The IRS and DOL both have jurisdiction over qualified retirement plans,
and between the two agencies, they generally audit more than 20,000 plans
each year. And, if recent speeches and articles are any indication, both
agencies will be visiting even more plan sponsors in the months ahead.
While no article is likely to take away that initial panic, there are
certain steps you can take to make sure the reality of a visit from your
friendly neighborhood auditor is not nearly as bad as the anticipation. In
fact, with the right preparation, an IRS or DOL audit of your retirement
plan can be a non-event.
When facing an audit, it is common to wonder what the Feds are hoping to
find. The answer depends on which Feds are doing the auditing.
Among other things, the DOL is charged with the enforcement of ERISA,
which includes all of the rules requiring plan fiduciaries to act prudently
and in the best interest of participants and beneficiaries. It is no
coincidence, then, that in conducting audits, the DOL's primary focus is to
ensure that participants and beneficiaries are receiving all the benefits to
which they are entitled and that fiduciaries are not jeopardizing the plan's
ability to provide those benefits. Specific areas of review might include
verifying the plan has an investment policy statement (and that it is being
followed) and confirming that employee salary deferrals and loan payments
are deposited on a timely basis.
Believe it or not, the division of the IRS that is responsible for
qualified retirement plans is one of the few divisions not charged with
raising revenue. That means they do not set out to find reasons to penalize
plan sponsors. Quite the contrary. Their goal is to preserve the tax
benefits associated with retirement plans by making sure sponsors are
operating their plans in accordance with regulations, plan documents, etc.
Essentially, the IRS understands that retirement plans represent significant
tax benefits to sponsors and participants, and they want to be sure that
those claiming the tax benefits are playing by the rules.
It is a common misconception that if the government comes knocking, there
was a complaint, evidence of wrong-doing or something else that must have
initiated the visit. While both IRS and DOL take participant complaints very
seriously and sometimes do initiate investigations because of them, many
plan audits are semi-random in nature.
The selection process is not quite as random as putting a bunch of Forms
5500 in a spinning barrel and pulling out the winning entries; rather, the
agencies identify certain issues or characteristics and then query the Form
5500 database to find plans that fit those criteria. Then, they randomly
sample that population to determine which plans they will audit.
As an example, several years ago, the IRS was concerned about plan
investments in real estate, so they were able to narrow their focus to the
affected plans by reviewing Form 5500 data.
The DOL has an ongoing, national enforcement project related to the
timely deposit of employee contributions. One way they may target plans is
to review Form 5500 to determine if receivables related to salary deferrals
are disproportionately high based on the total employee contributions for
This next statement might win the obvious award, but if you are the proud
recipient of an audit notice, do not ignore it. The notices generally
include a proposed schedule for the audit as well as a laundry list of
document requests and the contact information for the examiner. Auditors are
generally pretty reasonable people who understand scheduling challenges. If
you have a conflict or do not believe you can gather all of the requested
information in time, they are usually willing to reschedule within reason as
long as they have some lead-time.
However, before you contact the auditor, your first call should be to the
provider who assists you with plan compliance matters such as your TPA. If
you have worked with that service provider for a few years, they probably
have much of the information the auditor requests. Given the volume of
documents involved, the TPA will likely need some time to compile all of the
information, and they will welcome as much advance notice as you can
At that point, it is also useful to work with your providers to conduct a
pre-audit. This process involves reviewing plan records and operations for
the years the auditor will be examining. Retirement plans are complex
beasts, and despite best efforts, mistakes do happen. To the extent you are
able to identify mistakes and take corrective action before the audit
begins, the more likely you are to minimize any penalties that might
otherwise be assessed. Certain types of mistakes can be completely
self-corrected even when a plan is under examination.
It is common for auditors to want to stop by your place of business as
part of their examination. Sometimes, they simply want to confirm that there
aren't hundreds of employees working on your factory floor despite the fact
that your Form 5500 says you only have 20 participants. Other times, they
will conduct a significant portion of their document review over several
days in your office. Either way, it is advisable to coordinate the length of
the visit in advance.
One of the most important things you can do to expedite the review
process is to have all of the requested documents neatly organized. Often
times, the document request lists items in the same or similar order that
the auditor will review them. Consider using sticky notes, labels or tabs to
arrange everything in that same order to facilitate a more streamlined
review. In short, make it easy for the auditor to find the requested
information quickly so that he or she can move on to the next item on the
While the rule of thumb is not to provide extraneous information that has
not been requested, it is important to be cooperative and helpful. For
example, if the auditor asks to see information about a specific
participant, try to identify the exact page rather than handing the auditor
a 300-page report and wishing him or her good luck.
While it is certainly advisable to extend some common courtesy, keep in
mind that an auditor is still an auditor with an obligation to take action
if he or she identifies errors. As a result, it is a good idea to exercise
discretion in determining the internal personnel that work with the auditor.
An accounting clerk who is not familiar with rules related to 401(k) plans
may not think it is a big deal to mention a payroll error that caused
several late deferral deposits, but an auditor will certainly think it is.
The IRS and DOL agents that audit plans have varying degrees of
experience and knowledge. Not every agent is going to be well-versed in the
myriad rules and regulations that govern retirement plans. There are
instances in which an auditor may challenge something that is perfectly
Consider this example. There was an agent reviewing a 401(k) plan that
used the so-called otherwise excludable rule to disregard certain
short-service employees from its nondiscrimination testing. The auditor was
not familiar with that rule and challenged the test results even though they
were correct. In that circumstance, it was necessary to confidently point
the agent to the Code section that authorized the testing method; however,
it was equally necessary to do it in a helpful, non-confrontational manner
rather than disparaging his or her lack of knowledge of that rule.
Anyone who does not have experience working with an auditor should think
twice about representing him or herself. Not only is it prudent to seek
counsel from plan service providers before the audit, it is wise to seek
their assistance throughout the audit.
As the saying goes, an ounce of prevention is worth a pound of cure, and
that is especially true with retirement plan maintenance. Conducting
self-audits at regular intervals can highlight oversights or procedures that
may need to be updated and allows you to address your findings without the
pressure of an upcoming audit.
The IRS and DOL publish information about their enforcement initiatives
on their websites:
The websites also include a wealth of information about steps you can
take to identify and correct mistakes before the government comes knocking.
Resources include plan compliance checklists that focus on the most common
compliance errors. Both agencies also maintain in-depth voluntary correction programs.
The IRS has recently highlighted the importance of internal controls and
has started reviewing them as part of their examination process. In a
nutshell, internal controls are processes and procedures put in place to
make sure errors do not occur in the first place.
If there is a checklist showing that during that last payroll conversion,
someone matched codes on the payroll system to the plan document's
definition of compensation, there is a higher likelihood that the correct
compensation was used to calculate that matching contribution. With that
solid internal control identified, there is less of a need to spend time
reviewing each compensation record on a participant-by-participant basis.
Audits are never fun. They require time and resources and no matter how
diligent your compliance efforts, leave you sitting on pins and needles.
However, retirement plan audits do not have to cause weeping and gnashing of
With some professional advice from your service providers and some
organization, cooperation and courtesy in dealing with the agent, the audit
can be like a routine teeth cleaning rather than a root canal.
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This newsletter is
intended to provide general information on matters of interest in the area
of qualified retirement plans and is distributed with the understanding that
the publisher and distributor are not rendering legal, tax or other
professional advice. Readers should not act or rely on any information in this
newsletter without first seeking the advice of an independent tax advisor such
attorney or CPA.
© 2012 Benefit Insights, Inc. All rights reserved.