Long-Term, Part-Time Employees New Rules under the SECURE Act

The Setting Every Community Up for Retirement Enhancement Act of 2019 (SECURE Act) generally requires that 401(k) plans allow long-term, part-time (LTPT) employees to become eligible to make elective deferrals (i.e., 401(k) contributions) upon completion of at least 500 hours of service during each of three consecutive 12-month periods. Under the new law, service prior to January 1, 2021 is not considered for this purpose. This means that any such employees will not be required to be eligible to make deferrals until the plan year beginning on January 1, 2024 (for calendar year plans).

Important Note:  The new rules do not have any impact on 401(k) plans that otherwise cover part-time employees or plans that provide immediate eligibility for all employees.

What rules apply to part-time employees currently?

First, as a matter of plan qualification, an employer cannot exclude a class of employees solely based on service, e.g., part-time employees. As a result, if a plan excludes part-time employees as a class, it must also include “fail safe” language providing that a part-time employee will nevertheless become eligible for the plan upon completion of a year of service (i.e., 1,000 hours during a 12-month period) and attainment of age 21. This is because basing a class exclusion on service could violate the minimum coverage standards under the Internal Revenue Code.

An employer may, however, exclude employees (including part-time employees) under some other reasonable classification that is not based on service, e.g., location, job title, etc.  In that case, the plan would have to be able satisfy the coverage rules annually taking into consideration the excluded class.

What are the new rules for part-time employees?

The purpose of the new rules is to expand coverage of part-time workers under 401(k) plans. As result, they address LTPT employees who work for the employer year after year, but less than 1,000 hours per year. Specifically, the new rules require that LTPT employees become eligible to make deferrals under the plan after satisfying the following requirements:

  • Completion of three consecutive 12-month periods with 500 or more hours of service in each of those 12-month periods, and
  • Attainment of age 21.

As mentioned above, service prior to January 1, 2021 is excluded for this purpose, so the first date a LTPT employee could become eligible to make deferrals under a calendar year 401(k) plan is January 1, 2024. The new rules generally apply to all LTPT employees except for employees who are covered under a collective bargaining agreement (i.e., union employees), and nonresident aliens with no U.S. source income.

When would a LTPT employee enter the plan after satisfying the maximum eligibility requirements?

A LTPT employee would generally become eligible to make 401(k) deferrals on the entry date provided for under the terms of the plan document for other eligible employees. For example, assume a plan allows eligible employees to enter the plan on the January 1 or July 1 coinciding with or next following the date an employee satisfies the eligibility conditions. In that case, a LTPT employee who is 21 (or older) and completed 500 (or more) hours of service during 2021, 2022 and 2023 would become eligible to make deferrals under the plan on January 1, 2024.

Does this mean LTPT’s have to receive employer contributions?

No. Under the new rules, the requirement is that a LTPT employee who has satisfied the maximum eligibility conditions must become eligible to make 401(k) elective deferrals. There is no requirement that they become eligible for employer contributions under the plan.

As a result, if LTPT employees are eligible to make deferrals under the plan solely because of the new requirements (e.g., the plan would not otherwise permit plan participation), the employer is not required to provide any employer contributions on behalf of such participants, including top-heavy minimum, gateway minimum, and safe harbor contributions (where applicable).

Are LTPT’s required to be included in testing?

No. If LTPT employees are eligible to make deferrals under the plan for no reason other than the new rules, they would be excluded from coverage and nondiscrimination testing, including ADP/ACP testing and general nondiscrimination testing.

Further, as discussed above, eligible LTPT employees would not be required to receive top-heavy minimum contributions (if applicable). Their balances would be included when determining the plan’s top-heavy ratio.

Important Note:  As mentioned previously, if the plan’s eligibility provisions are more liberal and LTPT employees are eligible for reasons other than the new rules, e.g., the plan has immediate eligibility, the exceptions to the testing and top-heavy rules would NOT apply, i.e., the part-time employees would be included in testing, required to receive top-heavy minimum contributions (if applicable), etc.

What happens if a LTPT employee works 1,000 (or more) hours during a plan year after becoming eligible to make deferrals under the plan?

If a LTPT employee completes a year of service (1,000 hours during a 12-month period), he or she will no longer be considered a LTPT employee effective as of the first day of the following plan year. The Employee would be treated in the same manner as a “regular” participant and included in testing, eligible to share in employer contributions (where applicable), etc.

What happens if a full-time employee changes to part-time status and would otherwise be considered a LTPT employee?

When a full-time employee changes to part-time status, their prior service cannot be disregarded. As a result, they would continue to remain eligible for the plan (in the same manner as they did prior to the change in employment status), unless they were excluded under some other classification in the plan document.

Are there special vesting rules that apply to LTPT employees?

Yes. If an employer provides employer contributions on behalf of LTPT employees who are eligible to make deferrals for no reason other than the new rules, special rules do apply. Under these rules, a LTPT employee must be credited for ALL years of service in which the employee completed 500 hours of service (the normal rule is 1,000 hours of service). The law does NOT exclude service prior to January 1, 2021 for this purpose.

