Failure to Implement Reduction in Elective Deferrals - Correcting Thru Payroll Adjustments

Due to payroll issue, plan sponsor failed to implement changes made to existing 401(k) plan participants' elective deferrals for two payroll periods.  So there is a mix of participants who elected to increase deferral percentage and failed to defer enough as well as participants who decreased their deferral percentage and now have contributed more than they intended.  Plan Sponsor is clear on fix for those who failed to have their deferral amounts increased and will give notice and correct those accounts via EPCRS guidelines.

What is less clear are the possible alternatives for participants who didn't have decreases implemented and so deferred too much to the plan.  Plan sponsor does not want to forfeit amounts from participants' accounts and/or make additional payments to participants through payroll to get them the additional pay they missed.  Instead, company wants to correct this (at least in all cases possible) through payroll system adjustments.  For example, somebody that was deferring 10% and elected to decrease deferral to 5% (and thus had two payrolls with an extra 5% deferred) will have "negative 401(k) deferrals" for the next couple of payrolls. 

If I understand the proposed correction process correctly, that seems to mean they will basically offset or adjust participants' future 401(k) deferrals to reduce the contributions by the excess amounts contributed.  So while next two payrolls should have a 5% 401(k) deferral, they will instead show a negative 5% 401(k) deferral and participants will basically not have any salary deferred and contributed to the 401(k) Plan.  After 2 pay periods, the total deferral amounts will be correct and equal to what participant would have deferred if the election change had been timely processed. 

Is it generally possible to correct this sort of mistake in this or a similar manner by essentially adjusting within the payroll system?  If not squarely covered under SCP, do others have experience with these sorts of corrections getting approved under VCP?  Not sure exactly what you do with individuals who have dropped deferral rate down to 0% or have since terminated employment?  Guess you could just arrange for forfeitures in those cases if that is only way to fix.  Guess you could also forfeit excess earnings but still make main deferral adjustments via payroll?

Thanks for any thoughts or experience.

When I've had clients try to use negative deferrals to correct something like this, it has typically created more problems than it solved.

i don't see a problem in general, especially if it's only a couple of payroll periods - deferrals come out correct in the end, as does take home pay and tax withholding. HOWEVER, if you have matching contributions and they are calculated on a payroll period basis, the plan sponsor may need to make manual adjustments.

Thanks very much.  They do plan to make manual adjustments to the match here. 

I guess the thing I have a real blind spot about is how the payroll fix works mechanically.  I can see it working easily in many cases -- for example, where somebody just drops down a percentage point or two --  but how do you adjust for those electing to go down to zero so there are no ongoing 401(k) deferrals or others that have elected to drop significant percentages so that it may take multiple payroll periods.  Or what if somebody terminated?  It seems to me they are probably destined to have to make some returns or forfeitures in some cases and so I'm not sure they wouldn't be better off to just do that consistently across the board.

Also, from Sal, it looks like the preferred EPCRS fix for this is to do refunds / make distributions of the Excess Amount with that fix generally supportable under SCP.  Here, the amounts are not huge and correction will be very quick but I still worry some about doing this under SCP unless others have had this sort of approach routinely approved in VCP / passed on in audit.