Retirement plans can be challenging to administer and errors can be easily made. According to the IRS, these 401(k) contribution errors are quite common and could lead to penalties. But do not worry, you can identify and correct these errors. Let’s briefly discuss some of the most common mistakes, so that you can identify, correct, and avoid these in the future.
1. Failing to Update the Plan
Letting your 401(k)-plan run without updating the terms is not advisable. The plan document must be updated every few years to reflect any law changes. A 401(k) plan should be reviewed and updated within the law so that you can take advantage of the changes. If you do not, then you might miss the opportunity to raise the contribution rate.
All 401(k) plans need to be established by a formal written plan document that complies with the Internal Revenue Code. You need to amend the written plan document when the tax laws change affect the 401(k) plan and reflect the tax law changes by the firm deadline the IRS establishes.
According to the IRS, you should review and update the following documents to reflect the current law:
Original plan document
Subsequent plan amendments or restatements
IRS opinion or advisory letter
IRS determination letter
Board of Directors resolutions and minutes
If you missed the deadline to adopt the amendment, then you may have to use the IRS correction program. To avoid this error in the future,
Use a calendar to schedule deadlines for what amendments/restatements need to be completed.
Review your plan document annually making sure all plan documents match and are recorded.
If you established the plan from with a Third Party, make sure you maintain regular contact with them.
2. Failing to Base the Plan Operations on the Terms of Your Legal Documents
Failure to follow the plan terms is a common mistake. The plan sponsor is responsible for keeping the plan compliant with the terms of the tax laws. You should notify anyone who provides services to your plan that there were changes made to your legal document and your plan operations. Below are some common mistakes to avoid
If you make changes to your plan document, notify everyone who services your plan.
If you amend your plan document, you should also amend your summary plan description.
If you have changed the plan trustees, you need to inform everyone who services your plan of these changes, update your plan document, and update the summary plan description.
As soon as you find an error in your plan, correct it as soon as possible. Based on your circumstance, you and the IRS may negotiate and can come to an agreement for the correction of the error. To avoid these mistakes
Communicate with all parties involved to be aware of changes on a timely basis.
Review the plan terms annually to ensure that everything is correct and up to date.
3. Inaccurate Definition of “Compensation”
A plan may contain multiple different definitions of “compensation” for different purposes, so it can be easily used incorrectly. It is important to apply a plan’s definition of compensation accurately to operate a plan without any errors. You need to follow the plan document compensation definitions:
Salaries and Wages
Payment for Professional Service
Other payments received for personal services
Commissions and Tips
There are a few ways to make corrections when there are improper allocated amounts due to not following the plan’s definition of compensation. If there is an excess of elective deferrals, then the plan sponsor needs to give the participant a distribution of the excess deferrals plus the earnings. If there are inaccurate profit-sharing contributions, then reallocate the contributions plus earnings to be used and if there is excess then it is forfeited for use as future profit-sharing contributions. In order to avoid this error:
Perform annual reviews of compensation definitions.
Make sure the person who determines/reports the compensation is professionally trained to understand the plan document.
It is common for 401(k) contribution errors to occur, but they can be fixed. By understanding how essential it is to review and go over your 401(k) plan you can avoid these mistakes. The errors that were discussed are just some of the mistakes that could happen. By simply reviewing your 401(k) legal plan documents it can help you manage a successful retirement plan. For assistance in managing your organization’s 401(k) plan, contact the experienced team at RPCSI today.