Returns of Excess Deferrals

[Gadgetfreak]

I could use some opinions here. I am surprised this has never happened before. I have a 401k Plan that failed the ADP test. They are not interested in doing a QNEC and are not a safe-harbor. The two HCEs who need to have funds returned have terminated.

What process do you use to alert them of this? How is my client (the Plan) protected if the HCEs ignore the instructions?

I can argue that if the HCEs took a direct distribution and were taxed on it, the end result is the same and I need do nothing further. Do you agree with that statement?

But, like most HCEs, they rolled the funds over to an IRA. What do I do now?

Finally, should I institute a rule that I will NEVER distribute HCE balances until after year-end testing? That could be a year or more later (if the termination was in January). Is that even allowed? Even if the Plan is an SH or SHM, the client could stop the SH mid-year and be subject to testing. So the only real time I could distribute is if it is someone over age 50 who deferred up to the catch-up limit.

What do you all think? Thanks in advance.

[Guest Achilles]

Years ago I had a plan where a similar scenario occurred - HCE due refunds termed and rolled their dollars over to an IRA.

In that situation, I drafted a letter to the IRA Rollover comapny, explaining that dollars they received they are not entitled to. I copied the affected HCE's, along with the plan sponsor.

You can't force the dollars to come out of the IRA, but at least it puts the IRA Rollover company on notice that they have money they aren't entitled to. I'm sure from their side this is a frequent occurrence, and they have procedures in place to make proper distributions.

As trustee, we issued the participants adjusted 1099's.