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Use of Pension Codes in Annual Reports Rife with Errors, IRS Finds

Practice Management

The IRS Employee Plans Compliance Unit (EPCU) on Nov. 29 issued a report on its study of whether sponsors reporting that their 401(k) plans are nonqualified were correct in doing so. The EPCU found that a strong majority were not, even though all of the sponsors in the sample intended their plans to be qualified plans under Code Sections 401, 403 or 408.

The Project

The EPCU began the project in February 2013 to learn whether plan sponsors that showed on their Forms 5500 that their 401(k) plans were nonqualified made a mistake when selecting pension feature codes 2J and 3C to describe their plan’s characteristics and didn’t intend their plans to be qualified 401(k) plans.

Pension feature code 2J is intended to indicate: “Code section 401(k) feature – A cash or deferred arrangement described in [Internal Revenue] Code Section 401(k) that is part of a qualified defined contribution plan that provides for an election by employees to defer part of their compensation or receive these amounts in cash.”

Pension feature code 3C is intended to indicate: “Plan not intended to be qualified – A plan not intended to be qualified under [Internal Revenue] Code Sections 401, 403 or 408.”

The EPCU sought the information to better understand qualified plans and to develop tools, guidance and enforcement efforts. It also sought to identify and correct form and operational issues related to nonqualified 401(k) plans and correct any Form 5500 return filing issues.

Results

The IRS found that among the plans they studied, 87% of the plan sponsors made filing errors showing that their plan was not a qualified 401(k) plan. The IRS reports that some other sponsors mistakenly showed their plan was a 401(k) plan when it actually was a profit sharing plan. In both situations, sponsors made mistakes when selecting the pension feature codes that describe their plan characteristics.

The IRS said that to prevent these errors, sponsors and practitioners need to review the pension feature codes carefully before selecting and inserting them on the Form 5500 series return.