SIMPLE-IRAs – E is for ERISA

December 14, 2022

The Unsung Importance of Self-Correction Memos

Self-correction of operational errors arising in qualified retirement plans is a critical means for plan sponsors to retain their plans’ tax-qualified status. Self-correction has been promoted by the Internal Revenue Service as part of the Employee Plans Compliance Resolution System, or EPCRS, for approximately twenty years, but the rules for self-correction have evolved over that time period, and some essential requirements of self-correction are still little understood. One recommended component of self-correction that can tend to be overlooked is preparation of a self-correction memo. Below I describe what a self-correction memo is, and why preparing one is “best practices” – even if EPCRS does not mandate it.

By way of background, the Self-Correction Program or SCP is one of three component programs of EPCRS available to sponsors of qualified plans, 403(b) plans, SEP or SIMPLE IRA plans. (EPCRS is set forth in a Revenue Procedure that is updated periodically; the current version is Revenue Procedure 2021-30. The other component programs are Voluntary Correction Program or VCP, and the Audit Closing Agreement or Audit CAP.) SCP is available for operational failures (failure to operate a plan in accordance with its written terms) and plan document failures (such as failure to timely adopt a required plan amendment). With regard to operational failures, SCP divides them into two categories: “significant” operational failures, and “insignificant” operational failures. Plan document failures are always treated as significant. Insignificant operational failures are eligible for self-correction at any time. Significant operational failures are eligible for self-correction only if the corrections are both discovered and substantially completed by the last day of the third plan year following the plan year for which the failure occurred. Whether or not an operational failure is significant depends upon a number of criteria that are set forth in Revenue Procedure 2021-30, Section 8.02, including the number of affected participants, versus the total number of participants in the plan as of the Plan’s last filed Form 5500, and the amount involved in the operational failure, versus the total assets in the plan per the last-filed Form 5500. SEP and SIMPLE IRA plans may only self-correct insignificant operational errors.

Other requirements of SCP are as follows:

To correct a document failure or a significant operational failure, the qualified plan in question must be the subject of a favorable determination letter (for an individually designed plan) or must be a pre-approved plan that is the subject of a favorable opinion or advisory letter.
In addition, the plan sponsor or plan administrator must have established practices and procedure (formal or informal) that are reasonably designed to promote and facilitate overall compliance with Internal Revenue Code requirements, both in form and operation. This may take the form of annual plan administration procedures or guidelines; the plan document alone will not suffice. For SCP to be available, the procedures must have been in place and routinely followed, and the error must have occurred through an oversight or mistake in applying them. This component of SCP is also often overlooked.

What is a Self-Correction Memo?

A self-correction memo is a written memorandum, ideally signed and dated by a representative of the plan sponsor, that does all of the following: (a) describes a plan sponsor’s eligibility to use SCP; (b) describes the operational or document failure(s) and the method(s) of correction; (c) addresses whether or not the error was significant and if so whether it was substantially corrected within the necessary time period; and (d) assembles, as exhibits, all documentation of the error and its correction. Paragraph headings for a self-correction memo for an operational failure may include the following:

A description of the operational failure
The date that the plan sponsor discovered the operational failure
The fact that a favorable letter is in place
A description of the plan sponsor’s established practices and procedures for compliance with the Internal Revenue Code
A summary of any changes to the plan’s administrative practices designed to prevent the failure from reoccurring
A determination that operational errors were insignificant, or significant, following the criteria set forth in Revenue Procedure 2021-30, Section 8.02
The correction methodology, with citations to approved EPCRS correction methods, if appropriate
The number of affected participants relevant to the number of total participants
The manner in which affected participants were notified of the correction
A recitation of the actual corrections, including dates and amounts, or attached documentation proving same
The bases on which the plan sponsor determined the operational failure to be insignificant, if applicable
If the operational error was significant, the dates on which the correction period began and ended
If the correction involved transferred assets (which increases the time available for correction), the date of the merger, acquisition, or other similar transaction in which the assets were transferred.

Confirming that your operational failure is eligible for self-correction — and preparing the self-correction memo itself – will often require the guiding hand of an ERISA attorney.

Why is a Self-Correction Memo “Best Practices”?

