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Have legal counsel review Form 5500

 Almost every nongovernment employer in Idaho that maintains a “qualified” retirement plan (which includes 401(k), profit sharing, and defined contribution plans) is required to prepare and file an Internal Revenue Service Form 5500 every year. 

The improper completion of a Form 5500 will raise red flags and possibly trigger increased government focus or inquiry relative to a plan.  Form 5500s are also often required to be filed for other types of plans such as health plans. 

This article focuses on the review of Form 5500 as it pertains to retirement plans. 

 Form 5500 is an annual filing that an employer plan sponsor makes with both the IRS and Department of Labor.  Depending on plan size, the applicable attachments and schedules to the Form 5500 will vary.  The filing reports information to the government regarding plan characteristics, features, demographics, finances, investments, distributions, expenses, etc. 

 It is the appropriate view of many that three types of professionals should be involved with 401(k) plans (and other types of qualified retirement plans) — (1) the recordkeeper/third party administrator (“TPA”), (2) investment advisor/manager, and (3) legal counsel (whose practice of course should specialize in benefits).  The involvement of legal counsel is particularly warranted with regard to the review of Form 5500s.

 Typically, the TPA prepares the 5500 for a plan.  This is not surprising and is appropriate.  However, the review of those 5500s by ERISA/benefits counsel prior to filing is compelling. 

 The legal review takes little time and is time well spent.  We notice mistakes, discrepancies and/or incomplete preparation in just about every, if not every, instance.  Most problems are easily remedied and may effectively ward off unnecessary and unwanted government inquiries.  The following includes some common issues that arise. 

 Very often, incorrect codes are entered on line 8 of the Form 5500.  These codes describe various plan characteristics to the government.  Such characteristics include whether the employer is part of a controlled group, whether the plan is participant directed, whether the plan fiduciaries are intended to be protected by Section 404(c) of ERISA, and whether the plan is a “preapproved” document.  The types of codes entered advising the government of the existence or absence of certain characteristics might invite inquiry.  For example, a recent government study found that sometimes employers report that a plan is a 401(k) plan when in fact it is not that type of plan. 

It would be expected in those cases that the government took a closer look at those plans that could not even get that aspect of the return correct!  It certainly seems telling that other more significant problems with those plans could exist if the employer (or the TPA) is unaware of the plan’s most basic features. 

Similarly, a recent IRS study regarding “leased employees” was prompted by employer’s entry of a certain code on line 8.  In that instance, many employers improperly reported that they had leased employees when they did not actually have leased employees.  Again, this incorrect entry may bring increased scrutiny to that plan relative to other issues.

 A high priority issue for the Department of Labor involves late deposits.  Late deposits occur when 401(k) contributions are taken from employee pay, but not deposited with the trust as soon as they can be reasonably segregated from the employer’s assets.  Late deposits result in fiduciary breaches, and perhaps also qualification failures. 

Employers are required to report on the 5500 (under penalty of perjury) whether or not late deposits were made during the year.  Sometimes late deposits are reported when actually they were not late.  More frequently, the 5500 preparer fails to prepare the required attachment when the question regarding late deposits is answered “yes” or the required attachment is incorrectly prepared.

 Many 5500s are required to include an audit report prepared by a certified public accountant, or CPA.  The audit report often contains misstatements about the plan characteristics, or information that conflicts with the 5500 (which is prepared by a different party, the TPA). It can contain inappropriate and possibly damaging commentary regarding potential qualification issues, or inappropriate nomenclature (that is, incorrect use of benefits lingo that could potentially give rise to the government’s suspicion that the plan’s CPA is not familiar with qualified plan concepts).  These problems are typically easily remedied, and if they are not could invite increased scrutiny.  Notably, some employers have the misconception that an audit report constitutes a clean bill of health relative to a plan’s compliance status in terms of the plan’s operations and documentation; it is not.

 Other typical problems consist of using the wrong employer name, plan name, or employer identification number, or if not the wrong data, data that differs from prior 5500 filings that would compel completion of the Form 5500 in a different manner. 

Finally, somewhat surprisingly, frequently the Form 5500 preparer’s instructions to the employer regarding confirmation of the filing and the retention of a signed and dated hardcopy are incorrect and provide insufficient proof.  Appropriate confirmation and record retention are compelling given the potential penalties for late filings ($1,125 per day) and the advent of electronic filing (with which the government and practitioners are experiencing growing pains); all the more reason to ensure that the employer’s records reflect a proper, timely, and complete Form 5500 filing.

In summary, legal review of the 5500 will likely result in the identification and remedy of otherwise erroneously reported information, thus averting supplemental inquiries by the government or assertions of an incomplete filing.  This in turn will avoid increased legal counsel attention and employer resources to later respond to inquiries, assertions and associated threatening substantive issues.  The IRS has stated in numerous forums that mistakes, wrong answers and sloppy filings will trigger audits.  Employers should heed that warning.

 John C. Hughes is an attorney with The ERISA Law Group, P.A. in Boise.  The firm’s practice is devoted exclusively to employee benefits.  John is the President of the Boise Chapter of the Western Pension & Benefits Conference.  He is also the Co-Editor of Aspen Publishers’ 401(k) Advisor.


About John C. Hughes