In April of 2019, the Internal Revenue Service (“IRS”) issued an update to the program allowing employers to voluntarily correct certain retirement plan tax-qualification failures.  This program, known as the “Employee Plan Compliance Resolution System” (“EPCRS”), includes rules and guidelines for situations where a retirement plan sponsor must formally submit the failures to the IRS under the “Voluntary Correction with Service Approval” (“VCP”) portion of EPCRS as well as situations where a plan sponsor can independently implement correction of the failure itself under the “Self-Correction Program” (“SCP”) segment of EPCRS without direct IRS oversight.  In a welcome move, this most recent update to EPCRS has expanded certain situations where a retirement plan sponsor can independently correct a tax-qualification failure under SCP.  The remainder of this article is dedicated to exploring some of the new scenarios where a plan sponsor is permitted to “self-correct” tax-qualification defects.

Notwithstanding the expanded role of SCP considered within this article, it is important to remember that the correction of any retirement plan tax-qualification failure is a technical and complicated process which must be performed in specific compliance with many detailed rules and requirements.  Thus, despite the “do-it-yourself” message suggested by the name of the “Self-Correction Program”, we strongly recommend that all VCP and SCP correction efforts only be performed under the guidance of a qualified retirement plan service provider which usually requires the retention of a competent ERISA attorney.

Participant Loan Failures

Prior to the recent update to EPCRS, SCP was extremely restrictive with respect to the correction of participant loan failures.  Under prior guidance, correction of participant loan failures essentially was not allowed under SCP.  However, the 2019 EPCRS update now allows certain loan failures to be corrected under SCP which means that, in some circumstances, a loan default can now be avoided by utilizing SCP.

In this regard, EPCRS now allows the self-correction of participant loan failures in circumstances where: 1) loan repayments are not made timely causing the loan to go into default; 2) a participant’s spouse does not provide written consent for the loan (if necessary); and 3) a participant receives more plan loans than permitted under the terms of the plan (ex. plan provides for only one loan per participant but participant is allowed to obtain two loans from the plan).

Despite this expansion to the correction of loan failures under SCP, certain loan failures remain correctable only under VCP.  More specifically the following loan failures all require a formal submission to the IRS under VCP: 1) loans that exceed the statutory maximum loan amount; 2) loans that exceed the statutory maximum loan repayment term; and 3) loans that violate the level amortization requirement.

It is interesting to note that a participant loan failure triggers a tax-qualification defect under the Internal Revenue Code (“IRC”) that is subject to enforcement by the IRS while also triggering violations under the Employee Retirement Income Security Act (“ERISA”) that are subject to enforcement by the Department of Labor (“DOL”).  Prior to the new guidance, the DOL indicated that it would accept correction of loan failures under VCP as full correction for ERISA purposes.  However, that DOL guidance was promulgated at a time that the IRS essentially did not allow for correction of loan failures outside of VCP.  Thus, now that the IRS is allowing the self-correction of certain loan failures that previously required correction under VCP, a conflict has been created.

As plan sponsors take advantage of the new opportunity to self-correct loan failures under SCP, such failures will be resolved for IRS IRC purposes but not DOL ERISA purposes since the DOL does not recognize the self-correction of loan failures under SCP as full correction for ERISA purposes,.  Thus, unless or until the DOL updates its guidance on this matter, self-correction of loan failures under SCP will not alleviate a plan sponsor’s potential liability under ERISA for such failure.  Hopefully, the DOL will take steps in the near future to align its prior guidance with this new development in order to remedy this concern.

Retroactive Plan Amendments to Resolve Certain Operational and Document Failures

In addition to prior versions of EPCRS being extremely restrictive with respect to the correction of participant loan failures under SCP, retroactive amendments were not routinely permitted under SCP.  In the past, retroactive plan amendments were permitted under SCP but generally only in the context of the early inclusion of not yet eligible employees and with regard to the granting of loans and/or hardship distributions when the plan did not explicitly allow for them.