That is a good question, and there is a common-sense answer. There is nothing in the Revenue Procedure 2021-30 specifically requiring that a self-correction memo be created, but it is best practices because it provides ready proof that the plan sponsor qualified for self-correction and completed all correction steps in accordance with EPCRS. Operational and document failures must be disclosed in a plan audit or during due diligence related to a merger or acquisition involving the plan sponsor. Having a self-correction memo and exhibits to hand in such an event is vastly preferable to simply asserting that self-correction was pursued, without being able to prove that SCP was both available to the plan sponsor, and properly completed within the necessary time period. The listing of recommended topics to cover, above, indicates the volume and specificity of information that is required to take advantage of self-correction. Trying to compile this information under the time pressures of a plan audit or due diligence process, when the information may be difficult to locate or reproduce, is a recipe for failure. It is far preferable to document your self-correction process with a memo as you go along, not unlike cleaning up the kitchen as you cook. You’ll thank yourself later.

The above information is a brief summary of legal developments that is provided for general guidance only and does not create an attorney-client relationship between the author and the reader. Readers are encouraged to seek individualized legal advice in regard to any particular factual situation. © 2022 Christine P. Roberts, all rights reserved.
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October 21, 2022November 28, 2022

2023 Retirement Plan Limits Announced

The Internal Revenue Service announced new dollar limits for retirement plans for 2023, with most limits showing a sizeable increase over 2022 amounts. The new annual 401(k) elective deferral limit is $22,500 with a $7,500 catch up for those age 50 or older, permitting $30,000 to be contributed annually, or $5,000 per month. Plan sponsors should also note that the compensation threshold to determine highly compensated employees increases from $135,000, to $150,000, which is measured based on prior year’s compensation. The rest of the new limits are shown below:

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August 31, 2022

CalSavers Scoops Up Micro-Businesses Effective in 2025

Coming close on the heels of expansion of the CalSavers program to businesses with 5 or more employees, which went into effect on June 30, 2022, California Governor Gavin Newsom signed into law a further expansion of the CalSavers program on August 26, 2022, in the form of Senate Bill 1126. Under this new measure, as of December 31, 2025, businesses with one (1) employee or more must either enroll in the CalSavers program, or sponsor a retirement plan.

This sweeps into the CalSavers regime even micro-businesses like home-based Etsy shops, food trucks, and the like. Expressly excluded from the expansion are sole proprietorships, self-employed individuals, or other business entities that do not employ any individuals other than owners of the business (a company that employs two spouses, who each own half of the company’s stock, would be one example).

For these very small businesses, enrolling in CalSavers may be preferable to establishing even the simplest format retirement plan, due to the complexities of administering these plans, and the very inflexible rules for the IRA-based retirement plans (SIMPLE and SEP arrangements). We covered some of the potential pitfalls of setting up a plan in our earlier post.

That said, the financial services industry is increasingly reaching out to smaller employers with app-based service packages that allow a business owner to establish a 401(k) plan online, with “just a few clicks.” No matter how easy it is to establish, a 401(k) plan is still a 50+ page written contract that is governed by two federal agencies (Department of Labor and Internal Revenue Service) and caution is advised. With the proper prior planning, a SIMPLE, SEP, or 401(k) plan can be a powerful means of attracting and retaining employees and a good strategic move for even the smallest business. But knowing what you are getting into, is key. The persons vending the plan services may not be your best source of knowledge as to what can go wrong. Stay on the safe side and check with an expert – either a CPA with retirement plan experience, a 401(k) plan third party administrator, or an ERISA attorney, before you sign plan documentation.

Finally, classifying someone as an independent contractor to avoid the 1-employee threshold is not a good idea in California, where the criteria for independent contractor are quite narrow. If you have questions in that regard, check with the California Department of Industrial Relations, or with a qualified employment law attorney.

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June 6, 2022

The Slippery Slope of SEP and SIMPLE Notification Duties

As the June 30, 2022 CalSavers deadline bears down on employers with five or more California employees, many small employers may be giving thought to adopting a simplified retirement plan, whether a SEP or SIMPLE IRA. Establishment of one of these types of plans is a permissible alternative to participating in CalSavers. There are circumstances where these types of plans are a good fit. However, each of these types of plans imposes participation notification duties that employers often overlook, and noncompliance can put the tax-sanctioned status of the whole arrangement at risk. Below we summarize the relevant rules.

