Missed deferral opportunities (MDO) occur when an eligible participant’s payroll contributions were not properly withheld from their pay due to a plan error or oversight or because they were not given the opportunity to participate in the plan timely.
Because deferrals must be withheld before a participant receives compensation, these issues typically cannot be corrected by rerunning payroll as it is too late to deduct deferrals from that compensation. Instead, alternate corrections are needed.
Why missed deferral opportunities might occur
An incorrect deferral percentage is applied to the participant’s compensation (percentage was too low).
A participant is prevented from making catch-up contributions because of incorrect payroll capping, invalid birthdate, or similar issue.
The plan sponsor fails to apply a deferral election to an off-cycle payroll (most commonly, a bonus payroll).
The plan sponsor excludes certain compensation when determining the deferral amount (most commonly with bonuses or commissions).
A participant was not automatically enrolled timely.
A qualified automatic contribution arrangement (QACA) plan fails to change a participant’s contribution rate due to an auto-escalation requirement.
The plan administrator or sponsor was late in adding a new participant to the company roster or payroll, or hire dates or other data used to determine eligibility were inaccurate.
An eligible employee did not receive an invitation to enroll in the plan (possibly due to an incorrect or missing email address).
How are missed deferral opportunities corrected?
In most cases, MDOs can be self-corrected by the plan sponsor through the IRS Employee Plan Compliance Resolution System (EPCRS). Typically, in these cases, a formal submission to the IRS is not required.
MDOs are usually corrected through Qualified Nonelective Contributions (QNECs). Additionally, plans must contribute any missed employer matching or nonelective contributions for the affected pay periods. The missed matching contribution is calculated based on the MDO.
How do you calculate the missed deferral opportunity?
Before determining the amount of a QNEC or missed match, you must first calculate the MDO by completing the following:
Step 1:
Determine what percentage of compensation should have been withheld but wasn’t:
Failure to implement
Affirmative election in place: If the participant made an affirmative election (manually selected a contribution rate) and the percentage withheld was lower than their election, then the MDO is the difference between the two amounts:
River elected to have 6% withheld but only 3% was withheld.; River’s MDO is the 3% difference.
Rory elected to have 6% withheld but 0% was withheld; Rory’s MDO is the 6% difference.
Not auto-enrolled timely: If the participant was given an opportunity to defer, made no election, and should have been automatically enrolled the MDO is the default deferral rate as determined by your plan document.
Not auto-escalated timely: If the participant was automatically enrolled under a QACA and the auto-escalation was not applied timely the MDO is the auto-escalation amount as determined by the plan document.
Amelia was automatically enrolled at 3% and the plan document required increasing the election by 1% each year but she continued to receive 3%. Amelia’s MDO is 1%.
Late enrollment
If an eligible employee was not given an opportunity to defer, the automatic enrollment percentage is typically not used. In this case, the amount depends on the plan design:
Non-safe harbor plan: Use the average deferral percentage (ADP) for the year of exclusion. The ADP is the average amount of deferral divided by total compensation. If the employee is a highly compensated employee (HCE), use the HCE ADP for the year. If the employee is a non-highly compensated employee (NHCE), use the NHCE ADP for the year of exclusion. The plan cannot use the otherwise excludable employee rule or restructuring to artificially reduce the ADP.
Nonelective safe harbor but not a QACA plan: The MDO is 3%.
Safe harbor match and not a QACA plan: The greater of 3% of compensation or the maximum deferral percentage for which the plan provides at least a 100% matching contribution (e.g., safe harbor basic plan would use 3%).
QACA safe harbor plan:
During the initial period: 3% (even if the rate of automatic enrollment for those years is higher than 3%).
Thereafter, the missed deferrals are the automatic contribution percentage stated in the document.
Step 2:
Determine what gross compensation applies for the period of the failure (add up the applicable pay periods).
Step 3:
Multiply the percentage of compensation that should have been withheld by the gross compensation.
