402(g) and ADP failure

When an HCE defers over the 402(g) limit we use the full deferral amount in the ADP test.

If the plan fails the ADP test, does that mean the plan must return the excess deferral and the excess contribution (which ends up including the amount over the 402(g) limit)?  Essentially returning the excess deferral twice?

Example:  HCE under age 50 defers $21,800.  402(g) excess deferral of $2,800 plus earnings needs to be refunded.

The full $21,800 is used in the ADP test which fails.  The refund required is $3,135.58 plus earnings.  If we used $19,000 in the test (which we can't), the refund would be $335.58.

We think that is correct that the participant would receive a refund $2,800 plus earnings for the excess deferral and $3,135.58 plus earnings for the excess contribution, but wanted to make sure.

The refund is  the $3,135.58 plus earnings.

The first $2,800 plus earnings is refunded as excess deferral.

The remaining $335.58 plus earnings is refunded as excess contribution.

You do not need to refund the $2,800 twice as both excess deferral and excess contribution but you will have two 1099-Rs in this case.

The total refund will be the $3,135.58 of excess contributions plus earnings, since it is larger than the excess deferral of $2,800 plus earnings. If the excess deferrals are distributed first, it reduces the distribution needed to correct the excess contributions.  If the excess contributions are distributed first, it reduces the amount needed to correct the excess deferrals.
 

Quote

 

1.401(k)-2(b)(4) Rules applicable to all corrections—(i) Coordination with distribution of excess deferrals—(A) Treatment of excess deferrals that reduce excess contributions. The amount of excess contributions (and allocable income) to be distributed under paragraph (b)(2) of this section or the amount of excess contributions recharacterized under paragraph (b)(3) of this section with respect to an employee for a plan year, is reduced by any amounts previously distributed to the employee from the plan to correct excess deferrals for the employee's taxable year ending with or within the plan year in accordance with section 402(g)(2).

(B) Treatment of excess contributions that reduce excess deferrals. Under §1.402(g)-1(e), the amount required to be distributed to correct an excess deferral to an employee for a taxable year is reduced by any excess contributions (and allocable income) previously distributed or excess contributions recharacterized with respect to the employee for the plan year beginning with or within the taxable year. The amount of excess contributions includible in the gross income of the employee, and the amount of excess contributions reported by the payer or plan administrator as includible in the gross income of the employee, does not include the amount of any reduction under §1.402(g)-1(e)(6).