Failure to contribute SH 3%

[Brenda Wren]

Due to the economy, client was not able to fund their 2008 Safe Harbor 3% nonelective contribution. They are able to do so now. Since we are past 12 months following the plan year, but still within the 2 year self-correction period, is this eligible for self-correction? Or, is this a qualification issue and as such must be submitted under VCP?

[John Feldt ERPA CPC QPA]

If you truly believe that the IRS would agree this error is insignificant, then go ahead and self-correct. You may want the client to state that in writing that this is really their opinion, including the method to correct.

Since the safe harbor status of the plan for 2008 was conditioned upon the contribution being made by the end of the 2009 plan year, exactly what steps are required to correct? Do you take away the testing benefits provided under the safe harbor provisions for 2008? Maybe, maybe not, this is unclear to me. Do you merely make a contribution of the SH amount plus missed earnings? I like that idea the most, but again, it's unclear to me.

If there is a true method spelled out in 2008-50 that explains how to self-correct for this, then I have missed it. I'm just not sure a self-correction method has much reliance; so Eileen (or Ilene?) toward submitting to the IRS under VCP.

[Guest Sieve]

You do not take away the testing benefits if you miss the SH contribution: " . . . a plan that uses the safe harbor method . . . is not permitted to provide that ADP testing will be used if the requirements for the safe harbor are not satisfied." (Treas. Reg. Section 1.401(k)-1(e)(7).) Since failing the ADP test is considereed significant (subject to the 2-year rule) (see EPCRS 9.02(1)), then I would say that not making the SH contribution also is considered significant and the 2-year rule applies.

Like any other late contribution/allocation, it would be corrected by making the contribution, plus interest, pursuant to EPCRS procedures. Remember, all potential errors are not addressed by EPCRS, and that's why the general correction principles of Section 6 are important. In this case, look specifically at Sections 6.02(1) & (4).

[John Feldt ERPA CPC QPA]

So you contribute late and just add missed earnings - the SH status for that year was not jeopardized?

[Guest Sieve]

Correct. Otherwise, the plan could pass ADP & then the employer simply does not pay in the SH contribution. But, the IRS already permits a "maybe" 3% SH contribution (with appropriate notices), and if the plan does not provide for that SH contribution method the Service will not let you get out from under the plan's required SH contribution just by causing the SH requirements not to be met & falling back on general ADP testing. If the plan is SH, the Plan's promised SH contribution basically becomes mandatory--& is correctable under EPCRS. I heard Joyce Kahn (IRS VCP coordinator. I think) so state at an ALI-ABA seminar 2 summers ago. See the second bullet of post #1 here: http://benefitslink.com/boards/index.php?s...&hl=seminar

[John Feldt ERPA CPC QPA]

I agree with you 100% - no tests are needed and you cannot get a 'pass' to avoid the contribution by testing - I concur that the contribution must be made.

However, maybe I'm overly pessimistic on this: I think that perhaps under plan audit or under VCP the IRS would consider that the HCEs should not get the benefits of being safe harbor because the SH contribution deadline was missed. In order to take away any extra HCE benefits that are only available when the plan really operates as a safe harbor 401(k) plan, it may stand to reason that an ADP/ACP test could be run to see how much "unfounded" benefit may have been allowed to the HCEs, then possibly requiring refunds and/or recharacterizations. "Unfounded" since the plan's SH requirements weren't met.

The only late SH plan that we've submitted was a client in complete bankruptcy where the situation for the NHCEs was dire and the IRS allowed the HCE-owner to forfeit a portion of their account (yes, even though that violates 411). They allowed that amount to be taken away to allocate to the NHCEs for the receivable SH contribution - no ADP/ACP issues would have occurred even if the plan was not SH because the HCE-owner had not been deferring during that year anyway.

Do you think the IRS would not be as heavy-handed as described in the second paragraph above? If so, I welcome that!

[Brenda Wren]

I'm sorry, but this thread went off in a different direction and I am still pondering the original question. Yes, under EPCRS, the plan can be fixed by making up the missed contribution, with earnings. So we have two options: SCP (no IRS involvement) and VCP (with IRS involvement). Since SCP is limited to operational errors, is this a qualification error that must be submitted through VCP? Or, can qualification errors that occur within 2 years be corrected through SCP?

[BG5150]

I think it is an operational issue--failure to adhere to the terms of the plan document.

[Guest Sieve]

You have a qualification failure, which just so happens to be an operational failure (i.e., the terms of the plan were not followed).

Under EPCRS, there are 4 types of qualification failures for a qualified plan. One of the qualification failures is an operational failure. This clearly is an operational failure (since it "arises solely from the failure to follow plan provisions", and since it does not fit into one of the other 3 categories of a qualification failure: plan document failure, demographic failure and employer eligibility failure). (See EPCRS, Section 5.01(2).) Only operational failures are correctable under SCP. Since this is a significant operational failure, the 2-year rule applies.