Payroll Service Stops 401k Deduction in Error

[DP]

We have a Safe Harbor 401k plan with a 3% NE contribution - no match. One of the participants called today to see why there was no 401k coming out of her check. The payroll service they used stopped her 401k deduction in early January 2009 with no reason. The participant is just now noticing on her paycheck that no 401k has been withheld since January.

The payroll service said they have no idea why they stopped the 401k deduction. They are asking what they can do to rectify the situation. I'm not sure what the payroll service can do.

Any ideas?

[Guest JTK]

Please see Rev. Proc. 2008-50. Sounds like a QNEC from the employer is needed.

(d) If the employee was not provided the opportunity to elect and make elective deferrals (other than designated Roth contributions) to a safe harbor §401(k) plan that uses a rate of matching contributions to satisfy the safe harbor requirements of §401(k)(12), then the missed deferral is deemed equal to the greater of 3% of compensation or the maximum deferral percentage for which the employer provides a matching contribution rate that is at least as favorable as 100% of the elective deferral made by the employee. This estimate of the missed deferral replaces the estimate based on the ADP test in a traditional §401(k) plan. The required QNEC on behalf of the excluded employee is equal to (i) the missed deferral opportunity, which is an amount equal to 50% of the missed deferral, plus (ii) the matching contribution that would apply based on the missed deferral. If an employee was not provided the opportunity to elect and make elective deferrals to a safe harbor §401(k) plan that uses nonelective contributions to satisfy the safe harbor requirements of §401(k)(12), then the missed deferral is deemed equal to 3% of compensation. The required QNEC on behalf of the excluded employee is equal to (i) 50% of the missed deferral, plus (ii) the nonelective contribution required to be made on behalf of the employee. The QNEC required to replace the employee's missed deferral opportunity and the corresponding matching or nonelective contribution is adjusted for earnings to the date the corrective QNEC is made on behalf of the affected employee.

[DP]

Thanks, JTK. I hope we can get the payroll service to reimburse the employer for the QNEC and earnings.

I have the link to the VFCP Calculator for Lost Earnings if anyone is interested.

http://askebsa.dol.gov/VFCPCalculator/WebCalculator.aspx

[Belgarath]

This is an interesting question. JTK - I'm not certain that the correction you cite is the proper correction for the specific situation. This correction is where a participant was not given an opportunity to make an election, and it is for a safe harbor matching situation. In the poster's situation, if I understand correctly, the participant ALREADY had a valid election in place, which simply was not followed due to the payroll company error, and the safe harbor is the 3% nonelective.

It would seem that the appropriate correction would then be .05(5) instead of the .05(2)(d) you cited? However, and here's where it gets interesting - the basic correction for deferrals is identical to the (2)(d) correction, (QNEC of 50% of the "missed deferral") BUT, it doesn't seem to require the 3% nonelective! This seems odd to me, and perhaps I'm reading something wrong. But with this situation, you might have apparent IRS blessing to correct a 2% botched deferral situation by giving them a 1% QNEC and ignoring the 3% nonelective safe harbor. I wouldn't feel at all comfortable with this, and I would advocate any such correction add the 3% nonelective to whatever the "missed deferral" QNEC turns out to be.

Thoughts?

[K2retire]

It probably doesn't mention the 3% nonelective because the participant gets that regardless of any deferral election.

[Kevin C]

Since they have time to restart deferrals this year, wouldn't the appropriate correction for deferrals in this situation be under Appendix B, Section 2.02(1)(a)(ii)(B)(2)?

( 2) The appropriate corrective contribution for the plan's failure to implement an employee's election with respect to elective deferrals is equal to the missed deferral opportunity which is an amount equal to 50% of the employee's missed deferral. Corrective contributions are adjusted for earnings. The missed deferral is determined by multiplying the employee's deferral percentage by the employee's plan compensation for the portion of the year during which the employee was improperly excluded. If the employee elected a fixed dollar amount that can be attributed to the period of exclusion, then the flat dollar amount for the period of exclusion may be used for this purpose. If the employee elected a fixed dollar amount to be deferred for the entire plan year, then that dollar amount is multiplied by a fraction. The fraction is equal to the number of months, including partial months where applicable, during which the eligible employee was excluded from making catch-up contributions divided by 12. The missed deferral for the portion of the plan year during which the eligible employee was improperly excluded from making elective deferrals is reduced to the extent that (i) the sum of the missed deferral (as determined in the preceding three sentences) and any elective deferrals actually made by the employee for that year would exceed (ii) the maximum elective deferrals permitted under the plan for the employee for that plan year (including the § 402(g) limit). The corrective contribution is adjusted for earnings. The requirements relating to the passage of the ADP test before this correction method can be used, as described in Appendix A section .05(5)(d) still apply.

And the match correction under Appendix B, Section 2.02(1)(a)(ii)(D)(2)?

( 2) The appropriate corrective contribution for the failure to make matching contributions for an employee because of the failure by the plan to implement an employee's election with respect to elective deferrals (including designated Roth contributions) or, where applicable, after-tax employee contributions for a portion of the plan year is equal to the matching contribution that would have been made for the employee if the employee made the elective deferral as determined under section 2.02(1)(a)(ii)(B)( 2), or where applicable, the after-tax employee contribution determined under section 2.02(1)(a)(ii)©( 2). This matching contribution is reduced to the extent that (i) the sum of this contribution and other matching contributions actually made on behalf of the employee for the plan year would exceed (ii) the maximum matching contribution permitted if the employee had made the maximum matchable contributions permitted under the plan for the plan year. The corrective contribution is adjusted for earnings. The requirements relating to the passage of the ACP test before this correction method can be used, as described in Appendix A section .05(5)(d), still apply.

I think Section 6.02(4)(a) of the Rev. Proc. covers correction of the 3% SH. If the participant is excluded from the 3% for the entire year, Appendix A, .05(1) would apply.

.05 Exclusion of an eligible employee from all contributions or accruals under the plan for one or more plan years. (1) Improperly excluded employees: employer provided contributions or benefits. For plans with employer provided contributions or benefits (which are neither elective deferrals under a qualified cash or deferred arrangement under § 401(k) nor matching or after-tax employee contributions that are subject to § 401(m)), the permitted correction method is to make a contribution to the plan on behalf of the employees excluded from a defined contribution plan or to provide benefit accruals for the employees excluded from a defined benefit plan.

[FormsRstillmylife]

3 months to make up 9 months of deferrals right before Christmas? There is not enough time left in the plan year to use this correction. This is intended for correction of a short period of misses.

[Kevin C]

Forms,

You are thinking of the brief exclusion provision in Appendix B, Section 2.02(1)(a)(ii)(F). I agree it doesn't apply here. But, nobody has said they think it does apply.

I'm referring to the employer correction method for improper exclusion for a period of less than a full plan year. I'm assuming they will restart this person's deferrals so she is not excluded for the entire year. The corrections for a full year exclusion and a partial year exclusion are in different sections of the Rev. Proc.