Obviously, this has no impact on 401(k) elective deferrals (since they must be 100% vested). If an employer wants to avoid the special vesting rules all together, they could elect to only allow LTPT employees to make elective deferrals (i.e., not permit employer contributions), or they could elect to use more liberal eligibility provisions.

Could LTPT employees be excluded from the plan under some other classification?

This answer is not entirely clear; the IRS has not yet issued specific guidance. Currently, it would appear this would be permissible, provided the class exclusion is based on something other than service, e.g., all employees (full-time and part-time) in the Miami office are excluded from participation.

Are the LTPT employees counted as participants on the Form 5500 for purposes of determining whether a plan must file as a large or small plan filer?

This is unclear. Based the definition of a participant in the Form 5500 instructions, it would appear they will be counted for this purpose unless the Department of Labor provides an exception to the general rules. Given that the rules will not have an impact until the 2024 plan year, we are hopeful the DOL will issue guidance on this point shortly.

Do the new rules apply to 403(b) plans?

No. The new rules do not apply to 403(b) plans, as those plans generally cannot impose eligibility conditions on an employee’s ability to make elective deferrals (known as the “universal availability” rules).

If my company employs LTPT employees, are there any actions we should take now?

If you have long-term, part-time employees, you need to make sure you have good records in terms of their employment history and hours worked. Further, it would be advisable to review your plan’s current eligibility provisions with your third-party administrator and professional advisors to determine how the new rules may impact your plan. Changes to payroll providers or Human Resource systems may make it difficult to produce this history, so make sure to provide you third-party administrator with this information annually.

How can I learn more about the new rules?

Please contact EJReynolds, Inc. to learn more about these rules and how they may impact your plan and plan participants.

Important 401(k) Testing Deadlines to Remember!

Since most 401(k) plans have a calendar year plan year end, now is the best time to review testing deadlines for the upcoming Plan Year. In general, 401(k) plans must be tested annually to demonstrate that they do not discriminate in favor of highly compensated employees or provide benefits that exceed certain statutory or regulatory limits. If a plan “fails” any of the required tests, the plan sponsor must take corrective actions, and there are established deadlines for correcting certain failures.

The following is a brief summary of these deadlines:

  • March 15th – Deadline for issuing corrective distributions to correct ADP/ACP testing failures. Of course, this does not apply to Safe Harbor 401(k) plans, as those automatically satisfy the ADP/ACP testing.

In general, corrective distributions must be issued within 2 ½ months following the close of the plan year to avoid a 10% excise tax imposed on the excess amounts. Plan sponsors of 401(k) plans that include an automatic enrollment feature that satisfies certain requirements have up to 6 months to issue corrective distributions without incurring the excise tax.

In either situation, correct distributions must be issued no later than the last day of the plan year following the plan year in which the testing failure occurred to protect the qualified status of the plan.

  • April 15th – Due date for issuing corrective distributions for excess deferrals (i.e. participant deferrals made in excess of 402(g) limit –  $19,500 for 2021). If the excess amount, plus related earnings, is not distributed by this date, the participant is in effect taxed on the excess amount twice, both in the year the excess occurred and the year of the distribution. (Note: This deadline is the same, regardless of plan year).
  • June 30th – Extended due date for issuing corrective distributions for ADP/ACP testing failures under “eligible automatic contribution arrangement” 401(k) plans; the 10% excise tax applies to distributions made after this date.
  • October 15th – Deadline for adopting a retroactive plan amendment to correct a coverage or nondiscrimination testing failure (if applicable). The amendment must be adopted no later than 9 ½ months following the close of the plan year in which the failure occurred, as provided for under specific applicable regulations.
  • December 31st – Final deadline for issuing corrective distributions for ADP/ACP testing failures for the prior year (or for making a Qualified Non-Elective Contribution/Qualified Matching Contribution to correct the failure).

The deadlines 401(k) plan sponsors must observe are numerous and complex; the deadlines listed above are not meant to be comprehensive, but rather, represent critical dates related to the correction of specific plan testing failures.

Please contact our Plan Consultants to learn more about how these rules impact your plan and participants!

Solo (k) Plans

Are you a Small Business Owner? Are you Self-Employed? The same retirement plan options available to companies with 10, 20 or 200 employees are also available for your business. Many Small Business Owners may be more familiar with a Simplified Employee Pension (SEP) IRA. With a SEP you can deduct up to 25% of your earned income. However, it may make sense to look at a one-participant 401(k) plan. This combines a traditional employee retirement savings plan with a small business profit-sharing plan. This may make for a larger overall deduction comparable to the same earned income.

