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IRS Releases Guidance on Retirement Plan Overpayments

The IRS has published much-awaited guidance on what retirement plan sponsors should do in response to accidental overpayments.

The IRS recently released Notice 2024-77, giving plan sponsors long needed guidance on how to correct inadvertent overpayments from a retirement plan. Prior to SECURE 2.0, plan sponsors either had to recoup overpayments or pay corrective contributions. SECURE 2.0 provided plan sponsors more options, which this notice helps clarify.

A retirement plan overpayment occurs when a payment from the plan to a plan participant exceeds the amount allowed by the plan or the limit set by the Internal Revenue Code (“Code”). Overpayments also include payments made before a distribution is permitted by the plan or the Code. The payment can be in the form of a lump sum or installment. Inadvertent payments to disqualified persons or payments made under the Employee Plans Compliance Resolution System (“EPCRS”) to address other failures are not included in the definition. Recoupment itself remains an optional EPCRS correction method.

SECURE 2.0 has given retirement plan sponsors new tools and tactics for addressing overpayment.

Prior to SECURE 2.0, it was possible for retirement plans to lose tax-qualified status for failure to recover inadvertent overpayments. SECURE 2.0 changed the way plan fiduciaries can attempt to recover the overpayment. Plan fiduciaries may either reduce the individual’s future benefit payments to the correct amount or seek recovery from the person responsible for the payment.

In addition, if the payment would have qualified as an eligible rollover distribution, any portion not recovered can now be treated as such. If the overpayment was rolled over into another plan, that amount may be recovered and transferred back to the original plan. That amount will be treated as an eligible rollover and, regardless of the terms of each plan, both plans will be deemed to have allowed the rollover. If the amount is not recovered by the original plan, the plan sponsor must notify the participant that the funds will not receive favorable tax treatment.

These new correction options do not apply if the overpayment:

  • Violates Code Section 401(a)(17), which defines the maximum amount of a participant’s compensation the plan can take into account;
  • Violates Code Section 415, which covers the maximum benefits payable by a plan; or
  • Violates Code Section 436, which covers funding-based limitation for defined benefit plans

These overpayments will still typically require either recovery of the overpayment or a corrective contribution. Any overpayment of Sections 401(a)(17) or 415 are automatically treated as if the plan sought to recover the funds. If recovery is unsuccessful, plan sponsors cannot treat the overpayment as an eligible rollover. The new eligible rollover guidance will still apply to Code Section 436 overpayments if overpayment recovery is unsuccessful.

The guidance in this notice is effective immediately. Plan sponsors that have made inadvertent overpayments should work with plan advisors and TPAs to implement corrective procedures. Contact your OneDigital advisor if you have any questions.

Does your organization have younger employees? If so, they may be more interested in paying off college debt than saving for retirement. Check out this blog on employer-sponsored educational assistance programs for the latest IRS guidance.

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