Retirement plans are complicated beasts.
The Pension Protection Act of 2006 was more than 1,000 pages long; one of the
main reference books that retirement plan professionals use is more than 7,000
pages long; and there are countless other sets of rules and regulations that add
tens of thousands more pages. All those pages mean a lot of moving parts, and
all those moving parts mean that sooner or later, something is going to fall
through the cracks no matter how much attention to detail is paid.
Fortunately, the IRS recognizes that honest mistakes sometimes happen, and
they have established a program that allows for correction of those mistakes. It
is called the Employee Plans Compliance Resolution System or EPCRS.
A Brief History
The IRS established the first correction program back in 1991. Over the next
several years, it created several other programs for different types of plans
and errors. Finally in 1998, all of the various programs were consolidated into
EPCRS. Since then, the IRS has updated the program nine times, adding new
corrections and adjusting methodologies along the way. Not only does this 20+
year history show the IRS commitment to voluntary correction, but it has also
resulted in a mature program that provides many practical solutions.
Overview of EPCRS
The program is divided into three main parts—the Self Correction Program
(SCP), the Voluntary Correction Program (VCP) and the Audit Closing Agreement
Program (Audit CAP). SCP allows plan sponsors to correct certain types of
mistakes on their own without seeking formal approval from the IRS, while VCP
requires other types of corrections to be submitted to the IRS for its review
and approval. In other words, these first two components are focused on helping
plan sponsors identify and fix errors before the IRS gets involved.
Audit CAP, on the other hand, deals with the correction of mistakes once the
plan is under IRS audit. Since it is preferable to address any issues before the
IRS comes knocking, the remainder of this article will focus on SCP and VCP.
Before getting into some of the specifics of how SCP and VCP work, it is
helpful to understand some of the general principals of EPCRS. Essentially, the
program is designed to place plan participants in the position they would have
been in had the error in question not occurred in the first place. This may
involve making additional contributions, revising compliance testing or
reversing improper payouts.
EPCRS does include a number of sample corrections; however, it also offers
the flexibility to craft custom fixes in unique situations or when one of the
samples is not practical. One question that comes up from time to time is what
to do about errors that go back multiple years. Although it can be inconvenient,
EPCRS does require that full correction be made, including errors that may go
back multiple years.
Types of Failures
EPCRS defines the following four broad categories of failures:
Operational Failures: By far the most common category, an operational failure
is simply a failure to follow the terms specified in the plan documents. In
other words, it is an error to operate the plan in a manner that is in any way
inconsistent with its provisions, even if you are being more generous.
Plan Document Failures: This type of failure occurs when a plan document does
not include certain mandatory language and often arises when a plan sponsor does
not timely update its plan document after a law change.
Employer Eligibility Failures: When a company sponsors a type of plan it is
not permitted to have, an employer eligibility failure occurs. An example of
this would be a for-profit company sponsoring a 403(b) plan since those plans
can only be sponsored by certain tax exempt organizations and public schools.
Demographic Failures: Last but not least is the failure to satisfy certain
nondiscrimination tests such as the minimum coverage test.
The type of failure is an important factor in determining which part of EPCRS
can be used. For example, SCP only allows for the correction of operational
failures. All other failures must be corrected using VCP.
Self Correction Program
As discussed above, SCP allows plan sponsors to correct certain operational
failures on their own, without submitting anything to the IRS for approval. For
operational failures that are insignificant, there is an unlimited time frame
for using SCP, even if the plan is being audited.
Significant failures, however, can only be corrected via SCP within two years
following the year of the failure. In other words, a significant operational
failure that occurs in 2013 would have to be corrected no later than December
31, 2015. If not corrected by that date, SCP is no longer available, leaving VCP
as the only option. There are also limitations on when SCP can be used to
correct significant failures once the plan is under IRS audit.
You are probably wondering who gets to make the call on significance. The
answer is the IRS; however, they do provide some factors to consider. These
include such items as the number of participants affected by the failure, the
amount of plan assets/contributions involved relative to total plan assets and
whether other failures occurred.
Although there is no formal approval process, it is strongly recommended that
any SCP corrections be well-documented so there is clear proof in the event of a
subsequent IRS audit.
