Administering a company 401(k) plan comes with its own unique set of challenges and potential errors. As you familiarize yourself with the process, it is common to make a mistake or two. However, these mistakes can result in penalties, liability, and even plan disqualification. While it may sound scary, this is not the end of the road – let's discuss common 401(k) contribution errors and how to correct them.
Error #1: Missing Employer Matching Contributions
Whether you forgot to count an employee's exact hours of service or simply didn't follow plan document terms, forgetting to match your employee's contributions can happen. If an error occurs, you can work with your service providers to correct it in accordance with your plan document and the IRS guidelines. The plan documents will contain the employee's eligibility requirements and the contribution formula that is used to make the matches. You can avoid missing employer matching contributions by reviewing the plan document and having employment and payroll records on hand for calculations. To fix the error, you will need to make a corrective contribution based on the plan's term at the time of the mistake. For example, if an employer-provided a matching contribution of 4% instead of 6%, the employer needs to make a corrective contribution of the remaining 2% plus missed opportunity gains per the regulations.
Error #2: Late Contributions
Late contributions result in lost interest for the employees and can lead to penalties, excise tax, and even disqualification of the 401(k) plan, however, the IRS uses this as a last resort. As soon as the employer realizes the deposit is late, the first step is depositing the late contributions and lost earnings into the employee's accounts. The employer will also need to self-correct the lost amount under the self-correction program. This program is not available if the Plan is already filed through the Voluntary Correction Program (VCP). In addition to the self-correction program, the employer will need to pay excise taxes on the late deposit amount. It is a 15% excise tax and is reported on Form 5330. However, this tax may be waived under the VFCP (Voluntary Fiduciary Correction Program) through the DOL if it is a de minimis amount.
Error #3: Excess Contributions
When a participant contributes too much, it can affect the employer and result in additional taxes. While this can happen, it is a simple fix. If you have a participant who has contributed too much to their plan, the employer will need to pay back the excess amounts to the affected employees within 2 ½ months following the plan year-end. To avoid making excess contributions, employees should be aware of annual contribution limits and where they currently stand. If the excess amount remains in the Plan beyond 12 months after the year-end in which it occurred, the Plan will need to use the Voluntary Correction Program (VCP) to correct the error which can be costly.
While 401(k) contribution errors do happen, they can be remedied. Employers, Plan Sponsors, and employees should take responsibility and understand the ins and outs of their 401(k) plan to avoid these mistakes. These three contribution errors are among the most common, but the list goes on. By understanding your plan documents, contribution percentages, and limits – you are on the right track for managing a successful 401(k) retirement plan.