The 2019 EPCRS update has now expanded the situations under which a retirement plan sponsor can resolve operational defects through retroactive plan amendments.  This should prove valuable in situations where the terms of a plan were more restrictive than its operation. Under the new guidance, a retirement plan is eligible to self-correct via retroactive amendment to conform the terms of the plan to its operation if the amendment: 1) results in an increase in a benefit, right or feature provided under such plan; 2) is available to all eligible employees; and 3) otherwise complies with the Code and the correction principles of the EPCRS.  Although extremely fact dependent, it is expected that most SCP corrections of this type will need to be completed within approximately two plan years of its occurrence.

Self-correction is also now available to correct certain plan document failures such as a failure to execute a required plan amendment or a restatement if the failure is corrected within approximately two plan years of its occurrence and such failure did not involve the execution of the initial plan document.

We hope that this article helped you to better understand this topic.  However, please be advised that it is not intended to serve as financial, tax or legal advice so it should not be construed as such.  If you have questions about this topic, we strongly urge you to further discuss it with a qualified retirement plan professional.  For more information about this topic, please contact our marketing department at 484-483-1044 or your administrator at Legacy.

Many employers are unaware that, in certain circumstances, they may be eligible for a valuable tax credit in connection with their establishment of a retirement plan.   Although this particular tax credit has been available for over a decade, it is still surprising to see the general lack of awareness that most plan sponsors have regarding this tax saving opportunity.  As a result, this article is intended to familiarize readers with this tax credit so that they can attempt to evaluate its application to their (or their client’s) tax situation.

Effective for tax years beginning on or after January 1, 2002, the Economic Growth and Tax Relief Reconciliation Act of 2001 (“EGTRRA”)[1] created a tax credit for “small employers” who establish a new “eligible employer plan”.  The credit is equal to up to 50 percent of the “qualified plan start-up costs” incurred for a period of up to three years.  In addition, a $500 maximum limit applies in relation to the credit for each of the three years that the credit may be claimed.  An employer may elect to initially apply the credit to the year the permissible plan is established or to the year before establishment.  Also, the employer may not deduct any start-up costs if it claims the credit.  For those readers who possess a greater familiarity with the Internal Revenue Code of 1986, as amended (“Code”), and the tax credits available thereunder to businesses, this credit is allowed in connection with the general business credit permitted under section 38(b).

As you can see, there are several very important “defined terms” included within the authorizing language for the credit that are critical to determining its availability to any particular plan sponsor.  First of all, only a “small employer” is eligible to claim this tax credit.  In this context, a small employer is defined in the same manner as it is used in conjunction with SIMPLE plans.  Thus, in general, a small employer for purposes of this tax credit is an employer with 100 or fewer employees who received at least $5,000 of compensation from such employer for the preceding year.

Another important consideration is that the credit is only available with respect to the establishment of an “eligible employer plan”.  In general, an eligible employer plan is a tax-qualified plan under section 401(a) of the Code (such as a profit sharing plan, 401(k) plan and/or defined benefit plan, among others), Simplified Employee Pension Plan (“SEP”) or Savings Incentive Match Plan for Employees (“SIMPLE”).  In addition, in order to qualify for the credit, the newly established plan must have at least one participating non-highly compensated employee.  This final “eligible plan” qualification is of great importance because it effectively eliminates the credit with regard to “solo(k)” plans.

Finally, the credit may only be applied in connection with “qualified plan start-up costs”.  For this purpose, qualified plan start-up costs are any ordinary or necessary expenses incurred with regard to the establishment of such plan, its administration or certain costs incurred related to employee investment education expenses.

Obviously, everyone’s tax situation is different so, as much as we hope this article helped you to better understand this topic, it is not to be construed as financial, tax or legal advice.  Therefore, if you believe that it may apply to your (or your client’s) company, be sure to further discuss it with a qualified accountant or tax professional.  For more information about this topic, please contact our marketing department at 484-483-1044 or your administrator at Legacy.