Voluntary Correction Program
VCP allows for the correction of all types of errors at any time but, as we
will discuss in this section, it includes a formal process for requesting IRS
approval. One advantage is that while there is a properly submitted request
pending, the failure in question becomes off limits if the plan is selected for
audit. However, if the IRS audits the plan before the request is submitted, the
plan can no longer use VCP.
Although the VCP process is usually straightforward, it can be a lengthy
process and there are some traps for the inexperienced. Even the streamlined
version of VCP requires a great deal of supporting documentation. Basically, the
VCP package must include several IRS forms that require a narrative description
of the failure(s) that occurred as well as the steps that have been taken to
If the correction requires calculations, the package should include, at a
minimum, a description of the calculations, and sometimes the IRS will request a
detailed participant-by-participant breakdown to confirm that all have been made
Other items that must generally be included are copies of the plan document,
any amendments, applicable nondiscrimination test results and the most recently
filed Form 5500.
The IRS charges a fee to review the VCP application, based on the number of
participants reported on Form 5500.
Number of Participants
20 or fewer
21 - 50
51 - 100
101 - 500
501 - 1,000
1,001 - 5,000
5,001 - 10,000
On receipt of the application, fee payment and supporting documentation, the
proposed correction is assigned to an agent for review, which may include
requests for clarification or additional information. Once the review is
complete, the IRS issues a compliance statement indicating its acceptance of the
correction. Sometimes, the review process is as short as three or four months
but, other times, it can take a year or more, depending on the complexity of the
situation and IRS workload.
Sample Corrections for Common Failures
Exclusion of Eligible Employee from making 401(k)
Every now and then, a plan sponsor may overlook an employee who has met plan
eligibility requirements or may forget to implement a deferral election. The
correction is for the employer to make a contribution on the employee's behalf
to compensate him or her for the missed deferral opportunity. To the extent
there was a matching contribution, that amount must be made up as well.
The first step is to determine the missed deferral opportunity based on the
type of plan and the circumstances involved.
Missed Deferral Opportunity
Election not implemented
Actual amount of election
Traditional 401(k) Plan
Average of group, i.e., HCE or
3% or amount subject to 100%
50% of limit
Safe Harbor Match
3% or amount subject to 100%
Safe Harbor Nonelective
Qualified Automatic Contribution Arrangement
Based on escalation schedule
*Highly Compensated Employee or
Non-Highly Compensated Employee
The second step is to calculate the corrective contribution based on the
missed deferral opportunity from step #1 and the type of deferrals in question.
50% of MDO
50% of MDO
40% of MDO
Match formula x MDO
*Qualified Nonelective Contribution
The contribution along with an additional amount to compensate for lost
investment gains are then deposited into the participant's account in the plan.
If the error is insignificant or is discovered and corrected within two
years, the correction can be made using SCP. On the other hand, if the error is
significant and is beyond the two-year correction window, the details of the
correction should be submitted to the IRS for approval under VCP.
Failure to Timely Update Plan Document for Law Changes
When Congress passes new laws that impact the retirement plan rules or the
IRS/DOL update regulations, it is usually necessary to amend plan documents to
reflect those changes, and there are specific time frames in which those
amendments must be adopted. Occasionally, a plan will miss the deadline, causing
a plan document failure.
Since SCP can only be used to correct operational failures, this failure must
be corrected via VCP. The plan sponsor simply adopts the required amendment and
submits it to the IRS along with copies of any related plan documents. Depending
on the nature of the missed amendment(s), the plan sponsor may be eligible for a
reduced user fee of $375 rather than the fee based on the number of plan
EPCRS is an invaluable tool for correcting plan failures before the IRS finds
them. Although many plan corrections appear straightforward, it is important to
work with an experienced professional when going through the plan correction
process to make sure that fixing one error doesn't accidentally create another.
With more than 20 years and 33,000 corrections under its belt, EPCRS will
continue to evolve to allow plan sponsors to bring their plans back into
This newsletter is intended to provide general
information on matters of interest in the area of qualified retirement plans and
is distributed with the understanding that the publisher and distributor are not
rendering legal, tax or other professional advice. Readers should not act or
rely on any information in this newsletter without first seeking the advice of
an independent tax advisor such as an attorney or CPA.