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Correcting governmental 457(b) plans

“Does the IRS have a correction program that covers 457(b) plans for governmental employers under the Employee Plans Compliance Resolution System (EPCRS)?”

ERISA consultants at the Retirement Learning Center Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings and income plans, including nonqualified plans, stock options, and Social Security and Medicare. We bring Case of the Week to you to highlight the most relevant topics affecting your business. A recent call with a financial advisor from Ohio is representative of a common inquiry related to correcting 457(b) plan errors.

Highlights of the Discussion

Effectively, yes. The two avenues of correction for governmental 457(b) plans are 1) self correction (without a submission); and 2) voluntary compliance (VC) with a formal submission. The IRS accepts VC submissions for governmental plans on a provisional basis under standards that are similar to EPCRS, but that are, technically, outside of the correction system. Qualifying governmental entities are listed in Internal Revenue Code (IRC) § 457(e)(1)(A), and include a

  • State;
  • Political subdivision of a state (e.g., a county, city, town, township, village or school district); and
  • Any agency or instrumentality of a state or political subdivision of a state.

Sponsors of governmental 457(b) plans may self-correct their plans without a formal IRS submission if they did not comply with the Internal Revenue Code (IRC) or regulations in some way. A sponsor has until the first day of the plan year that begins more than 180 days after the IRS notifies it of the failure (IRC Section 457(b)(6) and Treasury Regulation Section 1.457-9(a)). Considering the amount of time governmental entities have to self-correct plan errors, they may not need to make voluntary submissions to the IRS under the following procedures.

The IRS will accept VC submissions for some errors related to 457(b) plans for governmental employers (see Section 4.09 of Revenue Procedure 2016-51 through 2018 and Section 4.09 of Revenue Procedures 2018-52 effective January 1, 2019.) Note, however, the IRS, generally, will not address any issues 1) related to the form of a written 457(b) plan document; nor 2) problems associated with top-hat[1] plans of tax-exempt entities. However, the IRS may consider a submission where, for example, the top hat plan was erroneously established to benefit the entity’s nonhighly compensated employees and the plan has been operated in a manner that is similar to a qualified plan.

The IRS’s VC unit retains complete discretion to accept or

or reject any requests for correction approval. If accepted, VC will issue a special closing agreement.

The steps to voluntary correction are

  1. Complete IRS Form 8950, Application for Voluntary Correction Program (VCP).
  2. Compose a cover letter that describes the problem and includes a proposed solution.
  3. Mail both the form and cover letter to the address listed in the instructions to Form 8950.

Sponsors will receive IRS Letter 5265 acknowledging the submission along with a control number for reference.

Conclusion

The IRS has two avenues of correction for governmental 457(b) plans: self correction without a submission; and voluntary compliance with a submission. Sponsors can refer to IRS Form 8950 and its instructions, along with Revenue Procedure 2016-51 through 2018, and 2018-52 beginning in 2019 for complete details.

 

[1] Nongovernmental 457(b) “Top Hat” plans must limit participation to groups of highly compensated employees or groups of executives, managers, directors or officers. The plan may not cover rank-and-file employees.

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Correcting IRC §409A Plan Compliance Errors

“Is there a correction program for Internal Revenue Code Section (IRC §) 409A nonqualified plans, similar to the Employee Plans Compliance Resolution System (EPCRS) for qualified retirement plans?”

ERISA consultants at the Retirement Learning Center Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings plans, including nonqualified plans. We bring Case of the Week to you to highlight the most relevant topics affecting your business. A recent call with a financial advisor from Massachusetts is representative of a common inquiry related to nonqualified deferred compensation plans.

Highlights of Discussion

While there is no one comprehensive program like EPCRS for the correction of failures for IRC § 409A nonqualified deferred compensation plans (409A plans), the IRS has issued a series of notices containing pre-approved correction methods for certain operational failures and document noncompliance issues for such plans [IRS Notices 2008-113, 2010-6, 2010-80 and 2007-100  (which employers can follow in lieu of Notice 2008-113 for pre-2009 operational errors)]. Following the correction methods can help participants reduce or delay early taxation of their deferred compensation and avoid penalties.

If a business with a 409A plan fails to operate the plan in accordance with the requirements of IRC §409A, affected participants may become subject to current income taxation of their deferred compensation, as well as have interest and penalties assessed. Generally, all amounts that are deferred under a noncompliant 409A plan for the taxable year and all preceding taxable years are includable in gross income for the taxable year, unless the amount is subject to a substantial risk of forfeiture or has previously been included in gross income. The IRS assesses interest on such amounts included in income at the IRS underpayment rate plus one percent, and applies a 20 percent penalty.  Moreover, state and local tax rules and penalties may apply. The IRS has issued proposed regulations [Treasury Regulations Section 1.409A-4(a)(1)(ii)(B)] on how to calculate the amount of income to include when a failure occurs.

IRS Notice 2008-113 covers corrections for 409A operational failures, including, but not limited to, failures to defer amounts, excess deferrals, incorrect payments, and the correction of exercise prices. The guidance of IRS Notice 2010-6 allows businesses to correct many types of 409A plan document errors, including impermissible definitions of separation of service, disability or change in control; impermissible payment events or payment schedules; impermissible payment periods following a permissible payment event; impermissible initial or subsequent deferral election procedures; and a failure to include the six-month delay of payment for specified employees of publicly traded companies.  Please note that IRS Notice 2010-80 modifies certain provisions of Notices 2008-113 and 2010-6, and should be referred to for the latest guidance.

Plan sponsors can refer to the IRS’ Nonqualified Deferred Compensation Audit Techniques Guide for issues the IRS focuses on when auditing businesses that offer 409A plans.

Conclusion

The IRS has issued a series of notices containing pre-approved correction methods for certain operational failures and document noncompliance issues for 409A plans. Following the correction methods can help participants reduce or delay early taxation of their deferred compensation and avoid penalties.

© Copyright 2019 Retirement Learning Center, all rights reserved