Contribution limits in a one-participant 401(k) plan – The business owner wears two hats in a 401(k) plan: employee and employer. The owner can contribute both:

  • Elective deferrals which reduce compensation (“earned income” in the case of a self-employed individual) up to the annual contribution limit:
    • $19,500 in 2020 ($19,500 in 2021), or $26,000 in 2020 ($26,000 in 2021) if age 50 or over; plus

  • Employer contributions up to:
    • 25% of compensation, as defined by the plan, with special calculations for sole-proprietor and partnership entities

Total contributions to a participant’s account, not counting catch-up contributions for those age 50 and over, cannot exceed the lessor of: 100% of compensation, or $57,000 for 2020; ($58,000 for 2021). In addition, the 401(k) limit on elective deferrals is an individual, calendar year limit, not a limit for each plan. If a business owner is also employed by another company and participates in its 401(k) plan, the total of all elective deferrals cannot exceed the annual contribution limit.

Contribution limits for self-employed individuals – If the business entity is a sole-proprietor or partnership, a special computation must be made to determine the maximum employer contribution. When calculating the contribution, it is a circular calculation. Compensation, or “earned income,” is the net earnings from self-employment after deducting both your share of the employer allocation and one-half of your self-employment tax.

Note: The IRS Publication 560 provides rate tables and worksheets for figuring your allowable contribution rate and tax deduction for your 401(k) plan contributions.

Testing in a one-participant 401(k) plan – A business owner with no common-law employees doesn’t need to perform nondiscrimination testing for the plan, since there are no employees who could have received benefits under the plan. The no-testing advantage vanishes if the employer hires employees. If the business hires employees, the plan must satisfy all coverage and non-discrimination requirements as any other 401(k) plan, once they become eligible.

Note: The Plan Document should be flexible enough to protect the employer if employees are hired in the future.

Deadline for Establishment of Plan – The SECURE Act of 2019 allows a qualified plan to be established up until the deadline of the return for which the deduction is taken, however, it did not extend the deadline for which income may be deferred in a 401(k) plan. Thus, a Solo-k plan established after the end of the 2020 Calendar Year would only allow employer profit sharing contributions, as any 401(k) deferrals may only be deducted from income earned in 2020. Deferrals deducted from income in 2021 would be reported on the 2021 tax return. There are some limited cases with Sole-proprietorships or Partnerships that may allow deferrals after the tax year, but for the most part, deferrals must be deducted from earned income in the year the deduction is taken.

Reporting Requirements (Form 5500) – If plan assets exceed $250,000 at the end of a plan year, the plan will be required to file a Form 5500-EZ, or Form 5500-SF until the plan is terminated and all assets are disbursed.  A one-participant 401(k) plan with fewer assets is exempt from the annual filing requirement. When determining the $250,000 threshold, all plans of the entity are considered; if you sponsor more than one plan, the filing requirement starts when the sum of the assets combined in all plans exceeds $250,000 at year-end.

Note: Failure to file Form 5500 when required can result in substantial penalties on audit.

Most Small Business Owners are familiar with a SEP IRA. Planning for retirement with a 401(k) plan can offer a great degree of flexibility. The basics start with a 401(k) plan; and adding a defined benefit pension plan can greatly increase the potential tax deduction available to a successful business owner. Whether you are adopting a plan for the first time, or have one that needs cleaning up, EJReynolds is here to help.

New 2021 IRS Retirement Plan Limits Announced

The Internal Revenue Service publishes, on a yearly basis, certain Pension Plan Limitations for the coming year. We have outlined the most commonly applied limits for your reference.

Maximum Defined Contribution Annual Additions Limit:  

In a Defined Contribution Plan, which includes Profit Sharing and 401(k) Plans, the Internal Revenue Code sets limits on contributions made to a participant’s account.  The Code uses the term “annual additions” which represents both employee and employer contributions as well as reallocated forfeitures.  Effective January 1, 2021, the annual dollar limit for defined contribution plans is the lesser of 100% of compensation or $58,000.  

Maximum Defined Benefit Limit: 

Ultimate benefit that may be funded for at retirement.  Effective January 1, 2021, the annual dollar benefit under a defined benefit pension plan is the lesser of 100% of compensation or $230,000.

Annual Compensation Limit:

Effective January 1, 2021, the annual compensation limit is $290,000.  Compensation in excess of the limit will be disregarded for all computation purposes.

Key Employee defined for Top Heavy determination: 

1. A 5% owner, without regard to compensation, or

2. 1% owner whose annual compensation is over $150,000, or

3. Officers with annual compensation in excess of $185,000.

Highly Compensated Employee (HCE) defined for 401(k) / 401(m) testing:

1. A 5% owner of an Employer or an Affiliate in the current or the immediately preceding plan year, or

2. Any employee earning more than $130,000 in 2020 ($130,000 for 2021)

3. Constructive ownership rules apply attributing ownership to spouses and lineal ascendants and descendants (parents, grandparents, children and grandchildren) of the owner in both of the above employee definitions.

Maximum Limit on 401(k) Elective Deferral Contributions:

A participant’s elective deferral contributions under all 401(k) plans in which he or she participates during any taxable year is $19,500 for the 2021 Calendar Year. 401(k) plans may permit participants who have reached age 50 by the end of the plan year to make annual catch-up contributions once the annual dollar limit or a plan-imposed limit on elective deferrals has been reached.  For calendar year 2021, the limit is $6,500.

