When advising an employee who is retiring, be zealous in making sure she receives everything--but not more--than she is entitled to!
Question: In Year 1, Company X has two employees who are retiring, A and B, both age 65. The plan administrator has a bad hangover, mixes up the two accounts, and pays A $125,000, which was the amount B was supposed to receive, and pays B $150,000, which was actually the amount of A's benefit. So A has received less than she was supposed to receive, while B got an overpayment. Nobody notices this mistake until Year 3, at which time the plan immediately notifies the two retirees and starts trying to straighten out the mess.
Everyone agrees there was no way the employees could have spotted this error, short of hiring a forensic accountant to scrutinize several years' worth of plan documents.
Which retiree has bigger problems, A or B?
Answer: That's easy--B is in big trouble, while A is on easy street.
A got less than she was entitled to. So for two years she thought she wasn't as well off as she actually was, and that of course is unfortunate. But to make up for it, she'll get a nice fat check for the difference. She can spend that or save it, and have some good laughs with her friends about the stupid mistake her former employer made.
B on the other hand has problems--big problems. Just on a psychological level, she is poorer than she thought she was, and so unlike A (who receives an unexpected windfall), B has to suddenly tighten her belt. Any spending or other financial commitments she made on the basis of this unrealistic belief are strictly her problem--she must repay all that money to the plan regardless.
A plan overpayment followed by a repayment also raises many tax questions. The answer to each question is, "you lose!"
Tax Question 1: Does B have to include the full $150,000 in her gross income for Year 1? After all, she was entitled to only $125,000, so why should she have to include in her income money she had no right to receive?