For the second time in under a week the Internal Revenue Service released a series of updates to its most recent restatement of the Employee Plans Compliance Resolution System (EPCRS). Revenue Procedure 2015-28 modifies EPCRS by outlining new safe harbor correction methods for plans with automatic contribution features and shorter term elective deferral failures. The changes provide helpful relief to employers who maintain 401(k) and 403(b) plans by expanding the correction options for errors involving the implementation of elective deferrals or the improper exclusion of eligible employees from the plan. Employers whose plans provide for automatic enrollment and automatic escalation of elective deferrals will find the new guidance especially advantageous.
Under current EPCRS guidance, Revenue Procedure 2013-12, if an employee is improperly excluded from participating in a 401(k) or 403(b) plan or there is a failure to correctly implement the employee’s deferral election, the plan sponsor must correct the error by making a qualified nonelective contribution (QNEC) to compensate the employee for his or her “missed deferral opportunity.” The QNEC must be equal to 50% of the “missed deferral amount” (generally, the deferral percentage for the employee’s group in the plan multiplied by the employee’s compensation for the year). The plan sponsor must also contribute the matching contribution the employee would have received had the employee’s elective deferrals been made correctly under the plan.
Rev. Proc. 2015-28 outlines three new safe harbor correction methods that allow plan sponsors to correct deferral failures at a reduced cost:
- If the deferral failure is detected within 3 months after it began, no QNEC for the missed deferral(s) will be required so long as correct deferrals begin with the first payroll following the 3 month period after the failure began, the affected employee is notified of the failure within 45 days of the correction, and a corrective contribution is made to account for any missed matching contribution(s) (adjusted for earnings) by the first payroll after the last day of the second plan year following the plan year in which the failure began. This timing requirement aligns with the deadline under the EPCRS self-correction program for correcting significant operational failures.
- If the deferral failure is not corrected within the first 3 months, the plan sponsor will be able to correct by making a QNEC equal to only 25% of the “missed deferral amount” so long as correct deferrals begin and a corrective contribution is made to account for any missed matching contribution(s) (adjusted for earnings) by the first payroll after the last day of the second plan year following the plan year in which the failure began. Once again, notice of the failure must be provided within 45 days after the date the deferral rate is corrected.
- Finally, for plans with an automatic contribution feature, no QNEC will be required if the plan sponsor fails to implement the deferral contribution for an eligible employee so long as notice and missed matching contributions (adjusted for earnings) are provided as described above, and correct deferrals begin with the first payroll that occurs 9 ½ months after the end of the plan year in which the failure occurred. This time frame allows plan sponsors until the due date for the plan’s Form 5500 (including automatic extensions) to discover and correct the error.
For each new safe harbor, if the plan sponsor is notified of the deferral failure by an affected employee, correct deferrals must begin no later than the first payroll made on or after the last day of the month following the month of notification.
Rev. Proc. 2051-28 also provides an alternative safe harbor method for calculating earnings for deferral failures that have automatic contribution features and are corrected utilizing the safe harbor methods listed above. Under this earnings safe harbor, missed earnings may be calculated based on the returns for the plan’s default investment alternative unless employees have affirmatively designated an investment choice. When correcting a failure to implement an automatic contribution feature that does not extend beyond the 9 ½ month period following the close of the plan year, however, cumulative losses cannot result in a reduction of the required corrective contributions required for any matching contributions.
The expanded safe harbor correction methodologies listed above are effective immediately (April 2, 2015), but the third safe harbor, reserved for deferral failures in plans with automatic contribution features, will no longer be available to correct failures that begin on or after January 1, 2021, unless the safe harbor is extended through other guidance.
By expanding the range of correction options available under EPCRS, the IRS is attempting to address concerns raised by employers regarding the correction of common administrative errors and doing so in a way that rewards vigilance and prompt action when an error is discovered. Rev. Proc. 2015-28 provides great advantages to employers by lowering or eliminating the QNEC requirement and providing a less cumbersome method of calculating earnings, thereby reducing the costs and administrative burdens associated with correcting plan errors. What’s more, the new safe harbors are available to correct deferral failures that pre-date the April 2, 2015 release of the guidance. Rev. Proc. 2015-28 provides further proof of the value of regularly evaluating the operation of your plan and correcting errors as soon as they are identified.