Maximum Limit on SIMPLE 401(k) or SIMPLE IRA Deferral Contributions:

A participant’s elective deferral contributions under a SIMPLE 401(k) plan or SIMPLE IRA account in which he or she participates during the year is $13,500 for the 2021 Calendar Year. Participants who have reached age 50 by the end of the plan year to make annual catch-up contributions once the annual dollar limit or a plan-imposed limit on elective deferrals has been reached.  For calendar year 2021, is $3,000.

Taxable Wage Base:

The Taxable Wage Base for 2021 is $142,800.

Please call us with any questions you may have. For a printable version of the plan limits, click here.

Defined Contribution Restatement Cycle 3 Has Arrived.

Qualified retirement plans—including profit sharing, money purchase, and 401(k) plans—receive special tax benefits by meeting requirements set forth by the IRS and Department of Labor. Many of these plans operate under a pre-approved plan document that is recertified by the IRS every six years. What were formerly called “Prototype Plans”, the IRS requires Pre-Approved Documents to be restated on a uniform six year cycle. A new six-year cycle, called Cycle 3, has begun. The restatement period runs from August 1, 2020 through July 31, 2022. The six-year restatement cycle helps to keep plans from becoming too burdened with separate interim “good faith” amendments that may have been added to the plan document over many years of operation. Restatement provides a great opportunity to implement discretionary changes in addition to updating your plan document with mandatory legislative updates. During restatement, our dedicated Plan Consultants can help evaluate potential enhancements and ways to optimize your retirement plan. Why Cycle 3? This is the third six-year cycle for which the IRS has issued opinion letters under the Pre-Approved Retirement Plan Program. Cycle 1 was the Economic Growth and Tax Relief Reconciliation Act (EGTRRA) restatement in 2010. Cycle 2 was the Pension Protection Act (PPA) restatement in 2016. Although this Cycle 3 restatement does not have an ornate title, it is equally important to maintain the qualification of the plan.

Since the announcement of the Cycle 3 Restatement period, Congress has enacted a number of new laws affecting tax qualified retirement plans, specifically the Setting Every Community Up for Retirement Enhancement (SECURE) Act and the Coronavirus, Aid, Relief and Economic Security (CARES) Act. In addition, the IRS has issued substantial guidance regarding the operation of qualified plans under these laws. Congress and IRS have generally permitted employers to comply with these new rules in operation without formally amending the underlying Plan document until some date after the law is effective. The Cycle 3 Restatement does not include these changes; however, the general consensus is that the plan must be amended to conform by the end of the first Plan Year beginning after December 31, 2021. If you are currently on our Pre-Approved Plan Document or if we restate your document during the Cycle 3 Restatement period, we will prepare the amendment for employer signature once we receive the required amendment language. If not, please forward a copy of the Cycle 3 Restatement and any subsequent amendments you obtain from your current provider as soon as they are received.

What Do I Need to Do? EJReynolds has acquired the Opinion Letters from the IRS on our Pre-Approved Documents for the Cycle 3 Restatement Period, and we are ready to begin the restatement process for our clients currently on our document. If you are not currently on our Pre-Approved Plan Document, contact your Plan Consultant to receive a quote on converting. We will be reaching out to you in the coming months and through 2021 to make the process of restating your plan documents as seamless as possible. Be on the lookout for updates. We will be sending you reminders and instructions to keep you current in future blogs on the EJReynolds, Inc. website to guide you through the restatement process.

The Challenge of Prospecting in the time of Coronavirus

Over the last seven months, we have all had to learn to adjust. Suddenly, everyone knows about the CARES Act, the difference between a PPP Loan and PPE, and we all became experts at video conferencing. Now that the end of the year is upon us and what would traditionally be “selling season” in the retirement plan world, how can we help you close business? It may not be easy, but at EJReynolds we believe there is great opportunity in the market for taking on new business, both in the existing plan space and the start-up market.

Many of the best advisors spent the Spring contacting their clients, just to check in and alleviate any fears. Now is the time to find those existing cases that have not heard from their advisors, to show your value proposition. Don’t just ask if they have heard from their current Plan Advisor, ask leading questions. For instance, “When your current Plan Advisor contacted you at the beginning of the shutdown, how did that make you feel?” Many Plan Sponsors may say to themselves, “Well, my existing Plan Advisor didn’t contact me at the beginning of this pandemic, and now I’m feeling insignificant!”. Assessing a potential prospect can be tricky. Knowing what questions to ask at the proper time in the sales cycle can be the key to landing and satisfying a new client. Broad, open-ended sales questions may help find out what is going on in your prospect’s world, but they run the risk of wasting what little precious time that a prospect may give you.

When prospecting for a 401(k) plan, there are two main decision makers: 1) the CFO with little time to waste, especially now, or 2) the HR director who typically has too much on their plate to begin with and doesn’t want more, especially now. By merely calling these prospects, you are interrupting the status quo and you must be prepared to give them a compelling argument to make a change. As they say, change only happens when the pain of staying the same is greater than the pain of making a change.

