retirement plan has a specific deadline by which employer contributions must
be deposited to the plan for each plan year. However, the rules concerning
participants' contributions have not been as clear. For example, in 401(k)
plans, employees typically defer a portion of their weekly or biweekly
paychecks. How soon should these contributions be deposited into the plan?
The question of when participant salary deferrals must be deposited into
the plan is a long-standing issue and one about which the Department of
Labor (DOL) has been quite vocal. The DOL has also been very active and
aggressive in its enforcement in this area. Fortunately, final regulations
issued earlier this year have provided welcome guidance for plans sponsored
by small employers.
Plan Asset Rule
The regulation describing the deposit requirement is sometimes referred
to as the “plan asset rule” since it actually specifies the timing within
which participant contributions are deemed to become assets of the plan.
This translates into a deposit deadline because it is considered an illegal
loan from the plan if an employer is still holding those amounts on or after
the date they are deemed to be plan assets. Pre-tax salary deferrals and
after-tax employee contributions withheld from payroll as well as loan
repayments are considered participant contributions for purposes of the
General Deposit Timing Rule
There are two tests to determine when deferrals have become plan assets
and, thus, whether they have been timely deposited. The better known of the
two specifies that deferrals become plan assets, at the latest, on the 15th
business day of the month following the month in which they were withheld
from employees' paychecks. For example, any deferrals withheld during the
month of May become plan assets, at the latest, as of the 15th business day
The second test provides that, if it is possible for a plan sponsor to
segregate deferrals from its general assets earlier than the 15th business
day of the following month, then those deferrals become plan assets as soon
as it is reasonably possible to segregate such amounts. This rule presents
several operational issues to consider.
It is not uncommon for an employer to have several payroll periods in a
month but to wait to deposit salary deferrals until after the final payroll
of that month. However, the DOL has indicated that, if it is
administratively possible to make a deposit within a certain number of days
following the final payroll of the month, it should also be possible to make
a deposit within the same number of days after each mid-month payroll.
Therefore, any mid-month salary deferrals and loan repayments held and
deposited with the final monthly payroll would be considered delinquent.
ABC Company, Inc. has biweekly payroll with pay dates of Friday, April 16
and Friday, April 30, 2010. Salary deferrals for both pay periods are
deposited on Wednesday, May 5th. Since the date of deposit is only 3
business days following the last pay date in April, the DOL would likely
assert that deferrals from the April 16th payroll should have been deposited
no later than April 21st and treat them as 14 days delinquent.
Since what is “reasonably possible” is open to interpretation, there has
been a great deal of confusion in the industry as to how to appropriately
determine when deferrals become plan assets. This confusion has been fueled
by inconsistent DOL enforcement of the issue. For example, in some regions
of the country, DOL investigators have treated 10 to 12 calendar days
following payroll as timely while other regions have enforced a 3 to 5
calendar day standard. They set the standard and require plan sponsors to
present evidence that a longer timeframe should be allowed.
To make matters more challenging, some DOL investigators have claimed the
rule requires that deferrals not only be deposited within the requisite
timeframe but also allocated to participant accounts and invested. In an
effort to comply with such an ambiguous rule, some employers have gone to
the other extreme and deposited deferrals as soon as they knew the amounts,
even if prior to the actual payroll date.
While such an approach solves the DOL issue, it creates another problem
in that IRS regulations prohibit depositing deferrals prior to the pay date
to which they relate.
Safe Harbor Deadline Offers Welcome Guidance for
Earlier this year, the DOL finalized new regulations that provide much
needed clarity to this rule. In short, the new regulations create a safe
harbor timeframe in which to deposit employee contributions and loan
repayments. As long as those amounts are deposited into the plan no later
than the 7th business day following payroll, they are deemed to be timely,
even if the employer is able to make the deposit earlier.
The regulations also clarify that it is only the deposit, not the
allocation or investment, that must occur within the requisite window.