Step 4:
Look at the total amount deferred in the plan year and cap the MDO to the annual deferral limit (including any reported external deferrals). Ensure the limit is adjusted for any participants who are eligible for catch-up contributions. If the participant already deferred the maximum amount allowed for the plan year, the MDO is 0.
Step 5:
Once you have an MDO amount, multiply the MDO by the applicable QNEC percentage (discussed below) to determine the QNEC amount. The MDO will also be used to determine the missed match for the applicable pay period.
When is a QNEC required?
A QNEC is a special kind of employer contribution that must be 100% vested. The IRS caps the QNEC at 50% of the MDO since the employee has already received the compensation that would have been used to fund the deferral. There are several exceptions to the requirement to contribute a 50% QNEC – most of which require notice of the correction to be sent to the participant no later than 45 days after the correct deferrals begin.
EPCRS has several safe harbor corrections that can be used to lower the QNEC contribution required, although it is always permissible to correct a missed deferral with a 50% QNEC. Note that since the missed match is based on the MDO and not the QNEC, a missed match may still be owed even when the QNEC is 0%.
0% QNEC safe harbor
For Guideline plans, there are two scenarios that could result in a 0% QNEC being required:
Plans with automatic contribution safe harbor (notice required): The missed deferral must be corrected (the correct deferral amount must begin) by the 9 1/2-month period after the end of the plan year of the failure. In the case of an employee who notifies the plan of the error, the date of the first payment of compensation made by the employer to the employee on or after the last day of the month following the month in which such notification was made, and the correction notice must be provided within 45 days after the correct deferrals begin (notice described below). The safe harbor rule applies to participants who were subject to an automatic contribution feature, whether or not the participants made an affirmative election.
Brief exclusion (notice not required): This exception only applies to missed contributions in January, February, and/or March of a calendar year (since all Guideline plans are calendar year plans) due to late enrollment. The employee must have the opportunity to defer for at least the last 9 months of the plan year, and during that period the employee must have the opportunity to make elective deferrals in an amount not less than the maximum amount that would have been permitted if no failure had occurred.
Note that EPCRS also provides for a 3 month safe harbor, but because all Guideline plans have automatic enrollment, the 9 1/2-month rule is much longer and eliminates the need to apply this option.
25% QNEC safe harbor
Three-year safe harbor (notice required): The missed deferral must be corrected (the correct deferral amount must begin) by the first payment of compensation made on or after the last day of the third plan year following the plan year in which the failure occurred, and the correction notice must be provided within 45 days after the correct deferrals begin (notice described below).
Correction notice
The notice must be provided within 45 days of the correct deferrals being withheld and must include information about the failure and a statement that correct deferrals have begun, corrective contributions will be made (if applicable), and that the participant can increase their deferral percentage to make up for the missed deferrals (if applicable).
Note that EPCRS has a special rule for participants who are excluded from making catch-up contributions and requires 50% QNEC in this case. Since Guideline has no special catch-up election (all deferral percentages apply equally to regular deferrals and catch-up), this rule should rarely, if ever, apply. Of course, as noted above, 50% QNECs are always permissible and a plan sponsor may elect to correct using a 50% QNEC if they think the circumstances warrant that correction.
How do you correct missed employer matches or nonelective contributions?
Regardless if a QNEC is owed for an MDO, any missed matching contributions and/or nonelective contributions must be corrected if there is a MDO. The percentage of the QNEC is not relevant.
If there is an MDO and the plan provides for matching contributions for the period that the missed deferral applied, there is a missed matching contribution that must be fixed (even if the QNEC is 0%).
Note for nonelective contributions: Because nonelective contributions are calculated per pay period at Guideline, a nonelective contribution will usually be missed at the same time there is an MDO. Note that a nonelective contribution may still be required even if there is no MDO (no deferral is required for a nonelective contribution).
To determine the missed match, use the MDO calculated above and ensure the matching contribution is limited for the annual compensation limit. Include all matching contributions made so far for the plan year and ensure any missed match does not take the participant over the limit.
To learn more about the EPCRS, visit the IRS website here.