Don’t increase your odds of winning the audit lottery

This commentary addresses an issue affecting nearly any Idaho company that maintains a retirement or medical plan.  The Form 5500 is an annual federal tax filing due for most plans by July 31 (or October 15 if extended, which most plans do).  There are several exceptions to the filing requirement such as fully insured medical plans with less than 100 participants.

The filing is reviewed by both the IRS and the Department of Labor (“DOL”).  The IRS and DOL continuously assert that their reviews are aimed in part at identifying plans for investigation/audit.  Missed, late, or incomplete filings may subject the employer to penalties of $2,000+ per day.  The form is also signed under penalty of perjury by the employer.  As such, the stakes are undoubtedly high, and it is critical that the reporting is complete and accurate.  An ounce of prevention is certainly worth a pound of cure when it comes to the Form 5500.  Errors are common, and in most cases easily avoidable.

There is a common misconception that the Form 5500 belongs to the service provider that may have prepared the draft such as a TPA, record keeper, broker, CPA, or financial institution.  This is incorrect.  Every representation is made by the employer, not the entity that populated a draft.  It is up to the plan sponsor to make sure the information is correct and will not unnecessary raise red flags.

Government inquiries or investigations will be time consuming and burdensome.  More importantly, they might lead to the discovery of problems requiring expensive corrections and/or the imposition of monetary sanctions as the result of plan failures or fiduciary breaches.  A “head in the sand” approach is not a good strategy for plan administration (for Form 5500 purposes or otherwise).  It is better to discover problems sooner than later.

The bottom line is that Form 5500 (and the associated audit report) must be filed in a timely manner and contain accurate information.  A draft should be closely reviewed by the employer and its own independent advisors.  Some issues to look out for include:

• Reporting the incorrect plan or employer name. Surprising, but true!

• Reporting late deposits and/or “qualification failures” in an appropriate manner.

• Misreporting on “Schedule C.” Schedule C reports the payment of fees and expenses to various providers such as investment professionals.  This section often contains erroneous information because the preparer does not take the time to understand the situation.

• Incorrect codes describing the plan characteristics.

• Reporting that there is no “ERISA fidelity bond” or reporting a very high limit of bond coverage.

• Use of a preprinted entry on the form that uses the word “other” to describe the matter when other more descriptive entries are available and applicable.  DOL and IRS comment that use of the “other” descriptor triggers their curiosity.

• Misreporting the use or nonuse of “leased employees.”

• Misreporting controlled group, affiliated service group, multiple employer, or multiemployer status.

• Misreporting plan transfers, mergers, and terminations.

• Filing late; or not filing.  This seems to happen more for medical plans (particularly, FSAs and HRAs).  The DOL maintains a program to correct this problem known as the Delinquent Filer Voluntary Compliance Program.  Notably, eligibility for DFVCP is unavailable if DOL notices the missed filing first.

• Failure to obtain (and document) an extension of the filing due date.

• Filing the wrong version of the form.

In summary, don’t increase your odds of winning the audit lottery.  Ascertain the status of your Form 5500’s preparation and carefully review it (and associated audit report) with your advisors.  Do not blindly rely on the individual who populated a draft.  A complete and accurate filing is the plan sponsor’s ultimate responsibility, as are all other legal plan issues.

John C. Hughes is a member of Hawley Troxell’s Employee Benefits practice group. John’s practice is focused in the complex area of ERISA/employee benefits. John counsels clients nationwide relative to a wide variety of issues involving all kinds of employee benefit plans including 401(k), nonqualified deferred compensation/409A, profit sharing, pension/defined benefit, 457, 403(b), employee stock ownership (“ESOP”), governmental, 125/cafeteria, and health and welfare plans.  John can be reached at [email protected] or 208.388.4067.