Pension Protection Act of 2006 Testing Changes for Plan Year 2008
Three Basic Changes
- GAP Period Income Eliminated on ADP and ACP Test Failure Refunds.
- Eligible Automatic Contribution Arrangement plans will have 6-months after the plan yearend to make a refund for a failed ADP/ACP test without a 10% penalty to the employer versus 2½ months for 401(k) plans without automatic enrollment.
- Corrective distributions for ADP/ACP will be taxable in the year distributed.
- GAP period income eliminated on ADP and ACP test failure refunds starting with the testing performed in 2009 for the 2008 plan year. Thus, interest will not have to be calculated for the GAP period (from January 1 to the distribution date) as had been the method prior to the final 401(k) regulations.
However, GAP period income must still be calculated on excess deferrals.
- The Pension Protection Act of 2006 permits plans with eligible automatic contribution arrangements (whether safe harbored or not) to return the excess and excess aggregate contributions up to 6 months after the end of the plan year without the 10% employer penalty. Effective date is for plan years beginning after December 31, 2007.
Refund to pass ADP/ACP test within 2½ months of end of plan year avoids penalty to the employer. Refund of excess plus earnings including gap period income (no gap as of plan year 2008).
Unlike excess deferrals, excess and excess aggregate can not be refunded until after the plan year is over (even if you know the ADP and/or ACP test is going to fail).
- PPA changes taxation of corrective distributions to the year distributed beginning with plan year 2008 testing.
Earnings are taxable in the year the excess and/or excess aggregate contributions are taxable.
Affect on some rules for plan year 2008 testing
A. Only de minimis amounts < $100 (excluding earnings) returned in year distributed. Starting with plan year 2008 testing, all refunds of failed ADP/ACP tests taxed in year distributed. Thus, we will no longer need to be concerned with the de minimus rule.
A refund of excess contribution or excess aggregate contribution, plus earnings will be taxable in the year distributed. Thus, Form 1099-R: will be Issued for year distributed with a Code 8.
B. Off-Calendar Year Plan, prior to the plan year 2008 change, the refund of an excess contributuion required FIFO (first-in-first-out) return of deferrals.
Example of this issue before the 2008 change:
The 2007 plan year: July 1, 2007 to June 30, 2008.
Testing & refunds between July 1 to Sept. 15, 2008.
Deferrals refunded by FIFO (deferrals starting with those made 07/01/07 are refunded first)
Participant's 2007 filing deadline: April 15, 2008.
Since test is run and refund made between July 1 and September 15, 2008, the participant will have to amend the 2007 tax return. (If an extension to file beyond the refund date, interest on taxes due on refund will be owed from the April 15th due date up to the actual filing of the return.)
A 2008 Form 1099-R had been issued for the excess plus earnings with a Code P.
PPA changes this effective for 2008 plan year by making refunds taxable in year distributed, thus, no more need for FIFO to determine taxable year of distribution.
Check out our Corrective Distributions and Form 1099-R Reporting eSeminar and/or our ADP/ACP Testing eSeminar for more information on these subjects.
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