Simplified Employee Pension (SEP) Notification Duties

IRS Form 5305 is often used to establish a SEP. A plan set up via Form 5305 is considered adopted when eligible employees have been provided with:

a copy of the completed, signed, and dated Form 5305-SEP, including the Instructions to Employer and Information to Employee sections;
a statement to the effect that IRAs other than the IRA(s) into which employer contributions will be made may yield different rates of return and may have different terms concerning, among other things, transfers and withdrawals of funds from the IRA;
a statement that notice of any amendment to the SEP, a copy of the amendment and a written explanation of its effects, will be provided within 30 days of the effective date of any such amendment; and
a statement that the employer will provide written notice of contributions made to the plan, by the later of (a) January 31 of the year following the year in which the contribution is made, or (b) the date that is 30 days after the date the contribution is made. This notice duty may be met by reporting the SEP contribution on eligible employees’ Form W-2 for a given year. Failure to provide the notice of contribution may subject the employer to a $50 penalty per failure unless the failure is due to reasonable cause.

This information must be provided thereafter to each new employee who becomes eligible under the SEP.

Additional disclosure duties apply if you are using a prototype SEP arrangement, rather than Form 5305-SEP, including special disclosures for plans under which contributions are integrated with Social Security. Providing eligible employees with a copy of the SEP agreement will meet many of the disclosure requirements, but employers should check with the prototype SEP sponsor to confirm that they will timely supply your business with all necessary additional disclosures. Annual contribution reporting through Form W-2 is the same.

Savings Incentive Match Plan for Employees (SIMPLE IRAs)

Notification duties under a SIMPLE plan are more complicated than under a SEP due to the employee elective deferral feature. Also, there are two model SIMPLE forms in use, Form 5304-SIMPLE and Form 5305-SIMPLE. Form 5304-SIMPLE is used when all IRAs are established with a single designated financial institution, and Form 5305-SIMPLE is used when participants select their own IRA provider.

For an existing SIMPLE IRA plan, eligible employees must receive a Summary Description and Notification to Eligible Employees before the start of a 60-day election period. Since all SIMPLE plans must be on a calendar plan year, including those set up using Forms 5304- or 5305-SIMPLE, the plan year must be the calendar year. Therefore the 60-day election period runs from November 2 through December 31, and the notice must be provided before November 2 each year. Provision of a current copy of the completed Form 5304-SIMPLE or 5305-SIMPLE, with instructions, will satisfy both disclosure duties if Article VI – Procedures for Withdrawals, is completed. When Form 5304-SIMPLE is in use, the custodian or trustee may provide the Article VI information directly to the employees; employers should confirm that the custodian/trustee is timely meeting this disclosure duty, however.

For a new SIMPLE IRA plan or for a new hire who becomes eligible, the Model Salary Reduction Agreement that comprises part of Forms 5304- and 5305-SIMPLE must be provided prior to the 60-day period that includes either the date the employee becomes eligible or the day before. The employee must be able to commence elective deferrals as soon as they become eligible, regardless of whether the 60-day period has ended, but no earlier than the plan’s effective date. Certain special notification and election period rules apply when an employee becomes an eligible employee other than at the beginning of a calendar year, including when an employee is rehired during a plan year.

How to Deal with SEP and SIMPLE Mishaps

If you have not timely met your SEP notification duties as outlined above, you should consult an ERISA attorney.

If you have not timely met your SIMPLE-IRA plan notification duties as outlined above, you can fix the problem by following the steps outlined in the SIMPLE IRA Plan Fix-It Guide. Self-correction may be an option if you had practices and procedures in place to timely provide the notice but failed to follow them, and other pre-requisites to self-correction have been met. Otherwise, you may need to use the Voluntary Correction Program to fix the problem. This will generally require the involvement of an ERISA attorney.

In addition to notification duties, SIMPLE plans are subject to rules regarding timing of deposit of employees’ elective deferrals. Elective deferrals must be deposited with the IRA custodian or trustee within the 30-day period following the last day of the month in which the amounts otherwise would have been payable in cash to employees.

