Plan sponsors have long been held responsible for correcting elective deferral failures. These failures can occur when an employee is improperly excluded from the plan and is not provided the opportunity to make an affirmative election. But failures can also occur with deferrals based on a plan’s automatic contribution features (including automatic escalation).
Welcome Relief
The IRS has established safe harbor correction methods under Revenue Procedure 2015-28. Penalties for automatic contribution, automatic contribution increases (escalation) and enrollment mistakes were substantially reduced from prior correction rules.
These are the three methods for correcting elective deferral failures in 401(k) and 403(b) plans:
- Failures related to automatic enrollment or automatic increase (escalation) deferrals will not incur a missed deferral opportunity cost as long as they are discovered and corrected by the first payroll date after the earlier of:
- nine and one half months after the end of the plan year in which the automatic contribution or increase should have occurred, or
- the last day of the month following the month in which the participant advises the sponsor of the problem.
- Missed deferrals that happened within the prior three months will not require an employer corrective contribution if deferrals are restarted by the first payroll date after the earlier of:
- three months after the missed deferrals occurred, or
- the last day of the month following the month in which the individual advises the sponsor of the problem.
- Deferrals that fall outside of the first two time periods — but are corrected by the last day of the second year following the plan year in which the error occurred — require a QNEC of 25 percent. This is down from 50 percent previously. Under all these new correction methods, the employer must also:
- make a matching contribution in the amount the participant would have received had no deferral error taken place,
- notify the affected participant within 45 days of the date on which the proper deferrals started occurring, and
- calculate (and contribute) lost earnings for any corrective contributions the employer is required to make.
A Word About Eligibility
Of course, one way to avoid elective deferral failures is to pay close attention to participant eligibility. Under federal law, a plan may require that employees be at least 21 years old and complete a year of service before they are eligible.
A year of service generally requires employees to complete 1,000 hours of service over a 12-consecutive-month period. Plan sponsors may design plans with less restrictive eligibility requirements that will allow earlier entry into the plan.
The key is to utilize your existing payroll information to determine employee eligibility and make sure all eligible employees are enrolled on time. For some employers, this entails manual processes using spreadsheets, while others utilize automated software solutions that track time and hours of service. Whatever method is used, the ultimate goal is to avoid eligibility errors and missed enrollments.
Please feel free to contact Wende Wadsworth for additional guidance on elective deferrals and participant eligibility at 425.629.1990 or wende@sweeneyconrad.com