By Carol Buckmann
A recent survey result really caught our attention. In a survey by Willis Towers Watson, nearly one third of the respondents reported that their retirement plans had been audited by the IRS or the Department of Labor. Roughly half of employers with at least 25,000 employees said they had been audited in the last two years.
So why do we have so much difficulty convincing some plan sponsors and fiduciaries to prepare by reviewing their own plans first? For one thing, plan sponsors and fiduciaries are busy with activities that have fixed deadlines that must be met, such as filing 5500 forms, and there isn’t any deadline for conducting self-audits. It’s easy to defer them to the indefinite future. There also seems to be a widespread belief among some plan sponsors that an audit won’t happen to them, and why expend time and money on uncovering errors that might never come to light? A practitioner I worked with years ago referred to this approach as “hiding in the bushes.”
Why is “hiding in the bushes” wishful thinking? As the Willis Towers Watson survey showed, audits have become common and practitioners can tell you that plan rules have become so complicated that audits usually uncover at least some violations. Even so, why not postpone the day of reckoning? Here are some reasons:
- Corrections usually require adjustments for interest or lost earnings, so the longer you wait to make them, the more expensive they become.
- IRS allows self-correction of significant problems if they are corrected by the end of the second plan year following the plan year in which the mistake occurred, and insignificant problems may be self-corrected at any time. Self-correction avoids having to prepare a formal application for IRS approval and paying a user fee, and correction costs and user fees cannot be paid out of plan assets.
- Neither the IRS nor the Department of Labor will let you use their less expensive self-correction programs if they have initiated a real audit. IRS will throw you into audit cap, which imposes penalties based on a percentage of the cost of disqualifying the plan. The Department of Labor will order you to make corrections of whatever problems it discovers on audit and may sue you if you don’t comply. There is a real benefit if you find the violations before they do.
- If your plan has procedures that are not compliant, you probably have recurring violations that will spread into future plan years. Correcting those procedures now cuts off future exposure.
- Corrections involve tracking down terminated employees as well as active participants. The longer you wait, the harder former employees are to find.
- A new reason is that the IRS will no longer be issuing determination letters to plans on a regular basis, meaning that plan language will become an issue in formal audits. It’s better to determine with an outside review that the language is compliant than to have to deal with the consequences of incorrect plan operations and to have to make corrective amendments years later.
For all these reasons, avoiding self-audits to avoid learning about problems is based on wishful thinking, not reality. Compliance audits are necessary and valuable. The best plan compliance audits are performed by someone who is not affiliated with the plan’s recordkeeper and done on regular basis.