In 2018, we wrote about the Bipartisan Budget Act of 2018 (“Budget Act”) and the unanticipated inclusion of certain provisions of the Budget Act that generally expanded the availability of hardship withdrawals from retirement plans.  Since the publication of that article, the U.S. Treasury Department has released proposed regulations that begin to provide the guidance that practitioners and plan sponsors require in order to implement the changes to the hardship withdrawal rules (“Proposed Regulations”).  Final regulations on this matter are anticipated sometime later in 2019.  However, since several provisions of the Budget Act were slated to be effective as early as January 1, 2019, it is important to understand the content of the Proposed Regulations now in order to be poised to take advantage of them once they are finalized.  Therefore, the following generally discusses the content and impact of the Proposed Regulations.

Before discussing the Proposed Regulations, it is worth mentioning that it is not possible to be entirely definitive on the impact and requirements of the new rules until they are issued in final form at some point in the future.  Thus, even though there may be plan sponsors who would like to take immediate advantage of the content of the Proposed Regulations, it would be prudent to wait until the Proposed Regulations are issued in final form before attempting to effectuate the guidance provided therein in order to avoid inadvertently violating any yet to be released requirements.  In this regard, it also is noteworthy that most retirement plans will need to be amended in order to take advantage of these changes.  However, as a result of the yet to be final status of the Proposed Regulations, many plan document providers have not yet released the plan language and documentation necessary to formally memorialize these changes.  Consequently, even though it is expected that plan sponsors will have a “grace period” during which they will be able to retroactively amend their plans to incorporate the necessary plan provisions, it remains prudent for all parties to understand the full scope of the new rules before attempting to comply with their requirements.  Thus, again, it likely is in the best interests of most plan sponsors to delay implementing these new rules until final regulations are released by the U.S. Treasury Department.

Prior to the release of the Proposed Regulations, Treasury regulations existed that generally described how a hardship withdrawal would only be permissible to the extent that the amount distributed was necessary to satisfy a financial need.  In this regard, the existing regulations established both a facts and circumstances method and a safe harbor method of satisfying this requirement.  However, the Proposed Regulations propose to eliminate both the facts and circumstances and safe harbor methods of establishing the amount of the financial need in favor of a new three prong test that mirrors the old safe harbor method with certain exceptions.  The three prongs of the newly proposed rule are as follows: 1) the distribution does not exceed the amount of the participant’s need; 2) the participant has obtained all other currently available distributions under the plan and all other plans of deferred compensation maintained by the employer; and 3) on or after January 1, 2020, the participant must represent in writing that he or she has insufficient cash or other liquid assets to satisfy the need.  To further explain, this new test would only apply to determining the amount of the purported need and essentially would serve to eliminate the currently applicable regulatory requirements that a participant: 1) first obtain any nontaxable plan loans to attempt to satisfy the need; and 2) have his or her ability to make elective deferral contributions suspended for at least six months after the receipt of the hardship withdrawal.

The Proposed Regulations would also affirmatively establish that, effective as of January 1, 2020, plan sponsors shall be prohibited from suspending a participant’s ability to make elective deferral contributions following his or her receipt of a hardship withdrawal.  In addition, the Proposed Regulations indicate that plan sponsors have the discretion to eliminate the elective deferral suspension rule as early as the first day of the first plan year beginning on or after December 31, 2018 and that such discretion extends to the elimination of the rule in connection with hardship withdrawals that may have been granted prior to the effective date of such change.

Finally, the Proposed Regulations formally expand the money sources from which a hardship withdrawal may be obtained to also include qualified nonelective contributions (“QNECs”), qualified matching contributions (“QMACs”) and the earnings associated with those amounts as well as earnings on elective deferral contributions.  However, it is noteworthy that plan sponsors are not required to expand the sources from which hardship withdrawals may be made in this manner.

We hope that this article helped you to better understand this topic.  However, please be advised that it is not intended to serve as financial, tax or legal advice so it should not be construed as such.  If you have questions about this topic or are considering implementing these rule changes, we strongly urge you to further discuss it with a qualified retirement plan professional.  For more information about this topic, please contact our marketing department at 484-483-1044 or your administrator at Legacy.