How far back?

[jpod]

401(k) Plan document has had one-month eligibility requirement for elective and matching contributions for at least 10 year (maybe 30 years; I am not done with my due diligence yet); no exclusions in Plan document. Employer now knows, after discussing with ERISA counsel, that it has an operational error by failing to give temporary employees the opportunity to participate in the plan. Employer is willing to self-correct with QNECs per EPCRS guidance. I am comfortable that the error is not significant notwithstanding the fact that it has gone on for so many years (just a handful of interns and co-ops each year as compared to 150-250 other employees). The issue is what is the "safe" number of years to go back to correct without correcting ALL years (including all closed years). All open years? 4 years? 6 years? If Plan is audited and they find out we have corrected for those years but not all years, what is likelihood of a problem? Alternatively, has anyone ever heard of getting VCP blessing for correcting less than all years? If so, what could we expect going down that road? Blessing if only open years are corrected? 4 years? 6 years? All years for which relevant data has not been destroyed? p.s., don't worry I am not thinking about suggesting that the client have a bonfire and burn some old payroll records.

[ESOP Guy]

It has always been my understanding they want all years. They wrote the rule to clearly mean you couldn't stop at only open years. I have not seen this many years. But I have an ESOP client that just fixed a problem in their 401(k) plan via a VCP all the way back to 2003. We just helped an ESOP fix back to 2005 for problems another TPA made.

I would prepare to go back as far as good records can be found.

I also am not so sure this shouldn't be a VCP but if their ERISA counsel blessed self-correct go for it.

I think this is a good time to go back to the ERISA counsel and have them help you determine how far back you ought to go.

[jpod]

I am the ERISA counsel. I know that EPCRS and the underlying legal principles require correction for all years. But as a practical matter if you self-correct only 6 years (or pick another number less than all) what is the likelihood that if the issue comes up in a subsequent plan audit that the agent will inquire about earlier years? Also, my question about VCP is whether anyone has ever experienced or heard about the IRS allowing VCP relief with the express understanding that less than all years would be corrected.

[MoJo]

I am the ERISA counsel. I know that EPCRS and the underlying legal principles require correction for all years. But as a practical matter if you self-correct only 6 years (or pick another number less than all) what is the likelihood that if the issue comes up in a subsequent plan audit that the agent will inquire about earlier years? Also, my question about VCP is whether anyone has ever experienced or heard about the IRS allowing VCP relief with the express understanding that less than all years would be corrected.

Well, simply put, by "self correcting back x years ONLY, you are simply playing the audit lottery game. My approach has been to correct as far back as "reasonably possible" and document why you didn't go back further. "Reasonable possible" is subjective, of course, but one must consider: 1) the likelihood of a disgruntled employee/former employee raising the red flag; 2) the likelihood of a regulatory audit (either DOL or IRS - they seem to be more willing to send noted problems to the other) - AND don't underestimate here - because there is NO EXCUSE for not correcting as far back as you can "reasonably" do; 3) Is the error really "insignificant IN THE EYES OF A REGULATORY AUDITOR (and my experience is that the benefit "per participant" is insignificant usually doesn't fly)?

My experience with the IRS on these matters has been that if you can demonstrate the futility of going back beyond x years (lost participants, lost records, cost CONSIDERABLY higher than the benefits that might accrue to those from past years, etc.) you may get some "compromise."

Balancing all of that, I tend to advise clients to err on the side of going back further - and certainly not to some "arbitrary" length of time - especially based on something not relevant, like "open years."

[jpod]

MoJo, have you actually witnessed a case/cases where the IRS Agent asked specifically about all prior years? That's all I am wondering about but your other comments/suggestions are appreciated.

[John Feldt ERPA CPC QPA]

"has anyone ever heard of getting VCP blessing for correcting less than all years"

Yes, but no blessing on the older years, sort of.

I worked with a case where the plan had failed to add back in the section 125 deferral elections for compensation purposes starting in the 1990s when they started a 125 plan. This occurrred all the way up until just a few years ago. The plan was submitted under VCP and they explained to the Service that they simply did not have records available to determined if any benefits were due for years prior to 1999 because records were not available. The Service approved the application, but first they required the plan sponsor add a caveat that basically said if any employee comes forward with pre-1999 information such that their benefits could be corrected, that the plan sponsor would make such correction for those employees.

[MoJo]

MoJo, have you actually witnessed a case/cases where the IRS Agent asked specifically about all prior years? That's all I am wondering about but your other comments/suggestions are appreciated.

As a matter of fact, YES. Indeed, I've NEVER had an IRS auditor NOT ask about all prior years. It's on their checklist to go back to the beginning of any problem they are reviewing. That said, sometimes you can "convince" them that it is impracticable to correct certain years. Sometimes you can't....

[Belgarath]

It's a conundrum. Just looking at a SIMPLE-IRA case where they have had the mandatory 2% contribution in place for nearly 20 years. Don't have all details yet, but it may be that for all those years, they only gave the 2% to those who CONTRIBUTED, not to everyone who is eligible - and it is a LOT of employees, not just a few.