If elective deferrals are not timely deposited, the Department of Labor (DOL) may have to be contacted to correct the problem. Why is this necessary? To avoid potential employer liability for civil penalties, and in some cases involving missed or late elective deferrals, criminal penalties.

Special rules, not addressed above, may apply to plan documents not established using the IRS forms mentioned in this post.

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November 4, 2021November 17, 2021

IRS Announces 2022 Retirement Plan Limits

On November 4, 2021, the IRS announced 2022 cost-of-living adjustments for annual contribution and other dollar limits affecting 401(k) and other retirement plans. The maximum annual limit on salary deferral contributions to 401(k), 403(b), and 457(b) plans increased $1,000 to $20,500, but the catch-up contribution limit for employees aged 50 and older stayed the same at $6,500. That raises the total deferral limit for a participant aged 50 or older to $27,000. The Section 415(c) dollar limit for annual additions to a retirement account was increased to $61,000 from $58,000, and the $6,500 catch-up limit increases that to $67,500 for participants aged 50 or older. In addition, the maximum limit on annual compensation under Section 401(a)(17) increased to $305,000 from $290,000, and the compensation threshold for Highly Compensated Employees increased to $135,000, from $130,000. Other dollar limits that increased for 2021 are summarized below; citations are to the Internal Revenue Code. Unchanged were the annual deductible IRA contribution and age 50 catch-up limit ($6,000 and $1,000, respectively), and the age 50 SIMPLE catch-up limit of $3,000. In a separate announcement, the Social Security Taxable Wage Base for 2022 increased to $147,000 from the prior limit of $142,800 in 2021.

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May 10, 2021December 20, 2021

How Employers With 51 -100 Employees Can Meet Their CalSavers Deadline

The CalSavers Program applies to employers that do not maintain a retirement plan. It automatically enrolls eligible employees in a state-managed system of Roth IRA accounts. June 30, 2021 is the deadline by which employers with 51 to 100 California employees must either establish that they are exempt from CalSavers (for instance, because they have their own plan) or enroll in the program. Employers with more than 100 California employees were required to enroll by September 30, 2020.

Although under legal attack for some time, on the grounds that the federal benefits law, ERISA, prohibited a state-run retirement program, the CalSavers program was just upheld by the Ninth Circuit Court of Appeals. Money penalties apply to employers who don’t timely either establish their exempt status, or participate in the program. Below is a how-to for employers in the 51+ group, who have approximately six weeks until their CalSavers deadline arrives:

Already have a retirement plan (including a SEP or SIMPLE)? Register to certify your exemption. The link is here. You will need your federal Employer Identification Number or Tax Identification Number and an access code that is provided on a notice you should have received from CalSavers via email or snail mail. If you can’t find your notice, call (855) 650-6916.
Don’t have a retirement plan? Consider establishing one in the time period left. IRS Publication 560 contains information about setting up a SEP, SIMPLE, or a 401(k) plan for your small business. Investment advisors to your business and even business CPAs can also help. Don’t do it on your own, get expert advice as your choice of plan will have consequences!
Don’t have a plan and don’t want one? Register with CalSavers. Again, you need your EIN, or TIN, and an access code. If you don’t have an access code you can request one using this link. After you register, you will have 30 days to upload your employee roster and facilitate payroll contributions. If you use an outside payroll provider, you will need to add them as your payroll representative. More information on adding payroll representatives is provided once you register.
Need more information about counting employees towards the 51 employee threshold? Check out our prior blog post on the topic, which includes a discussion of use of staffing companies and the like, and also visit the CalSavers FAQ re eligibility.

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December 22, 2016February 15, 2021

State Auto-IRA Programs: What Employers Need to Know

California and four other states (Connecticut, Illinois, Maryland and Oregon) have passed legislation requiring employers that do not sponsor employee retirement plans to automatically withhold funds from employees’ pay, and forward them to IRAs maintained under state-run investment programs. Provided that these auto-IRA programs meet safe harbor requirements recently defined by the Department of Labor in final regulations, the programs will be exempt from ERISA and employers cannot be held liable for investment selection or outcome. The DOL has also finalized regulations that would permit large cities and other political subdivisions to sponsor such programs where no statewide mandate exists; New York City has proposed its own such program, tentatively dubbed the New York City Nest Egg Plan.

