Everyone makes mistakes, and for plan sponsors, the ability to identify and remedy errors is essential for maintaining the plan’s tax benefits. For plan sponsors who may have deviated from their plan documents, or need to make other corrections, the Internal Revenue Service (IRS) provides three options to fix errors so organizations can keep all the tax advantages that come with their retirement benefits.
The program, called the Employee Plans Compliance Resolution System (EPCRS), has a three-tiered approach to resolving issues in all types of plans. As you might guess, the more complicated the issue, the more the IRS gets involved. Here, we’ll explain some of the common failures and the remedies available to plan sponsors.
Types of Errors
The types of errors that plan sponsors make and that may need corrections generally fall into four main categories:
- Operational issues: plan sponsor does not follow provisions in the plan
- Plan document failure: plan document is written in a way that violates tax-qualification requirements
- Demographic complications: plan operates in a way that fails non-discrimination, participation or other coverage issues that undo tax qualification requirements
- Employer eligibility: Employer adopts a plan that doesn’t fit its tax designation; for example, government organizations cannot adopt 401(k) plans
Three Levels of Corrective Measures
The IRS provides three options for fixing issues. The first is a do-it-yourself, voluntary program called the Self-Correction Program (SCP). This allows the plan sponsor to fix the issue without informing the IRS or paying a fee. To qualify, plan sponsors must have more than a plan document; they must have established practices and procedures. Also, this remedy is only for operational failures. For example, complications with vesting, eligibility, auto-enrollment are all common operational problems that qualify for SCP. Additionally, the self-correction program must be corrected within the time frame noted for significant errors. Insignificant errors can occur at any time.
Plan sponsors interested in using SCP should follow Revenue Procedure 2016-51, Section 6. It’s important to note that plans have until the end of the second plan year after the problem occurred to complete the correction.
The second remedy is called the Voluntary Correction Program (VCP) and is available for all types of errors. This is a more involved program that is used when multiple corrections are needed or when a plan sponsor isn’t sure how to proceed. Plan sponsors must notify the IRS of mistakes as well as show how issues will be corrected. After receiving the plan sponsor’s submission, the IRS will issue a letter called a Compliance Statement that will recap the failures and the IRS-approved corrective measures. The plan sponsor has 150 days from receiving the Compliance Statement to fix the problems.
The benefit of the VCP is that it provides certainty: the IRS designates what to do, and the plan should be operating to IRS standards if the remedies are followed correctly. One drawback, however, is that VCP requires a fee. In the past, the cost was based on the number of participants, but now it’s based on plan assets. The table can be found here.
Plan sponsors interested in using VCP should start by filling out form 8950 and 8951. In addition, there may be other forms required, so it’s important to follow the directions in Revenue Procedure 2016-51, Part V.
The last program is called the Audit Closing Agreement Program (Audit CAP). This is available when a plan is under audit and has multiple issues or any error that the IRS requires correction of. The IRS starts with a sanction or closing fee to determine the penalties for the violations. The regional agent will review the facts and circumstances to determine the fee, but a bit of subjectivity is in play, too. In many cases, plan sponsors may choose to work with a service provider to negotiate the maximum payment amount. The IRS notes that the fee will be higher than what plan sponsors would pay under VCP and will reflect the severity of the issues in the plan.
If the plan sponsor and the IRS cannot come to an agreement on the correction or the fine, the plan will be disqualified. Plan sponsors who are required to comply with an Audit CAP should review Revenue Procedure 2016-51, Section 14, for more details.
Insight: Be Proactive and Document Your Actions
Operating a retirement plan is not always easy, and it’s inevitable that plan sponsors will run into issues on occasion. The key is to address problems as quickly and efficiently as possible, so errors do not trigger an IRS audit.
While the IRS gives solid information, plan sponsors may not find everything needed to do the self-correction. In this case, plan sponsors may need to ask the IRS for a self-determination letter. Also, there are other issues—such as fiduciary violations or missed Form 5500 filings—that the EPCRS cannot fix.
Even when using the SCP, plan sponsors should document every step made to correct all failures. This records the plan sponsor’s process as well as helps establish procedures going forward. In all the EPCRS programs, the objective is to restore the plan to where it would have been had the errors not happened. Should you have any questions, reach out to your Warren Averett representative, and our team will be available to help walk you through the EPCRS process.