How to fix this mess?

[Guest Zephyr]

We have an employee who was incorrectly marked as terminated in August 2006 in a feed that went to the TPA. For whatever reason, the correction did not make it to the TPA. TPA sent distribution packet to employee, who requested an immediate distribution of her account balance. EE also had 3 outstanding loans at the time that were deemed distributed. TPA issued applicable 1099's for 2006. EE resumed deferrals in January 2008; however, because TPA showed EE as terminated, they kept sending her checks every pay period for her deferral and match, minus withholding and early withdrawal penalty. TPA issued 1099 for 2008 distributions. EE did not contact ER or TPA to question the 2006 distribution or any of the 2008/early 2009 distributions. EE called TPA in June 2009 to request her account balance so she could take out a loan, which is when the problem came to light. Apparently TPA provides a web-based report for ER which shows action items, but no one in the HR department was aware of this report until now. It seems that we have multiple operational failures, beginning with the improper distribution in 2006 and then again beginning in 2008. I think we start by asking the employee to repay the distributed amounts, but expect we will be wholly unsuccessful. Do you think this needs to go through VCP? If not, any other SCP suggestions? Thanks!

[Bill Presson]

Why did the TPA not ask about a terminated participant with deferrals every pay period? Especially if they are processing a distribution every pay period? Did I read that right?

[Guest Zephyr]

Yes, you read that right. The TPA's response to that question was to point out the "Action Required" report that would have shown contributions for a terminated participant. Because the HR group was unaware of the report, the error was not discovered until the EE called for the loan. It seems to me that the culpability for this problem rests with all three parties, but I'm not sure if that makes any difference in how we fix it!

[BG5150]

So distributions go out without the consent of the Trustee or Plan Administrator? If there was a 2 year lag between the 2006 and the 2008 distributions, why wasn't new distribution paperwork requested?

Next, do they normally withhold for the penalty tax? That's a new one for me.

I think the TPA had a responsibility re: the Action Required reports. If several (and more) contributions were coming in and sent out, and nothing was done by the ER, the TPA should have figured something was amiss. That's just common sense.

And, of course, the participant is at fault for not questioning why he or she kept getting these checks.

I think the remedy is to get the money from the participant. Failing that, the ER has to make up the money I believe. Please tell me this wasn't an HCE...

[Guest Zephyr]

My error-the penalty tax was not withheld. Thankfully this is not an HCE. The implication of your questions is that there were failures in the process at the TPA, which I agree with and we will be addressing. Unfortunately, that doesn't solve this particular situation. To make things even more interesting, I just learned that the employee is in bankruptcy. I assume this makes the plan essentially an unsecured creditor. It also makes it even less likely that we'll see any money back from this employee.

[Guest Sieve]

BG --

Why would the employer have to replace the $$ which already has been distributed to the employee? The employee received her own $$, not someone else's, and therefore is not entitled to replacement $$.

To me, this is a plan qualification issue which must go through VCP (assuming the employee, as expected, does not replace the $$).

[BG5150]

BG --

Why would the employer have to replace the $ which already has been distributed to the employee? The employee received her own $, not someone else's, and therefore is not entitled to replacement $.

To me, this is a plan qualification issue which must go through VCP (assuming the employee, as expected, does not replace the $).

Sieve,

I thought the intention of EPCRS was to return the plan to the state it was in as if the error had not happened. So, if they can't get the money back from the EE, the ER must put it back in.

What happens to that money (the ER replaced) when the participant really does have a distributable event, I won't even hazard a guess.

[Jean]

Agree that proper correction is restore the plan. Is this going to be treated as insignificant error that can be corrected at any time? From EPCRS, Overpayments:

© Overpayment. The term “Overpayment” means a Qualification Failure due to a payment being made to a participant or beneficiary that exceeds the amount payable to the participant or beneficiary under the terms of the plan or that exceeds a limitation provided in the Code or regulations. Overpayments include both payments from a defined benefit plan and payments from a defined contribution plan (either not made from the participant's or beneficiary's account under the plan or not permitted to be paid either under the terms of the plan or under the Code or regulations). However, an Overpayment does not include a payment that is made pursuant to a correction method provided under this revenue procedure for a different Qualification Failure. Overpayments must be corrected in accordance with section 6.06(3).

3) Correction of Overpayment failures. An Overpayment from a defined benefit plan is corrected in accordance with the rules in section 2.04(1) of Appendix B. An Overpayment from a defined contribution plan is corrected in accordance with the Return of Overpayment method set forth in this paragraph. Under this method, the employer takes reasonable steps to have the Overpayment, plus appropriate interest from the date of the distribution to the date of the repayment, returned by the participant or beneficiary to the plan. To the extent the amount returned to a defined contribution plan is less than the Overpayment adjusted for earnings at the plan's earnings rate, then the employer or another person must contribute the difference to the plan. The Overpayment, adjusted for earnings at the plan's earnings rate to the date of the repayment, is to be placed in an unallocated account, as described in section 6.06(2), to be used to reduce employer contributions (other than elective deferrals) in the current year and succeeding year(s) (or if the amount would have been allocated to other eligible employees who were in the plan for the year of the failure if the failure had not occurred, then that amount is reallocated to the other eligible employees in accordance with the plan's allocation formula). In addition, the employer must notify the employee that the Overpayment was not eligible for favorable tax treatment accorded to distributions from Qualified Plans (and, specifically, was not eligible for tax-free rollover).

[BG5150]

So, I get out of Jean's post:

Try to get the money (+/- gains/losses) from participant. If not all of the money comes back, the ER must make up the difference which is to be used similarly to the way forfeitures are used under the plan. Tell the participant the money was not eligible for tax-free rollvoer treatment.

And, given the fact-pattern here, I would suggest the TPA checks it's other plans for a similar pattern (if one ER doesn't read the posted reports, maybe a lot of them don't). And both parties should devise a procedure that can and will prevent this from happening again.

[Guest Sieve]

Note that, in the EPCRS provisions cited, the overpayment replaced by the employer is not re-allocated to the account of the individual receiving the overpayment but is used to reduce future employer contributions (or, if it represents forfeitures in the year of the overpayment or comes from another participant's account, then it is to be allocated to the accounts of those who would have received the allocation in the year of the overpayment). So, there is no participant double-dipping (in response to BG's question of what happens to the replaced $$ when the participant really does have a distributable event).

[Jean]

Right! The employee should not get a double benefit if he fails to return the funds as requested. While EPCRS is great for giving guidance on how to correct these failures, it does not address the procedural steps for completing them.

[K2retire]

Could that be because the people writing this stuff have never actually attempted to do any of it?