They will need to get the advice of counsel, but they are left with some unsavory choices. They have a lot of people improperly excluded, and they probably have no way that they can possibly raise the money for a full correction for all years, if it truly goes back that far. Submitting under VCP seems like a near guarantee that the prior years will be questioned. They can self-correct for two years, but technically to do that, they have to correct ALL years, even the closed years. Or they could terminate the plan (for 2016) and play the audit lottery.

I suppose they could try a John Doe submission, but I'm not overly sanguine about their chances of getting an affordable solution approved.

I'm not permitted to advise them based upon the audit chances, etc. - I can only tell them what a full correction would be.

Ethics question - if they seek the advice of counsel (or they don't, even if I advise them to) and they decide to self-correct for the last two years only, am I committing unethical practice if I assist them in calculating the correction amounts/interest for those two years? If they instruct me in writing to consider all prior years as being in compliance even though I have reason to suspect they weren't?

[MoJo]

If they *TELL* you to only self correct, I'd seek your own counsel to draft a really ironclad CYA, which would include the fact that you've advised them that the only true correction is a whole correction and that you've advised them to seek counsel. I would also let them know that you will not participate in any deception in the event of a regulatory audit, participant/former participant inquiry, or "other" scenario where it would be proper to disclose what has transpired.

If they haven't fired you when you present them with the above, maybe you should consider firing them. I fully understand plan sponsors make mistakes, and further fully appreciate that the correction can be costly, if not fatal to the business - but I think what ever they do should be at least defensible with a straight face - and that requires at least an *effort* to totally correct (if for no other reason than to prove that a total correction would be infeasible). Document, document, document....

[Belgarath]

Thanks MoJo - a question, and this is just for my own edification, and nothing I'd discuss with a client. In such a situation, if there were an audit, and the penalty/correction would literally bankrupt a client, is the IRS typically open to some sort of "reasonable" negotiated settlement that allows a client to remain in business? That's an end of the business that I just don't see, so I really have no idea, and I'm just curious. Or is it just an unanswerable question, totally dependent upon facts/circumstances?

[MoJo]

I've never actually seen the IRS insist on a penalty that would bankrupt a plan sponsor, but if they are in that situation, they may either voluntarily file (to attempt a reorganization) or be in violation of various lending covenants that will push them (by the creditors) into bankruptcy.

I would think/hope that the IRS wouldn't insist on a penalty that would cause a company to liquidate - unless the owners were responsible personally and had the cash to pay.

[ESOP Guy]

s the IRS typically open to some sort of "reasonable" negotiated settlement that allows a client to remain in business?

I have only worked with a few John Doe VCP filings but they all happened because if you fixed the problem by the letter of the correction methods it would have bankrupted the company. Or put another way the IRS really had two choices from my perspective 1) Say we are going to insist the company go bankrupt-- to which since it was a John Doe filing the company simply would have taken its chance in the audit lottery. What did it have to lose? If they get caught they go bankrupt the same result as the VCP or they don't get audited and they live or 2) The IRS settle for something that hurts but leave the company intact.

The end result has always been the same. The IRS agreed to something that didn't put the company out of business. As far as I can tell a lawyer doesn't charge that much more for a John Doe fling over a regular VCP filing. That is the route I would try if the problem is that big.

[jpod]

What kind of substantiation of bankruptcy risk did IRS require?

[ESOP Guy]

I am not sure what the attorney showed the IRS (I am the TPA) but in the cases I am talking about the penalties would have been several multiples of the cash on hand and even several years of total net profits.

One of them was a 409(p) failure in an ESOP. There is a reason people joke about 409(p) failures being a nuclear bomb of failures. The penalties will easily exceed 100% of the value of the ESOP and in this case the ESOP owned 100% of the company stock. So the fines would have been over 100% of the total FMV of the company. I understand why they have the 409(p) rules. I don't understand the penalties for a failure. No one in their right mind is ever going to make you pay the actual fines. The IRS is going to always settle for less in a VCP.

They were pretty extreme cases and it was obvious.

[Oregon TPA]

Hi jpod - How did you resolve the "how far back" question? Did you find any examples where the IRS found it reasonable to use a period other than all years that the error occurred?

[jpod]

I never "found" any examples and never expected to find any. I was merely looking for any helpful war stories and as usual the discussion on this Board was interesting.

[401 Chaos]

Can I revive this thread just to ask if anybody has any new or additional war stories, especially around current position on approving VCP submission where all years are not covered?

 

We have client with plan that erroneously applied a 1 month waiting period that was not part of the plan.  I think it was really just done out of ignorance and administrative convenience or necessity and not really to deliberately exclude.  I mean they could have permissibly done that if they had just designed the plan that way.  This has gone on for almost 20 years and there are a lot of employees over that period.  The employer is a light manufacturing / warehouse operation and turnover is HIGH.  There are a number of people in last couple of years that appear to have only received one or two paychecks.  The problem is the employer has no real ability to generate records much beyond the last few years.  The don't really want to pay for a full fix either but I'm not sure there is any way they could even if they devoted unlimited resources.