Prospecting for 401(k) plans is a three-step process: 1) Find Promising Prospects, 2) Call the Prospect, and 3) Meet with The Prospect. It can be that easy if you are well prepared and know when to ask the right questions. Last year, we published a blog with an in-depth discussion of finding and calling the prospect. Today, we are focusing on the meeting. To read our original article, refer to The power of the right question at the right time. Whether you are new to 401(k) plan prospecting or an experienced 401(k) advisor trying to train your staff, this guide lists important questions that will engage a prospect. You will also find some key questions to avoid during the sales process.

Once you have a meeting in place, whether physical or virtual, preparation is key. Summarize your findings to a one page sheet showing specific improvement areas and procedures that you will help put into place once you are hired. If you have never presented in a virtual setting, be sure to practice before your first meeting. Video helps build rapport and create a connection with the buyer. Even if your prospects do not use their video, make sure to show yours. If you’re using Zoom or Teams, there is an option to hide your profile video, which may make it easier to present (have you ever tried to speak to a group of people with a giant picture of yourself in front of you?). Use the Chat Bar and Poll functions, especially if you are presenting to a committee. You can send links to pertinent websites, ask leading questions, and facilitate discussions without giving up control of the meeting. You may be sharing your screen with the group, but sending a link to a proposal or an article can help inspire the buyer, share a new idea or uncover needs and ultimately build an impact case to use you as a professional.

For start-up cases, the first step is to build trust in you, then focus on Plan Design. Once they agree to work with you and are confident with the concept of saving, only then should you bring in the investments. Do not lead with investments if they have not bought into the idea of working with you, and certainly if you have no idea how the plan will be designed. Many businesses are thriving in this environment, so it is a great time to look at a start-up case.

For Takeover cases, do not automatically assume you need to change everything to show you can bring enhanced services to the plan. Taking over the plan as Agent or Broker of Record is the first goal. There may be nothing wrong with the plan that more attention and care will not fix. Just making small changes to the investment lineup or adding some enhanced plan design options, might make all the difference in the world to the client and will not totally disrupt the day-to-day activities of the company. Remember, you are here to help the client.

You may also find business development value in our article The 7 Step Guide to Growing your 401(k) Business. These may be trying times, every day is a new challenge, but the secret of change is to focus all of your energy, not on fighting the old, but on building the new. Feel free to call us with additional questions on developing your 401(k) business. We love to partner with advisors for a win-win relationship.

Deadline approaching to adopt a Safe Harbor 401(k) Plan for 2020!

Have you been talking with prospective clients about adopting a new 401(k) plan? Even in today’s  environment, many businesses are thriving and want to secure deductions for the 2020 Tax Year. If so, the deadline for adopting a safe harbor 401(k) plan for 2020 is fast approaching, so it would be a great time to schedule a follow-up conversation!

Safe harbor 401(k) plans are attractive for many employers (especially small employers) because they provide relief from certain plan testing requirements. Specifically, a safe harbor plan is generally exempt from ADP/ACP testing enabling the plan’s highly compensated employees to maximize elective deferrals, i.e. 401(k) deferrals/Roth contributions, without limitation. Safe harbor plans may also be exempt from the top-heavy requirements if certain conditions are met.

What is the deadline for adopting a safe harbor 401(k) plan?

In general, the deadline for adopting a new safe harbor 401(k) plan is October 1, 2020. There are, however, certain notice requirements that must be satisfied, and eligible employees must be provided a reasonable period of time to make their deferral elections. In a new plan, the rule is that all eligible employees must have at least three months to make elective deferrals under the plan, so planning ahead is key! Remember, most investment platforms take 30-45 days to be ready to accept contributions.

Are there limits on the amounts that can be deferred?

No. There are no restrictions (other than the normal limits) placed on the amounts that can be deferred during this three-month period. As a result, owners, key employees and any other participants would still have time to make elective deferrals of $19,500 (plus $6,500 for participants age 50 or older). This, of course, assumes they will have enough compensation to do so within this time period.

What are the contribution requirements?

The plan must make either a safe harbor matching or safe harbor nonelective contribution.

The basic safe harbor matching contribution formula is 100% on the first 3% of deferrals, plus 50% on the next 2% (maximum of 4% match). Alternatively, an enhanced safe harbor matching formula can be used, which is most commonly 100% on the first 4% of deferrals.

Safe harbor nonelective contributions must be at least 3% of each participant’s compensation, regardless of whether they elect to make deferrals.

Note that safe harbor contributions (match or nonelective) must be 100% vested, subject to the same distribution restrictions as elective deferrals, and cannot be subject to any allocation conditions, e.g. employment on the last day of the plan year.

Tax credit available for Small Employers

As an incentive to establish a new 401(k) plan, the SECURE Act added provisions for small employers (generally, businesses with no more than 100 employees) to receive a tax credit of up to $5,000 (per year, for the first three years) to help defray the costs associated with establishing and maintaining a plan. An additional credit of $500 per year is available for new or existing plans adding an automatic enrollment feature.

