Failed ADP test determined yrs later, after HCE's have distributed: 1099-R Question

Upon review, an ADP test from a few years back (> 2) was determined to have failed. (Prior TPA never ran the ADP test).  Both of the two HCE's have since taken full distributions as Rollovers, and both would have had excess contributions distributed.

Earnings have been calculated on those excess contributions through actual distribution date.

The sum of excess contributions plus earnings would not have been eligible for Rollover.

So we are thinking there would be 2 sets of 1099-R's issued for that prior year:

1. Amended 1099-R to reflect the lower amount that was eligible for Rollover
2. New 1099-R to reflect the excess con + earnings that would have been taxable 

 Just thought I'd see if there were any thoughts on this.

The test failure occurred a few years ago, so the refunds were not made timely (i.e., assuming a calendar year plan year, by March 15th following the close of the plan year being tested). The implication is the refunds became taxable for the plan year being tested, the refunds would have remained in the plan, there would be an excise tax of 10% of the unpaid refunds due by March 31st following end of the plan year in which the refunds should have been paid, and then refunds would be taxed again when distributed.

There is the additional complication of the plan made rollover distributions to IRAs or other qualified plans.

So yes, the plan needs to issue amended 1099-R for the year in which the refunds should have been taxed, and the participants should be made aware that they have to deal with amending their tax returns for that year.

The plan needs to pay the 10% excise tax that were due once the refunds were not made timely, along with interest due from the original excise tax due date.

The IRA or QP that now holds the funds should distribute the refunds (as an ineligible rollover) along with related earnings.  The amounts will be taxable currently and, if they are the payor, they would issue the 1099-R.

Make sure your get paid for your work.  The client should review its service agreement with the prior TPA if the client wishes to try to recover anything.

There is no double taxation on excess contributions (ADP test failure) only excess deferrals (402(g) failure). 

Treas. Reg. § 1.401(k)-2(b)(2)(vi)(A)

(vi)Tax treatment of corrective distributions
 (A)Corrective distributions for plan years beginning on or after January 1, 2008.—Except as provided in this paragraph (b)(2)(vi), for plan years beginning on or after January 1, 2008, a corrective distribution of excess contributions (and allocable income) is includible in the employee's gross income for the employee's taxable year in which distributed. In addition, the corrective distribution is not subject to the early distribution tax of section 72(t). See paragraph (b)(5) of this section for additional rules relating to the employer excise tax on amounts distributed more than 2 1/2 months (6 months in the case of certain plans that include an eligible automatic contribution arrangement within the meaning of section 414(w)) after the end of the plan year. See also § 1.402(c)-2(c)(3) for restrictions on rolling over distributions that are excess contributions.

3 hours ago, Paul I said:

The IRA or QP that now holds the funds should distribute the refunds (as an ineligible rollover) along with related earnings.  The amounts will be taxable currently and, if they are the payor, they would issue the 1099-R.

But this is not necessarily the Plan's responsibility as they have no control over rolled over money. I believe the Plan needs to send a letter to the participant explaining that they must request such a distribution (in addition to explaining the situation and pending 1099-R's etc).

If a plan is not corrected 12 months after the PYE, then there are two remedies:

Distribute the excess to the HCEs AND do a 1-to-1 QNEC to the NHCE.  Not allowed to disaggregate.

Do a QNEC in an amount to pass to NHCE.  Cannot disaggregate.

You may wish to consider the cost of both corrections.  If I was an HCE and you told me several years later I would have to amend my taxes, I would expect you to shoulder the cost.

Was there an ACP failure as well?  If so, similar correction methods are available.

EPCRS Appendix B.  Section 2