Problem #2 (cont): General correction principles

IRS Revenue Procedure 2008-50 includes general correction principles and some specific guidance for plans to use when a plan is correcting an operational error due to failing to apply a plan’s terms. The most fundamental correction principle for correcting operational failures is to try to put the plan back in the place it would have been had there not been an operational failure. In many cases (but not all), this principle gives us a pretty clear path on how to implement corrections. If too much has been allocated to employee accounts, the excess amount and investment earnings needs to come out of the employee accounts. If not enough was contributed to certain employees, then an additional amount needs to be contributed to those employees.

The IRS allows some operational errors to be corrected through a retroactive plan amendment. For example, if a plan allows ineligible participants to participate, the plan can be amended retroactively to include those individuals. Similar rules allow plans to be amended retroactively to allow hardship distributions or loans.

Even if a particular situation is otherwise eligible for self-correction, if it is not obvious how to restore the plan to where it would have been had there not been an error, it is a good idea to file under VCP so that the IRS can approve the correction.