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By Marcia S. Wagner, Esq. and Diane Goulder Cohen, Esq. The Wagner Law Group, Boston, MA
Maintaining a qualified pension plan in light of the rigorous and voluminous requirements is a challenge in and of itself. What makes this challenge all the more oftentimes frustrating is the lack of coordination between the two primary agencies that regulate qualified retirement plans, i.e., the Internal Revenue Service (IRS) and the Department of Labor (DOL). The Employee Retirement Income Security Act of 1974, as amended (ERISA) is organized statutorily to empower the DOL to regulate the applicable fiduciary, trust, and claims and enforcement requirements. However, other requirements of qualified plans concerning coverage, eligibility, vesting, funding, and enforcement are included in ERISA but also duplicated in the Internal Revenue Code (Code). In addition, the reporting and disclosure requirements overlap regulation by both agencies.
The result is that certain plan provisions, when violated, come under the regulatory authority of both the IRS and the DOL concerning the consequences, i.e., the method of correction and the penalties involved for violation. Recently, both agencies have been working to improve coordination between the two primary programs available for correction with agency approval, i.e., the Voluntary Correction Program (VCP), part of the Employee Plans Compliance Resolution System (EPCRS), under IRS auspices and the Voluntary Fiduciary Correction Program (VFCP) under DOL auspices. (See, for example, §7.3(b) of the VFCP regarding correction of a defaulted participant loan by filing the VCP compliance statement evidencing compliance with Code §72(p)(2) and proof of correction for purposes of the VFCP filing.) This article will focus on one particular aspect of the stated problem of the disconnect in correction methodologies between the IRS and the DOL, specifically, the calculation of earnings to make a participant whole when determining certain corrective contributions.
As background, and as alluded to above, the IRS and DOL have distinctly different perspectives concerning the regulation of qualified retirement plans. The IRS's primary focus is to enforce the many rules and regulations which govern the qualification of the plan, predominantly Code §401(a), et. seq. The DOL's primary focus is to regulate the fiduciary standards governing plan officials and trust requirements. Both agencies share enforcement and reporting requirements.
One particular operational problem which occurs frequently is the failure to timely deposit to the plan's trust account employee elective deferral contributions which are withheld from employee paychecks as 401(k) salary deferral contributions. The DOL regulates the timing of this transaction primarily through enforcement of ERISA Regs. §2510.3-102 which sets forth the requirement that salary deferral contributions must be deposited to the plan as of the earliest date by which they can reasonably be segregated from the employer's general assets. With the advent of modern technology, this is often same day of or next day after the payroll date.
Regardless of what date is determined to be the appropriate timing, the issues are as follows: often the employer will not know that it is “late” making the deposits to the trust until the plan is audited. The auditor will review the particular situation and make a determination of what the requisite time frame is, which in most cases is not what the employer has been doing. If, based on the auditor's determination, the deposits have been late, the employer will need to “make the participants whole” by contributing earnings attributable to the late contributions.
The problem arises that the IRS and DOL do not utilize the same methodology when calculating lost earnings. Moreover, the DOL within its own organization does not utilize the same methodology if the earnings are calculated as a result of audit rather than as part of a VFCP filing. In one case, we had a client for which the DOL audit ended mid-year. Actual plan earnings were used to make participants whole through the end of the audit period. For the latter half of the same year, the client filed with VFCP and utilized the DOL online calculator to determine earnings for the latter half of the year for the same participants and the same plan year.
The interesting dilemma that is overlaid on this scenario is if the plan, itself, has language which mirrors the ERISA regulation cited above regarding the timing deadline for deposit of salary deferral contributions. If the plan so states, then failure to comply also becomes a qualification issue. If the plan sponsor decides to file under VCP, prior to Rev. Proc. 2008-50, the incongruent result was that plan earnings calculated under VCP required the use of the plan's actual earnings whereas the VFCP earnings methodology utilized the DOL online calculator. The net result was that the same participant could have different corrective contributions associated to the same accounts for the same time period. A way around this anomaly was to offer in VCP to provide to such affected participants the greater of the two amounts, still an unwieldy exercise often requiring time consuming calculations and comparisons.
An improvement regarding this issue as set forth in Rev. Proc. 2008-50, in part as a result of input from us on this very issue, was an addition to §6.02(5)(a):
(a) Reasonable estimates. If either (i) it is possible to make a precise calculation but the probable difference between the approximate and the precise restoration of a participant's benefits is insignificant and the administrative cost of determining precise restoration would significantly exceed the probable difference or (ii) it is not possible to make a precise calculation (for example, where it is impossible to provide plan data), reasonable estimates may be used in calculating appropriate correction. If it is not feasible to make a reasonable estimate of what the actual investment results would have been, a reasonable interest rate may be used. For this purpose, the interest rate used by the Department of Labor's Voluntary Fiduciary Correction Program Online Calculator (“VFCP Online Calculator”) is deemed to be a reasonable interest rate… .
And further in Section 6.02(2)(e)(iii):
Similarly, in the case of a violation of the fiduciary standard imposed by Part 4 of Subtitle B of Title I of ERISA, correction under the Voluntary Fiduciary Correction Program established by the Department of Labor … for a fiduciary violation for which there is a similar failure under this revenue procedure would generally be taken into account as correction under this revenue procedure… .
As written, the acceptance of the DOL online calculator methodology still does not help our hypothetical unless the difference in amounts are insignificant and the administrative cost too high. Thus, although the provision is a step in the right direction, it still falls short of the relief actually needed as evidenced by the very typical facts posited. However, it is a step in the right direction. Utilizing the recognition of the DOL online calculator as a reasonable interest rate, in tandem with the language of §6.02(2)(e)(iii), helps the Plan sponsor to assert to the IRS VCP reviewer that the DOL online calculator can be used more broadly for these errors, especially if the plan sponsor is willing to make corrective contributions which are the greater of the two amounts, i.e., actual plan earnings or DOL online calculator earnings.
Another way to avoid the problem totally is to eliminate the ERISA plan asset rule regarding salary deferral contributions in the plan document. If this approach is taken, a violation would only be correctible under VFCP, not VCP, and would thus avoid the dilemma discussed above. Some practitioners, however, feel it is important to state the requirement in the plan in order to provide reference guidance to the client. The trade-off is doing so establishes a plan provision which, if violated, then creates a failure to follow plan terms and a qualification violation, not just a fiduciary violation. In other words, it creates an ERISA violation as well as a Code violation. The result is two correction forums, VCP under the IRS and VFCP under the DOL, with the differing views as previously discussed.
Historically in VCP, IRS reviewers would not accept earnings calculated using the DOL online calculator. As described above, situations arise in which the late deposit of salary deferral contributions requires corrective filings under both VCP and VFCP, and typically for the same errors and same plan years. The liberalization of VCP as set forth in Rev. Proc. 2008-50 is a step forward in reconciling this disconnect and enables plan sponsors to coordinate correction with both agencies. Hopefully, the next iteration of EPCRS will expand the use of the DOL online calculator even further in order to clearly address the issues raised in this article.
For more information, in the Tax Management Portfolios, see Wagner and Bianchi, 375 T.M., EPCRS -- Plan Correction and Disqualification, and in Tax Practice Series, see ¶5510, Qualified Retirement Plans -- Overview.
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