In light of this growing trend, what do employers need to know about auto-IRA programs? Some key points are listed below:

Some Lead Time Exists. Even for state auto-IRA programs that become effective January 1, 2017 (e.g., in California and Oregon), actual implementation of employee contributions is pushed out to July 1, 2017 (in Oregon) and, in California, enrollment must wait until regulations governing the program are adopted. The California program, titled the California Secure Choice Retirement Savings Program, also phases in participation based on employer size. Employers with 100 or more employees must participate within 12 months after the program opens for enrollment, those with 50 or more within 24 months, and employers with fewer than 50 employees must participate within 36 months. These deadlines may be extended, but at present the earliest round of enrollment is anticipated to occur in 2019.
Employer Involvement is Strictly Limited. The DOL safe harbor prohibits employer contributions to auto-IRAs and requires that employers fulfill only the following “ministerial” (clerical) tasks:
- forwarding employee salary deferrals to the program
- providing notice of the program to the employees and maintaining contribution records
- providing information to the state as required, and
- distributing state program information to employees. Note that in California, the Employment Development Department will develop enrollment materials for employers to distribute, and in addition a state-selected third party administrator will collect and invest contributions, effectively limiting the employer role to forwarding salary deferrals.
Employers Always Have the Option of Maintaining their Own Plan. Generally the state auto-IRA programs established to date exempt employers that maintain or establish any retirement plan (401(k), pension, SEP, or SIMPLE), even plans with no auto-enrollment feature or employer match used to encourage employee salary deferrals. Therefore employers need not be significantly out of pocket (other than for administrative fees) to avoid a state auto-IRA mandate. Employers should bear in mind that an employer-sponsored retirement program, even if only a SEP or SIMPLE IRA, helps to attract and retain valued staff, and should consider establishing their own plan in advance of auto-IRA program effective dates for that reason.
Penalties May Apply. California’s auto-IRA program imposes a financial penalty on employers that fail to participate. The penalty is equal to $250 per eligible employee if employer failure to comply lasts 90 or more days after receipt of a compliance notice; this increases to $500 per employee if noncompliance extends 180 or more days after notification. The Illinois auto-IRA program imposes a similar penalty.
Voluntary Participation in Auto-IRA Program May Create an ERISA Plan. One of the requirements of the DOL safe harbor is that employer participation in auto-IRA programs (referred to as “State payroll deduction savings programs” be compulsory under state law. If participation is voluntary, an employer will be deemed to have established an ERISA plan. In theory, this rule could be triggered when an employer that was mandated to participate later drops below the number of employees needed to trigger the applicable state mandate (for instance, a California employer that drops below 5 employees), but continues to participate. The DOL leaves it to the states to determine whether participation remains compulsory for employers despite reductions in the number of employees. The DOL also notes that, under an earlier safe harbor regulation from 1975, an employer that is not subject to state mandated auto-IRA programs can forward employees’ salary deferrals to IRAs on their behalf without triggering ERISA, provided that the employee salary deferrals are voluntary and not automatic. The DOL final regulations can be read to suggest that a payroll-to-IRA forwarding arrangement that is voluntary and that meets the other requirements of the 1975 safe harbor will constitute a pre-existing workplace savings arrangement for purposes of exempting an employer from a state-mandated auto-IRA program.
The Trump Administration Will Likely Support Auto-IRA Programs. Early and necessarily tentative conclusions are that the Trump Administration will continue to support the DOL’s safe harbor regulation exempting auto-IRA programs from ERISA, as well as other state-based efforts to address the significant savings gap now known to confront much of the country’s workforce. One unknown variable is the degree to which the Trump Administration will be influenced by opposition to the programs mounted by the financial industry. Until the direction of the Trump Administration becomes clearer, employers that do not currently maintain a retirement plan should track auto-IRA legislation in their state or city and otherwise prepare to comply with a state or more local program in the near future, ideally by adopting their own retirement plan for employees.