Corrective action for incorrect plan distributions.

• Author: Elinsky, Peter I.

Letter Ruling 9633041 dealt with the correction of a plan distribution error, and the tax treatment of that correction. The position taken by the IRS is rather startling, given its concerns about self-correction.

In 1992, a participant received a full distribution from the two employer plans in which he participated, Plan Y (a money purchase plan) and Plan X (a profit-sharing plan). The total distributions, approximately $165,000, were rolled over into five individual retirement accounts (IRAs).

In 1994, the plan administrator discovered that the participant had actually received $14,000 too much from Y and had not received $4,600 of interest that had accrued to him in his final plan year in X.

The employer contacted the participant and asked for the $14,000 back. The participant agreed to return the $14,000, but asked the Service about the tax consequences of taking the amount out of his IRA. He also asked if the correction distribution would affect the original lump-sum distribution treatment, and if the remaining $4,600 in X could be rolled over into an IRA.

The Good News

The IRS ruled that X's failure to distribute the $4,600 amount remaining did not interfere with the participant's right to roll over the original amount to an IRA. The Service cited Rev. Ruls. 83-57 and 69-190 as precedent for this treatment.

The Bad News

The IRS also stated that the excess $14,000 from Y was never eligible for a rollover and was an "excess contribution" to the IRA. The Service stated that the $14,000 should have been...