Which design is best?

One-size does not fit all. It really depends on the goals of the employer and demographics of the workforce. Although the SECURE Act made changes to the Safe Harbor Non-elective plan design, the plan must still be in effect for at least three months. The good news is that we can assist you in determining what will work best for your clients after considering their unique needs! Please contact us to learn more.

If you would like to learn more about these rules, please contact us and we will be happy to assist you.

Choosing an Auditor for your Retirement Plan

With summer upon us and fiscal deadlines approaching, you may be facing the daunting task of hiring an auditor. 

ERISA requires an annual audit on plans with more than 100 eligible participants. Choosing a qualified plan auditor helps insure that you meet your legal responsibility to file a complete and accurate annual report/return known as the Form 5500. This form must meet standards from both the Internal Revenue Service (IRS) and the Department of Labor (DOL).

The fees charged by CPAs for retirement plan audits can range from $5,000 to $20,000. It may be tempting to shop for auditing services on price alone, but this approach can have long term consequences.

If your Form 5500 is considered incorrect or incomplete, it is subject to rejection and Plan Sponsors could be charged substantial civil penalties. In some cases, the penalties could even double the initial cost of your audit.

• The IRS can charge you up to $250 per day, up to $150,000.

• The DOL can charge penalties of $300 per day until a complete Form 5500 is filed, up to $30,000 per year.

Full Scope Audits Are More Comprehensive Than Limited Scope Audits

The Limited Scope Audit option is available for retirement plans whose assets are prepared and certified by a bank or similar institution, or by an insurance carrier that is regulated, supervised, and subject to periodic examination by a state or federal agency that acts as a custodian or trustee. The Limited Scope option relies on the trustee or custodian holding the assets to provide certification that the investment information is accurate and complete. In a Full Scope Audit, everything in the plan, including the investments, is subject to audit testing. The Limited Scope Audit limits the information that is audited.

The Limited Scope Audit composes 65% of retirement plan audits, but it does not protect the participants, according to the former  Assistant Secretary of Labor Phyllis C. Borzi. Speaking at a recent conference of Certified Public Accountants, Borzi called the Limited Scope Audit “practically useless.” She also told the attendees that the primary auditors who are most likely to produce substandard audits are those who think their rate of compensation is inadequate.

Choosing a Retirement Plan Auditor

Here is a list of things you should review before choosing an auditor for your plan:

• Your auditor must be licensed/certified – Federal law requires that the auditor you engage must be licensed or certified as a public accountant by a State regulatory authority.• Your auditor must be independent – The auditor you choose should not have any financial interests in the Plan or the Plan Sponsor. The auditor must be able provide an objective, unbiased opinion about the financial condition of the Plan.

• Your auditor should be experienced – According to the Department of Labor (DOL) one of the most common reasons for deficient accountant’s report is the failure of the auditor to perform test in areas unique to qualified plans. Hiring an auditor with training and experience in performing qualified plan audits will make it more likely the auditor is aware of the special auditing standards and rules that apply to qualified plans. 

Check References Before Engaging an Auditor

• Ask about their work with other qualified plans.

• See if they are a member of AICPA’s Employee Benefit Plan Audit Quality Center. The Employee Benefit Plan Audit Quality Center helps auditors meet the challenges of performing quality audits in the complex areas of qualified plans.

• You may also wish to verify with the correct State regulatory authority that the auditor’s holds a valid, up-to-date license or certificate to perform auditing services.

When a Less Experienced Auditor Is Assigned to Your Plan

There will be some instances when a less experienced auditor may be assigned to perform the audit of your plan to reduce audit costs. When this happens, make sure that a more experienced manager or partner will be reviewing their work.

The Engagement Letter

Once you have chosen an auditor, a contract also known as an “engagement letter” will be provided by the auditor for review and approval.

The letter of engagement from your auditor should include:

• The work to be performed.

• The timing of the audit.

• The responsibilities of both parties.

Review the letter carefully and resolve any questions prior to engaging the auditor for a smoother auditing process. Many of our clients at EJReynolds, Inc. undergo an annual audit and we work with several quality audit firms. If this process is new to you, or if you are interested in speaking with a new auditor, please feel free to ask your plan’s administrator for a list of referrals.

IRS Revenue Notice 2020-50 Provides Guidance On Coronavirus Related Distributions

As all should be aware of by now, on March 27, 2020, the President signed the Coronavirus, Aid, Relief, and Economic Security (CARES) Act into law. This legislation provides relief for those suffering financially and physically from the COVID-19 pandemic. Friday, June 19, 2020, the IRS issued Notice 2020-50 (the “Notice”), which provides expanded guidance on Coronavirus-Related Distributions (“CRDs”) and the CARES participant loan rules.

In today’s EJReynolds Blog, we will focus on the guidance on CDR’s specifically. Loan provisions are beyond the scope of this article.

