Correction of Direct Distribution with no distributable event

[401king]

We are the TPA for the plan in question. I have searched for corrections to this scenario below, but my search terms are poor or this questions hasn't been posed before. The distribution occurred in the 2010 plan year and was noticed by us in 2011.

The Plan Trustee authorized a direct distribution for an employee who was not eligible for In-Service Distribution (let's say, August 2010). This distribution was processed directly with the custodian and we were unaware of it. The participant terminated employment a few months after he took the distribution (termed in Nov 2010). When performing 2010 testing, we (the TPA) realized that the distribution was made prior to the distributable event and no taxes were withheld. According to the IRS correction method, the participant has to return the distribution back to the plan (even though he'd simply re-distribute the funds immediately). However, the participant is no longer with the company. Should the TPA just issue a 1099R showing a taxable distribution, or are there any penalties/excise taxes involved in this case. Would the 1099 be for the 2010 tax year even though it is issued well after the deadline?

Any advice on how to correctly account for this would be appreciated. Please let me know if any additional facts would be helpful.