While the new guidance removes much of the ambiguity, there are several
important points to note. First, as with other plan-related safe harbors,
the 7-day safe harbor is optional. Employers who choose to make deposits
outside of this window or do so inadvertently lose reliance on the safe
harbor and are judged by the “as soon as reasonably possible” standard which
may call for a 3 to 5 day deposit window. Thus, a deposit on the 8th day
will not be considered one day late—it will be 3 to 5 days late.
Second, the safe harbor is only available to plans with fewer than 100
participants as of the first day of a given plan year. While many plan
sponsors may define a participant as someone who is actively contributing to
the plan, the DOL considers anyone eligible to make contributions to be a
participant in addition to terminated employees who still have plan
balances. This means that larger plans cannot assume that the DOL will
consider deposits made within 7 business days to be timely.
What’s the Worst that can Happen?
As noted above, the DOL treats late deposits as a loan of plan assets to
the plan sponsor. Such a loan is a “prohibited transaction” (PT) and a
breach of fiduciary responsibility. As a PT, the delinquency subjects the
plan sponsor to a 15% excise tax. The excise tax is applied again for each
year (or portion of a year) in which the PT remains uncorrected.
In addition, another PT, subject to its own excise tax, is deemed to
occur each year until correction is made. This is often referred to as a
cascading or pyramiding excise tax. There is no proration based on the
number of days that elapse, so even though a PT occurs near the end of the
year, the full excise tax applies.
Form 5500 Reporting of Late Deposits
Late deposits are required to be reported each year on Form 5500 (line 4a
of Schedule H or I, whichever is applicable). New rules imposing penalties
on service-providers who improperly complete Form 5500 make it unlikely
preparers will “look the other way” on this reporting requirement even if
the deposit is only a few days late. In addition, CPAs who audit large plans
are required to review the timeliness of deferral deposits and note any
delinquencies in their reports.
As if the above isn’t enough, the DOL issues monthly press releases
announcing lawsuits it has filed against large and small companies alike for
failure to timely remit salary deferrals of amounts as low as $5,000.
Further, the DOL recently announced the Contributory Plan Criminal
Project that could result in criminal prosecution of employers who “may
convert employee payroll contributions for their own personal use or may use
employee contributions to pay business expenses.”
The Fix is In
Since there are numerous avenues for the DOL to become aware of
delinquencies, it is in an employer’s best interest to voluntarily take
corrective action as soon as possible before an investigator knocks at the
door. The DOL’s Voluntary Fiduciary Correction Program (VFCP) provides
specific guidance on how to correct a late deposit.
Deposit all outstanding delinquent amounts as soon as possible.
Provide an additional contribution to participants to make them whole for
any lost investment earnings. This is required even if the stock market has
had negative returns during the timeframe in question.
The DOL provides an online calculator on its website to use to determine
the lost earnings amount. The following information is required to use the
- Amount of late deferrals;
- Loss Date: The date the deferrals should have been deposited;
- Recovery Date: The date the deferrals were actually deposited; and
- Final Payment Date: The date the lost earnings amount will be
If multiple payrolls are delinquent, each must be entered separately into
Submit documentation of the correction to the DOL and request a no-action
Some employers choose to make the corrective contributions but forego the
formal submission. While that approach may make the participants whole, the
employer does not have any assurance against DOL action and must still pay
the excise tax. As long as the deferrals in question were not more than 180
days delinquent and the employer follows VFCP to apply for a no-action
letter, the excise tax is waived.
The new safe harbor regulation greatly clarifies the deposit requirement
for employers that sponsor smaller 401(k) plans. Those who choose not to
avail themselves of this relief should carefully review their process for
transmitting employee contributions to their plans and maintain careful
documentation describing the amount of time it takes to complete the process
each pay period as well as an explanation of why it cannot be completed more
The DOL has made it clear that it plans to continue actively enforcing
the deposit timing rules, to ensure employee contributions are used for the
purpose for which they were intended. Therefore, it is important for all
plan sponsors to review their deposit procedures to ensure contributions are
being made on a timely basis.
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