A guide to resolving common issues with defined contribution plan administration
Defined contribution retirement plans are a complex entanglement of many moving parts and players that can change at any moment.
Missed deferral opportunities (MDOs) can cause misery for the plan sponsor. If not rectified quickly, they can be expensive and time-consuming to correct.
What is an MDO? It occurs when a plan participant misses an opportunity to defer a portion of their salary to the retirement plan because of oversight or error in plan administration. It is considered an operational failure by the IRS and should be corrected when the plan sponsor becomes aware of the failure. An MDO is one of the most common errors in retirement plan administration and, as such, the IRS offers specific guidance on how to correct it.
So what is considered an MDO? Most people are familiar with the scenario where a newly eligible employee is not given the opportunity to contribute to the plan when they become eligible to participate. While this is the most obvious missed deferral opportunity, it is not the only way a participant can experience an MDO. Missed deferral opportunities can also occur when a plan sponsor:
- Does not apply the participant’s election in the payroll system
- Excludes eligible pay sources from the contribution calculation
- Misses a participant-requested increase to an existing deferral election
- Neglects to implement an auto-enrollment provision (enrollment or escalation)
Once an MDO has been identified, it must be corrected. As mentioned above, the IRS provides guidance on how to correct this operational failure in Revenue Procedure 2021-30 or in the 401(k) Plan Fix-It Guide. While the IRS guidance is clear, you must select the appropriate method based on the circumstance of the error.
Most MDO corrections require the plan sponsor to make a qualified nonelective contribution (QNEC) to the plan. The amount of the QNEC is dependent on the timing of the correction of the error from when it first occurred. In some cases, a QNEC is not required. The maximum QNEC is 50% of the missed contribution.
In addition to making a corrective QNEC, the plan sponsor must always provide for missed matching contributions (if any) on the full amount of the MDO as well as lost earnings on both the QNEC and missed match. The chart in Figure 1 provides an IRS summary of the required corrections for the MDOs described above, which are covered by the IRS’s Self-Correction Program (SCP).
Figure 1 does not address QNECs for terminated participants or corrections that fall outside of the SCP. If an MDO is discovered after a participant has separated service with the plan sponsor, a correction is still required. Because the participant is terminated and will not have an opportunity to defer additional salary to the plan, the plan sponsor must contribute the maximum QNEC of 50% of the missed deferral to the participant’s account.
Figure 1: IRS self-correction program required MDO corrections
| Reason for MDO | Correction for plans with automatic enrollment features | Corrections for plans without automatic enrollment feature | Correction of exclusion of employees for all 401(k) plans with or without automatic enrollment feature |
|---|---|---|---|
| Required contribution for missed deferral opportunity | None if conditions below are satisfied. | None if conditions below are satisfied. | 25% of missed deferral—if conditions below are satisfied. |
| Commencement of Correct Deferrals (i.e., correct withholding and deposit from compensation going forward) | Earlier payment of first compensation that begins on or after: 9½ months after plan year in which failure occurred, or Last day of the month following the month in which employee notified employer of that failure. |
Earlier payment of first compensation that begins on or before: 3 months after the failure occurred, or Last day of the month in which employee notified employer of the failure. |
Earlier of payment of first compensation that begins on or after: The end of the third plan year following the plan year in which failure occurred, or Last day of the month following the month in which employee notified employer of failure. |
| Notice providing: Information on failure, corrective contribution, commencement of correct deferrals, the opportunity to increase deferrals going forward, and plan contact information. | Notice must be provided within 45 days of the commencement of correct deferrals. | Notice must be provided within 45 days of the commencement of correct deferrals. | Notice must be provided within 45 days of the commencement of correct deferrals. |
| Corrective contributions: Details for determining SCP correction period, referred to in the columns can be found in Section 9.02 of Revenue Procedure 2021-30 | Corrective matching contributions (including earnings) must be made by the end of the SCP correction period for significant failures. In most cases, that is the end of the third plan year after the plan year in which mistake occurred (Note-exceptions exist. E.g., SCP correction period may end if plan is under IRS audit) | Corrective matching contributions (including earnings) must be made by the end of the SCP correction period for significant failures. In most cases, that is the end of the third plan year after the plan year in which mistake occurred (Note-exceptions exist. E.g., SCP correction period may end if plan is under IRS audit) | Corrective matching contributions and 25% of missed deferrals (both adjusted for earnings) must be made by the end of the SCP correction period for significant failures. In most cases, that is the end of the third plan year after the plan year in which mistake occurred. (Exceptions possible, e.g., SCP correction period may end if plan is under IRS audit) |
Source: IRS website.
MDOs found and corrected within three years of the error are typically corrected using the SCP. MDOs identified and corrected outside of three years may no longer be eligible for the SCP. Once an MDO is no longer eligible for SCP, the QNEC correction rate increases to 50% of the missed deferral and is covered by the IRS’s Voluntary Compliance Program (VCP), if the plan has not been notified of an audit by the IRS. A review of the facts and circumstances will help determine which of the voluntary correction programs is best for correcting the plan failure.
Failures (such as MDOs) that have not been corrected and are discovered during an IRS audit must be corrected under the IRS’s Audit Closing Agreement Program (Audit CAP). Correction methods under Audit CAP may or may not follow the correction methods described above.
The IRS expects an occasional MDO to occur, but failures that are systemic or occur frequently require a review of and adjustments to processing procedures so the problem does not continue indefinitely.
For more information, please contact your Milliman relationship manager or a Milliman compliance consultant.