Expanded Definition of a Qualified Individual

The original language of the CARES Act defined Qualified Individuals (“QIs”), i.e., those that may take advantage of the liberalized distribution and loan rules, to be:

  • A participant who is diagnosed with the virus.
  • A participant whose spouse or dependent is diagnosed with the virus; or
  • A participant who has suffered financial loss from the pandemic because he or she:
    • Was laid off, furloughed, quarantined, or had reduced hours.
    • Cannot work due to the unavailability of childcare because of the pandemic; or
    • Owns or operates a business that has had to close its doors or reduce hours; and
  • An individual with other factors as determined by the Secretary of Treasury.

The last item allows the IRS to make changes as deemed necessary, and the Notice grants relief not only to these individuals, but adds the following categories to the definition of QI:

  • A participant whose pay or self-employment income is reduced, or who has had a job offer rescinded or a new job’s start date delayed due to the pandemic.
  • A participant whose spouse or a member of his/her household has suffered the following financial effects due to the pandemic:
    • Layoff, furlough, quarantine, reduced hours, or reduced pay or self-employment income.
    • Cannot work due to childcare unavailability; or
    • Has had a job offer rescinded or the start date of a new job delayed.
  • A business owned or operated by the participant’s spouse or a member of the participant’s household has closed or reduced hours.

For this purpose, a “member of the household” is someone who shares the QI’s principal residence. Presumably, this could include a significant other, roommate, other relative, or anyone else with whom the individual is sharing a home. This expanded definition grants the QI Status to many individuals who may not have been directly impacted by the virus, but still have suffered financially.

Guidance for Employer-Sponsored Retirement Plans

The Notice clarifies that the CRD and CARES Act loan provisions are optional. A Plan Sponsor may elect to implement the provisions in full, in part or not at all. Regardless of adoption, participant distributions of most types may be treated as CRDs on their personal tax return, if the participant meets the necessary requirements, and the participant may receive a refund if the mandatory 20% withholding was in excess of the actual amount owed.

Employer Reliance on Employee Certification

The Notice emphasizes that the Plan Sponsor can rely on the participant’s self-certification that he or she is a Qualified Individual, unless the Sponsor has actual knowledge to the contrary. The IRS notes that “actual knowledge” does not mean the Administrator must take additional steps to determine whether the participant meets the requirements. For this purpose, the IRS provided a sample self-certification that is deemed to be acceptable. The Certification simply provides “I certify that I meet one of the following conditions …” and then outlines the categories of QIs. There is no need for the participant to specify which category applies to him/her. The lack of the requirement to certify the specific reason why someone is qualified may also avoid any privacy concerns about asking about the QI’s health.

The Notice goes into significant detail about the tax reporting and payment rules relating to CRDs.

What Is considered a Coronavirus Related Distribution?

The Notice clarifies that a CRD is almost any distribution to a QI (not to exceed $100,000) made during 2020. It is possible that the employer and the participant may have different thoughts about whether a given distribution is a CRD. While a Plan Sponsor may choose not to amend its plan to provide for CRDs, the participant is not obligated on his or her tax reporting by the way in which the plan treated the distribution. If the participant meets the definition of a Qualified Individual, the QI can designate any distribution amount as a CRD for his or her taxes. These are discussed below.

From the Employer’s Perspective

A plan must report any CRD of Form 1099-R as taxable income and place the appropriate distribution code in Box 7 (even if the amount is recontributed). The distribution will either be reported as a Code 2 (early distribution, exception applies); or (2) Code 1 (early distribution, no known exception). The first option is more consistent with an employer that recognizes that the distribution is a CRD. If a plan acknowledges that the distribution is a CRD, it is not an eligible rollover distribution from the plan’s perspective (even though the participant can roll it over). This means that the amount is not subject to the 20% mandatory withholding (waivable 10% withholding applies), and the participant does not need to receive a “Special Tax Notice Regarding Plan Payments”.

Participant Designations of CRDs

A QI designates a distribution as a CRD by reporting the distribution on his or her 2020 tax return and filing Form 8915-E (which the IRS indicates will be available before the end of this year). A CRD reported on Form 8915-E qualifies for the waiver of the 10% premature distribution tax under Code section 72(t), the spreading of the income from the distribution over three years (if desired), and the ability to recontribute any portion of the distribution to an eligible retirement plan within three years and have it treated like a nontaxable trustee-to-trustee transfer of the funds. Form 8915-E is also used to report amounts includible in income or recontributed in years after 2020.

The Three-Year Spread of Income

The QI may choose to include the total income from the CRD in 2020 (i.e., when received) or ratably over 2020, 2021, and 2022. Once the QI timely files his or her 2020 taxes reflecting one of those two methods, it cannot later be changed. All CRDs received must be treated the same for this purpose.

Recontributions

Amounts recontributed prior to the tax return due date (including extensions) for a given year may be reflected on that return. For example, a participant who recontributes a CRD on or before his/her extended 2020 tax return due date of October 15, 2021, may reflect the reduction in taxable income from the recontribution on that return. IRA owners are normally permitted to make only one IRA rollover per calendar year. The recontribution of CRDs to an IRA, notwithstanding the fact that they are to be treated for tax purposes as rollovers, does not count against that one-per-year limitation.

