Someone with discretionary authority over an organization’s 401(k) plan administration, is considered a “Fiduciary.” A fiduciary has many administrative responsibilities and must perform them with diligence and prudence. They are responsible for acting in the best interest of plan participants and beneficiaries, and as such, they are held to very strict standards of conduct. Failure to understand these responsibilities can lead to administrative errors which can result in personal liability, fines, or plan disqualification. If you are a fiduciary, the best way to prevent these costly errors is to understand how they happen and how to fix them promptly. Here, we’ve outlined seven of the most common issues with 401(k) plans and best practices for correction and prevention.
1. Failure to use the plan definition of compensation correctly for all deferrals and allocations. To fix this issue, you must make corrective contributions, reallocations, or distributions. To avoid this issue, perform annual reviews of compensation definitions and ensure that whoever is responsible for determining compensation is properly trained to understand the plan document.
2. Employer matching contributions weren’t made to all appropriate employees. Correcting this error requires applying a reasonable correction method that would put affected participants in the same position they would have been in if matching contributions were made to eligible employees according to plan terms. To prevent this error from occurring, contact your TPA to ensure that they have adequate employment and payroll records to make calculations. If your payroll is calculating the match, ensure they are notified as soon as an individual is eligible to receive a match so they are properly set up with your payroll service.
3. The plan failed the 401(k) ADP and ACP nondiscrimination tests. Fixing this error requires returning excess contributions or making a qualified nonelective contribution for the non-highly compensated employees. Consider a safe harbor plan design to prevent this issue from occurring or an automatic enrollment feature to minimize the returns required. Communicate with your TPA to ensure proper employee classification and compliance with plan terms.
4. Eligible employees weren’t allowed to make an elective deferral (also known as the exclusion of eligible employees). To correct this error, make a qualified nonelective contribution for the employee(s) that compensates for the missed deferral opportunity. To avoid this issue, monitor census information and apply participation requirements.
5. You haven’t timely deposited employee elective deferrals. Usually, this is corrected through the DOL’s Voluntary Fiduciary Correction Program. You may also need to correct it through the IRS correction program. You must deposit all elective deferrals withheld and earnings resulting from the late deposit into the participant’s accounts. To prevent this error, coordinate with your payroll provider to determine the earliest date you can reasonably segregate the deferral deposits from general assets. Set up procedures to ensure that you make deposits by that date. For employers with less than 100 Employees the Safe Harbor timing for making deposits is within 7 business days of the funds being withheld from employees paychecks.
6. Participant loans don’t conform to the requirements of IRC Section 72(p) or are prohibited transactions under IRC Section 4975. You may correct some mistakes by corrective repayment and/or modification of loan terms. Self-correction is available under the Voluntary Correction Program. To prevent this issue, review each participant loan, including the loan amount, term of the loan, and repayment terms. Ensure that there are procedures in place to prevent loans that are prohibited transactions under IRC Section 4975 or that don’t comply with IRC Section 72(p).
7. The plan was top-heavy and the required minimum contributions weren’t made to the plan. To correct this error, properly contribute and allocate the required top-heavy minimum, adjusted for earnings, to the affected non-key employees. This issue can be prevented by performing a top-heavy test each year.
While this list is certainly not all-inclusive, familiarizing yourself with these issues is a good place to start. If you have more questions about other common errors or how to remain vigilant in your fiduciary duties, we want to be of service. Let us know how we can help you manage your retirement plan.