The IRS recently issued new guidance for voluntary correction of retirement plan qualification errors in Revenue Procedure 2021-30 (Rev. Proc). The IRS has given practitioners more options for self-correction, including extension of the time for correcting errors, extending correction methods for certain deferral errors, and providing additional options for dealing with overpayments of benefits. The IRS is taking away the procedure for filing anonymously, but has added an option for a pre-filing conference on an anonymous basis. These changes are generally immediately effective except for the elimination of the anonymous VCP procedure, which will be effective on January 1, 2022.
IRS correction programs, known as the Employee Plans Compliance Resolution System or “EPCRS” include three parts:
- The Self Correction Program (SCP) that does not require filing with the IRS.
- The Voluntary Correction Program (VCP) in which a formal application for a compliance statement is filed with the IRS.
- The Audit Closing Agreement Program (Audit CAP) which is used when the IRS discovers a qualification failure in the course of a plan audit.
A more detailed description of the three programs is available here.
SCP Period Extended to 3 Years for Significant Failures
Plan sponsors can self-correct insignificant operational failures in SCP no matter how far in the past they occurred. However, the IRS limits self-correction of “significant” operational failures to a specified period after the end of the plan year in which they occurred. The new Rev. Proc. expands this period from 2 years to 3 years (the “Correction Period”).
To use SCP, a plan sponsor must first determine whether an error is significant or insignificant. This involves a balancing test based on factors identified by the IRS. If an error is significant, it may be self-corrected within the 3-year Correction Period. After that, significant errors can only be corrected by submitting a formal application to the IRS under VCP and paying a filing fee.
SCP Plan Amendments Made Easier
The IRS previously allowed plan sponsors to self-correct certain operational failures by adopting a retroactive plan amendment to match the plan document to its actual operation. This allowed plan sponsors to correct failures without the added time and costs of a VCP application. The IRS required that (1) the retroactive amendment would increase a benefit right or feature, (2) the increased benefit, right or feature was permitted under the Internal Revenue Code and EPCRS principles, and (3) that the increased benefit, right or feature was available to all employees. This last requirement was often difficult for plan sponsors to meet because operational failures and the related corrections do not always benefit all employees. The new Rev. Proc. eliminates this requirement that the retroactive amendment benefit all employees.
A common example of how this change helps plan sponsors would be a case where bonus compensation was included in plan compensation when the plan document excluded bonus compensation. Under the old rules, since not all employees received bonuses, the plan sponsor would be unable to self-correct this failure by adopting a retroactive amendment to remove the exclusion of bonuses from plan compensation. But now under the new rules, the plan sponsor could self-correct by adopting such a retroactive amendment.
401(k) Plan Automatic Contributions
The IRS has recently expanded self-correction options for 401(k) auto-enrollment errors to help encourage automatic enrollment. Available correction options include a safe harbor where no corrective contributions are required for missed deferrals in an automatic contribution arrangement if (1) the affected employee entered the plan no later than 9 ½ months after the end of the plan year in which the employee should have been enrolled, (2) the employer contributes any missed matching contributions that the affected participant would have received, and (3) the affected participant receives a written notice within 45 days of the date when the automatic deferrals started. This safe harbor previously had a sunset provision and expired on December 31, 2020. The new guidance extends the safe harbor for three years, until December 31, 2023.
The IRS has previously expanded correction options for overpayments to participants. Plan sponsors must request repayment from of overpayments and, under the prior guidance, were required to make additional contributions to the plan. The new Rev. Proc. allows affected participants to repay overpayments in a lump sum or installments and it provides two new correction options for defined benefit plans.
The new Funding Exception Correction Method for Defined Benefit Plans provides that if the plan’s adjusted funding target attainment percentage (AFTAP) is 100% or more as of the date of the correction, the plan sponsor does not need to make corrective contributions or seek repayment from participants who received overpayments. However, if a participant is receiving ongoing payments, future benefit payments must be reduced to cover the cost of the overpayment.
The IRS also added the Contribution Credit Method where a plan sponsor can reduce the contribution required to be made to the plan to correct overpayments by the amount of contribution credits that exist due to changes in the minimum funding levels or previous contributions the minimum required contributions.
End of Anonymous VCP Applications and Start of Anonymous Pre-Application Conference
Since the 1990s, anonymous VCP applications have allowed plan sponsors to get feedback about proposed corrections and whether such corrections would be accepted by the IRS and to discuss different correction options with the IRS without revealing the plan sponsor’s identity. If the IRS would not approve the proposed corrections, the plan sponsor could walk away without fear of an IRS audit since its identity had not been revealed. If the IRS agreed to the proposed corrections, then the plan sponsor would submit a VCP application with all the identifying information and the IRS would issue a compliance statement. The last day that the IRS will accept anonymous VCP applications is December 31, 2021.
Beginning January 1, 2022, anonymous VCP submission conferences will be held at the discretion of the IRS and only if time permits. The anonymous conferences are intended for issues that do not have safe harbor correction methods. The request for a VCP conference is much like what must be provided for a regular VCP application. It will require considerable time and effort. However, unlike with the prior procedures for anonymous VCP applications, the IRS will only provide oral feedback and any feedback given is not binding on the IRS in a later VCP application, so the plan sponsor cannot rely on it. While the conference is better than nothing, it does not replace the anonymous VCP application option.
If you are a plan sponsor or you are working with a plan sponsor that has a qualification failure that does not neatly fit within the safe harbor guidelines of EPCRS and you are not sure that you want to reveal your identity to the IRS in a VCP application, you should act fast and file an anonymous VCP application as soon as possible. The last day to file such an application is December 31st and that date will be here before you know it.