From time to time, retirement plan sponsors encounter errors that need to be fixed in order to correctly administer their plans. While the resolution process for some issues can be complex and tedious, others can be quickly resolved using the IRS’ Self-Correction Program (SCP). Additionally, there are no fees, applications or reporting requirements necessary.
Eligible operational failures include:
- Failure to follow the terms of the plan
- Excluding eligible participants
- Not making contributions promised under the plan terms
- Loan failures
Plan document failures, including late plan amendments, aren’t eligible for self-correction. A document failure occurs when you don’t have your plan document up-to-date, or if your plan document doesn’t fully comply with the tax law. In these instances the Voluntary Correction Program (VCP) must be used to resolve the failure.
Significant and Insignificant Failures
Thankfully, you can self-correct an insignificant operational error at any time to preserve the tax-favored status of your plan. Significant failures however, must be self-corrected within a certain timeframe.
The significance of a failure is determined based on the facts and circumstances. Factors to consider include:
- Other failures in the same period (not how many people are affected)
- Percentage of plan assets and contributions involved
- Number of years it occurred
- Participants affected relative to the total number in the plan
- Participants affected relative to how many could have been affected
- Whether correction was made soon after discovery
- Reason for the failure
While no single factor is determinative, failures are not considered significant just because they occur in more than one year. Additionally, the IRS will not interpret these factors to exclude small businesses.
- As an example: The benefits of 50 of the 250 participants in Plan A are limited by the IRC Section 415(c) compensation limits, but the plan’s contributions for three of these employees nonetheless exceeded the maximum contribution limitations. The sponsor contributed $3,500,000 for the plan year, and the excess contributions totaled $4,550. This failure is insignificant because of the small ratio of the number of participants affected by the failure relative to the total number of participants who could have been affected and the amount of the failure relative to the total employer contribution to the plan for the plan year. The failure is still insignificant if the same failure occurred for three separate plan years, or if the three different participants were affected in each of the three years.
Other eligibility requirements for self-correction
- The plan sponsor must have routinely followed established procedures to operate the plan in compliance with the law. A plan document alone isn’t evidence of established procedures.
- The failure occurred because:
- An oversight or mistake occurred in applying the plan’s procedures, or
- The procedures that were in place, while reasonable, weren’t sufficient to prevent the occurrence of the failure.
Remember, it’s possible for plan mistakes and failures to happen. What’s important is if you have found a mistake or problem in a retirement plan to use the appropriate tools to get it corrected whether through self-correction or by using the VCP.