Recontributions are treated as follows for tax purposes:

  1. 1-year income inclusion method, recontribution made by that year’s tax return due date: The entire CRD is shown as income in 2020; the entire repayment is shown on Form 8915-E for 2020. The QI recognizes no taxable income (or only that amount of CRD more than the recontribution) for 2020 from the CRD.
  2. 1-year income inclusion method, recontribution made in a later year: The entire CRD is shown as income in 2020. When the recontribution is made, the taxpayer must file an amended 2020 return with attached Form 8915-E, and the income from the CRD on the 2020 return will be adjusted accordingly.
  3. 3-year income inclusion method, recontribution of all or a portion before 2020 taxes are filed: The 2020 tax return will reflect taxable income equal to one-third of the CRD received during the year (up to the $100,000 maximum). Form 8915-E that is filed with the 2020 return will reflect any recontribution up to the tax return due date. If the recontribution equals or exceeds the amount of income for 2020, there will be no net taxable income from the CRD in 2020. If the recontribution exceeds the 2020 income, the offset to income will be applied in 2021 (or, if necessary, 2022).
  4. 3-year income inclusion method. Recontribution made in years after 2020 taxes are filed: If repayments occur after income from CRDs has been claimed (and appropriate taxes paid), the QI has a choice of carrying the income offset forward or backwards.

The Notice also included guidance on expanded loan features under the CARES Act, which we will dive into more in future writings. If you have specific questions related to Coronavirus Related Distributions, please reach out to your Plan Consultant at EJReynolds, and may you continue to keep healthy and safe.

SBA Payroll Protection Program – Forgiveness Update

Over the past months, EJReynolds have discussed the many different aspects of the Paycheck Protection Program (PPP) of the Coronavirus Aid, Relief, and Economic Security (CARES) Act. The Small Business Administration, along with the Treasury Department, are tasked with the oversight of the PPP Loan and any operational forgiveness of the proceeds. On June 5, 2020, the Payroll Protection Program Flexibility Act was signed into law, making changes to the program and clarifying other aspects.

Highlights include:

Extension of coverage period. Under the CARES Act and subsequent guidance a borrower must use the funds within eight weeks after the loan origination. The PPP Flexibility Act extends this period to the earlier of 24 weeks after the origination date or December 31, 2020. Borrowers who received those funds prior to June 3rd have the option to keep the original eight-week period or extend the coverage period for 24 weeks.

Adjustment of non-payroll cost threshold. Previous regulations issued by the U.S. Treasury Department indicated that eligible non-payroll costs couldn’t exceed 25% of the total forgiveness amount for a borrower to qualify for 100% forgiveness. The PPP Flexibility Act raises this threshold to 40%. (At least 60% of the loan must still be spent on payroll costs.) An important caveat is that if the 60% threshold is not met, none of the loan is forgiven.

Lengthening of period to reestablish workforce. Under the original PPP, borrowers faced a June 30, 2020 deadline to restore full-time employment and salary levels from reductions made between February 15, 2020, and April 26, 2020. Failure to do so would mean a reduction in the forgivable amount. The PPP Flexibility Act extends this deadline to December 31, 2020.

Reassurance of access to payroll tax deferment. The new law reassures borrowers that delayed payment of employer payroll taxes, which is offered under a provision of the CARES Act, is still available to businesses that receive PPP loans. It won’t be considered impermissible double dipping.

Payback Period. New borrowers now have five years to repay the loan instead of two. Existing PPP loans can be extended up to 5 years if the lender and borrower agree. The interest rate remains at 1%.

Additional Exceptions. The legislation includes two new exceptions allowing borrowers to achieve full PPP loan forgiveness even if they don’t fully restore their workforce. Previous guidance already allowed borrowers to exclude from those calculations employees who turned down good faith offers to be rehired at the same hours and wages as before the pandemic. The new bill allows borrowers leeway if they could not find qualified employees or were unable to restore business operations to February 15, 2020, levels due to COVID-19 related operating restrictions.

Important note: The SBA has announced that, to ensure PPP loans are issued only to eligible borrowers, all loans exceeding $2 million will be subject to an audit. The government may still audit smaller PPP loans, if there is suspicion that funds were misused.

To read our last blog on the Small Business Administration Paycheck Protection Program, click here

Read our past blogs for more information.

For the Coronavirus, Aid, Relief and Economic Security (CARES) Act, click here.

For FAQs on the CARES Act Coronavirus-related distributions, click here.

For the FAQs on the Changes to Participant Loans under the Act, click here.

For FAQs on Other Miscellaneous Items under the Act, click here.

We hope that you, your family and friends continue to be safe and healthy. As you can see, there are constant changes in the market. We anticipate the IRS and DOL will be issuing additional guidance in the coming months and we will be updating our blog section frequently as more information is made available. As always, we are here to help you and your plan participants navigate through these difficult times. If you have any questions, please contact us.