VCP correction for SIMPLE IRA gone bad

[Flyboyjohn]

I've discovered hiding in plain sight a VCP correction for a SIMPLE IRA maintained by an employer who became an ineligible employer by exceeding the 100 employee limit in 2 prior years.

The correction appears to allow the contributions to stay in the SIMPLE IRA accounts but also appears to require an additional sanction of at least 10% of the "excess amounts" plus loss of the employer deduction for the "excess amounts."

My question is what are the "excess amounts"? If none of the contributions exceeded the employee deferral limits or the employer contribution limits does that mean we have no "excess amounts" and no additional sanction?

 

[Bird]

Just a guess but I'd think the excess amounts are all the contributions that shouldn't have been made due to being an ineligible employer.

[justanotheradmin]

3 hours ago, Flyboyjohn said:

My question is what are the "excess amounts"? If none of the contributions exceeded the employee deferral limits or the employer contribution limits does that mean we have no "excess amounts" and no additional sanction?

 

From Rev Proc 2019-19, page 45. (emphasis added)

"(5) Treatment of Excess Amounts under a SEP or a SIMPLE IRA Plan. (a) Distribution of Excess Amounts. For purposes of this section 6.11, an Excess Amount is an amount contributed on behalf of an employee that is in excess of an employee’s benefit under the plan, or an elective deferral in excess of the limitations of § 402(g) or 408(k)(6)(A)(iii). If an Excess Amount is attributable to elective deferrals, the Plan Sponsor may effect distribution of the Excess Amount, adjusted for Earnings through the date of correction, to the affected participant. The amount distributed to the affected participant is includible in gross income in the year of distribution. The distribution is reported on Form 1099-R for the year of distribution with respect to each participant receiving the distribution. In addition, the Plan Sponsor must inform affected participants that the distribution of an Excess Amount is not eligible for favorable tax treatment accorded to distributions from a SEP or a SIMPLE IRA Plan (and, specifically, is not eligible for tax-free rollover). If the Excess Amount is attributable to employer contributions, the Plan Sponsor may effect distribution of the employer Excess Amount, adjusted for Earnings through the date of correction, to the Plan Sponsor. The amount distributed to the Plan Sponsor is not includible in the gross income of the affected participant. The Plan Sponsor is not entitled to a deduction for such employer Excess Amount. The distribution is reported on Form 1099-R issued to the participant indicating the taxable amount as zero."

To me, the excess amount failures describe above in Section 6.11 are separate and distinct from the employer eligibility failure described in Section 4.06 and Section 6.03, though like everything else they may be related or coincide with each other. 

[Flyboyjohn]

So if amounts contributed during an employer eligibility failure (if within legal limits) are NOT excess amounts then the only adverse ramification is the IRS user fee and the cost of preparing the VCP application.

This could be particularly helpful in a situation where the employer wants to change from a SIMPLE IRA to a 401(k) mid-year since the cost of "blowing up" the SIMPLE IRA is relatively modest.

[Bird]

Looking at it more carefully (actually looking at it at all) I tend to agree.  The proposed correction is simply to stop making contributions.

[Luke Bailey]

To confirm, I had one of these five or six years ago. Related companies with SIMPLE IRAs were acquired, and acquirer due diligence turned up that were a controlled group and had exceeded 100 employees for several years. Was surprised when I worked through whatever was the then-current EPCRS Rev. Proc. that the fix was simply to stop contributing. Had to do VCP, though, but was a simple filing. No bad tax results, no penalties. Etc. Employees just kept their IRAs.