i.e., different type of error) but instructive nonetheless) states that, given the assets are held in IRAs, "there is no earnings rate under the . . . Simple IRA Plan as a whole. If it is not feasible to make a reasonable estimate of what the actual investment results would have been, a reasonable interest rate may be used." It is not feasible for us to determine what the actual investment results would have been. In fact, the IRA custodian is still "researching" whether it will be able to accept the earnings (which, of course, they must take for the Plan to complete its correction).

What interest rate do you believe would be most reasonable?

[jlea]

Never mind - I think I've found my answer: underpayment rate defined in IRC 6621(a)(2) - though at 7% for the first quarter of 08, it seems pretty steep.

[Bird]

Stopped elective deferrals or withheld but did not submit elective deferrals?

If the latter, then you're asking the right question. If the former, maybe nothing needs to be done?

[jlea]

Stopped elective deferrals - so I've spoken to an IRS agent and the employer will correct by paying in (with ER dollars) the elective deferrals that should have been taken out plus related match and earnings. Rev. Proc. 2006-27 states that Simple IRAs can be corrected in a manner consistent with a correction offered for a 401(k) plan. I believe, in this instance, it's appropriate to analogize to a 401(k) plan where elective deferrals were stopped, such that plan participants have been prevented from making their desired contributions to the plan (and, by extension, failed to receive the match to which they were entitled). (Note that under IRC 408(p), an employer cannot terminate a Simple IRA except at the end of a calendar year.)

My next question is whether there has been a failure that requires correction under the DOL's VFC program. Because the elective deferrals were stopped (not withheld but not contributed), I believe a VFC filing is not necessary. When I examine the listings of eligible transactions to be corrected under the VFC program, I do not believe this situation constitutes any of them. Moreover, the employer is making the employees whole. I can't imagine the employer should do more than they already are.

[jlea]

I just spoke with the EBSA Philly regional office and the agent with whom I spoke agreed that since EE deferrals were stopped and no EE dollars were involved, the VFC program is not triggered and there is no DOL correction needed.

I also got a little clarification on the functioning of the on-line calculator, which is what I plan to use to calculate earnings for the correction paid into the Simple IRAs.

[GMK]

jlea: Thanks for posting your follow-up findings.

[Bird]

(Note that under IRC 408(p), an employer cannot terminate a Simple IRA except at the end of a calendar year.)

Yes, my mistake. Thanks for posting all of the details.