A disqualified person is an individual or entity that has a financial interest in a retirement or social welfare plan, and is prohibited from engaging in certain transactions with the plan. These transactions are known as “prohibited transactions” and are prohibited by the Employee Retirement Income Security Act (ERISA) and the Internal Revenue Code (Code). Disqualified individuals include the IRA owner's trustee and their family members (spouse, ancestor, linear descendant, and any spouse of a linear descendant). Examples of prohibited transactions include using the plan as security for a loan, or participating in a transaction that could result in a conflict of interest.
If a disqualified person participates in a prohibited transaction, they can avoid the 100% tax by correcting the transaction as soon as possible. Correcting the transaction means undoing it as much as possible without putting the plan in a worse financial position than if it had acted under the highest fiduciary standards.Certain legal and other exceptions have been established to allow certain transactions that fall under one of the prohibited transaction categories. These exceptions are allowed if they meet specific legal or other exemptions. For example, participant lending programs are allowed if all relevant requirements are met.
If a prohibited transaction is not covered by an exemption, it may result in separate liability under ERISA and the Code, together with the imposition of monetary sanctions in the form of special taxes.The Voluntary Trust Correction Program (VFCP) provides an exemption from the Code's sanctioning taxes for certain prohibited transactions that are corrected through this program. However, ERISA's prohibited transaction provisions do not provide any compensation simply because such compensation is provided under the VFCP. Therefore, ERISA sanctions applicable to prohibited transactions will still apply to all transactions prohibited under ERISA, even if corrected by VFCP.Overall, ERISA requires a complete and rapid correction of prohibited transactions. This means that the plan must be completed and the party or parties involved must disburse any benefits resulting from the transaction.
Being “healed” generally means that the parties will, in the end, occupy the exact position they would have been in if the prohibited transaction had never occurred.
