Facts you should know
If your plan has not been recently audited, it is likely only a matter of time before the Internal Revenue Service (IRS) or the Department of Labor (DOL) comes knocking. If/when you are notified of an audit, early preparation can help streamline the process, keep the investigation narrow, as well as potentially avoid financial costs of potential penalties and interest.
DOL and IRS audits focus on different issues guided by their specific jurisdictions.
The DOL is responsible for the enforcement of labor laws set forth in the Employee Retirement Income Security Act of 1974 (ERISA). ERISA is a federal law that sets minimum standards for most voluntarily established retirement and health plans in private industry in order to provide protection for individuals covered by these plans. The DOL can enforce penalties for breaches of ERISA fiduciary conduct and can even sue fiduciaries for these breaches on behalf of a plan and its participants. In cases of the most egregious misconduct, the DOL can initiate criminal proceedings that may result in jail time for plan fiduciaries based on investigations dealing with fiduciary conduct breaches and prohibited transactions.
The IRS audit focuses on taxation issues and the IRS can enforce infractions under the Internal Revenue Code (Code). Infractions can result in additional taxes plus penalties, and interest. The IRS is concerned with compliance with the Code as it impacts on the plan’s tax qualified status. This can take the form of review of plan provisions, testing, controlled group issues, etc.
Both the DOL and the IRS select plans for audit primarily by random selection; but can also be initiated as a result of responses (or lack thereof) to certain questions on the Form 5500, failure to transmit participant contributions to their selected investments in a “timely manner,” participant complaints and other breaches of fiduciary or administrative duties. Current litigation activity, bankruptcy filings and media reports can also trigger DOL investigations. Also, the DOL may refer a case to the IRS if it discovers compliance infractions under the Code and vice versa if the IRS discovers what it believes to be potential fiduciary breaches impacting the plan under investigation.
The number of IRS/DOL audits are increasing dramatically as DC plans become more complex and statutes and regulations evolve.
Failure to respond to an IRS questionnaire or a DOL audit investigation or Information Request Letter is comparable to sending an invitation for the regulator to crack your plan open, make themselves comfortable, and spend weeks exploring all actions impacting the plan.
The DOL and the IRS will initiate an audit by sending an Information Request Letter indicating the date of its on-site visit to review documents and conduct interviews with individuals who have responsibilities in the administration of the plan. The letter will detail the information to be made available to for auditor – typically in advance of the on-site visit.
Currently, the most litigated fiduciary issue is the “reasonableness” of plan fees. As a result, not surprisingly, fees have also come under the scrutiny of the DOL. Evidencing (documenting) the reasonableness of fees paid by plan participants is quickly becoming the most frequently investigated fiduciary issue.
The following is a partial list indicating common items for potential review.
- Corporate or plan committee minutes
- Documentation of fees and expenses and of their reasonableness
- Fiduciary training
- Service agreements and engagement letters
- Fee disclosure statements – 408(b)(2)
- List of parties-in-interest and plan fiduciaries
- List of plan fiduciaries and delegation of responsibilities
- Trustee and/or investment committee minutes
- Plan documents, SPD, trust agreements, investment policy statements, Committee Charter
- Summary annual reports
- Participant statement samples
- Evidence of fidelity bond, fiduciary liability insurance policy, if any
Auditors are likely to ask if the plan fiduciaries are participating in ongoing fiduciary education programs.
Preparing for the audit
Upon receipt of an IRS or DOL Information Request Letter it would be beneficial to begin preparing early for the audit event in order to achieve the best and most efficient outcome.
The more cooperative and efficiently the audit progresses the more positive the experience is likely to be. Being defensive or uncooperative would be counterproductive and would likely alienate the auditor. Proper planning for the audit will leave you better prepared for questions and typically helps to avoid any further potential inquiries.
One important suggestion is to not seat the auditor in front of your plan filing cabinet and let them find whatever they may need. The auditor will be looking for specific items as indicated in their Information Request Letter. Providing the auditor exactly what they’ve requested, but only what they’ve requested, is your best course of compliance whilst simultaneously keeping the investigation narrow in scope. Suggesting they look through your files, in addition to being less efficient, can lead to the auditor uncovering issues that could result in more negative outcomes than those which they originally intended to review.
Consider adjusting your schedule to be available during the audit in the event of questions the auditor may have. You may want to delegate another team member to oversee the audit and deferring final decision-making to you. Notify other members of your plan administration team that your plan is being audited so they can be available to assist. Definitely notify your ERISA attorney, plan consultant, administrator, recordkeeper and investment advisor in the event that they may be helpful.
If the Information Request Letter identifies a significant potential concern a team meeting, prior to the audit, with appropriate attendees (internal or external) may be helpful to review the Information Request Letter, review plan provisions and procedures, and prepare for any questions.
Know that if you need more time to be fully prepared for the audit it is common for plan sponsors to request, and receive, a reasonable delay of the visit after providing an explanation as to why it may take more time to be fully prepared. Auditors recognize that it is not unusual to request additional time to obtain data that may not be immediately accessible.
Most DOL/IRS plan audits result in minimal issues or minor administrative errors that can be easily remedied. If a more substantial issue is found, know that it is probably much better to remedy it now than at some later date when it becomes more cumbersome administratively and/or more financially impactful to remedy.
Securities offered through IFP Securities, LLC, dba Independent Financial Partners (IFP), member FINRA/SIPC. Investment Advice offered through IFP Advisors, LLC, dba Independent Financial Partners (IFP), a Registered Investment Adviser. IFP and Ridgeline Advisors are not affiliated.
The information given herein is taken from sources that IFP Advisors, LLC, dba Independent Financial Partners (IFP), IFP Securities LLC, dba Independent Financial Partners (IFP), and it advisors believe to be reliable, but it is not guaranteed by us as to accuracy or completeness. This is for informational purposes only and in no event should be construed as an offer to sell or solicitation of an offer to buy any securities or products. Please consult your tax and/or legal advisor before implementing any tax and/or legal related strategies mentioned in this publication as IFP does not provide tax and/or legal advice. Opinions expressed are subject to change without notice and do not take into account the particular investment objectives, financial situation, or needs of individual investors. Prepared by 3rd party.