How to Survive a Pension Plan Audit

1) Basic plan document ' Your basic plan document is usually called a prototype plan document. It can be standard or non-standard. Non-standard plan documents have customized features or non-standard clauses that you need to understand. While a standard prototype plan may be written to be in compliance with ERISA, you may want to get a separate determination letter for a non-standardized plan to make sure all the added customized features are also in compliance with laws and regulations. Generally, the basic plan document describes all the default features of a group of pension plans that use the basic plan document. Then optional features are selected in the firm's adoption agreement.

2) Adoption agreement ' Even though a plan may be a standardized prototype plan, each law firm's employee benefit plan is unique, based on what optional
features are selected by the plan sponsor in the adoption agreement. An adoption agreement is basically a checklist of optional features concerning eligibility, definitions of compensation, deferral limitations, employer contributions, use of forfeitures, distribution requirements, testing compliance methods, participants' loan conditions, and distributions requirement or methods.

You must read your adoption agreement carefully when making selections. It can be confusing. You should make sure your third-party administrator (TPA), who sends you the adoption agreement to complete or has completed it for you based on your instructions, explains what each option means and how the options you intend to select or have selected affect the operation of your benefit plan. If you do not understand the options, then you should get additional advice from an informed adviser, such as your ERISA counsel or your CPA. It is critical to understand this agreement, as you must follow all the rules associated with the options you selected.

3) Summary plan description ' A summary plan description is an agreement that should summarize in more simple terms the features of your plan that are included in the basic plan document and that you selected in the adoption agreement. It is important to read this summary plan description carefully. You should make sure it is consistent with how you think the plan works and with the features you selected in the adoption agreement. Unfortunately, sometimes it is not. If it is not, then it needs to be revised to accurately reflect how the plan works. You cannot just rely on your summary plan description to inform you on how your plan works. This document is a description to distribute to eligible participants, to give them something to review that is easier to understand and less cumbersome to read than the plan document and adoption agreement. It is used as a guide for active participants about how the plan works and as a tool for eligible participants to use in deciding if they want to join the plan.

4) Vendor agreements ' You must read, understand and approve other vendor and administrative agreements such as trust agreements, investment adviser agreements, investment policy agreements, investment manager agreements, third-party administrator contracts, broker agreements, CPA agreements and actuarial service agreements. It must be clear what services are to be provided and the timing of those services so that your firm, as the plan sponsor and administrator, can ensure all plan responsibilities are being met.

You can outsource certain services provided to the plan such as payroll accounting, investment management, actuarial services and plan recordkeeping, but you can never outsource your ultimate responsibility. It is the plan sponsor's responsibility to make sure outsourced functions are being completed properly and in a timely manner. This requires review, control and oversight by the plan sponsor. Monitor your service providers carefully after making sure they are qualified to do the job in the first place. It is also your responsibility to make sure any services and expenses paid for by the plan are reasonable and disclosed before entering into an agreement with a plan vendor.

5) Other documents ' You are also responsible for preparing or reviewing and approving (and possibly filing with tax authorities) the following documents on an annual basis:

• Plan financial statements;
• Summary annual report;
• Investment and insurance contracts; and
• Annual Form 5500 or related documents.

In order to ensure your plan was prepared in compliance with current laws and regulations, you should seek the advice of ERISA counsel annually to review it for any updates needed. In order to gain further assurance that your plan is in compliance with current laws and regulations, you should submit your current plan documents to the IRS for review and obtain a determination letter from the IRS. The IRS will issue a determination letter regarding your individual plan with a specific date if your written plan documents are written in compliance with the current laws and regulations.

If you discover that your firm is not operating the plan in compliance with the plan documents, you should seek advice of ERISA counsel. You have three options to correct an operational failure as follows:

• Self Correction;
• Voluntary Correction Program;
• Audit Closing Agreement.

Monitor Eligibility to Participate in the Plan

It may seem like a simple issue with which to comply, but some firms are not compliant with their plan's eligibility requirements. There are many allowable options for eligibility. If a plan does not have a documented age or service requirement, that means there is no age or service requirement and every employee is eligible. Make sure the age and service requirements are clearly documented and followed. Some common errors are as follows:

• Students, interns or part-time employees are excluded even though they meet the minimum age and service requirement.
• Rehires are excluded even though they may be exempt from restarting service requirements, as their prior service may automatically make them eligible to participate in the plan.
• Resident aliens are excluded even though your plan only specifically excludes non-resident aliens.

All employees and participants should be summarized on a census every year with name, date of birth, date of hire, date of rehire, date of termination, annual compensation, eligible compensation and current year 401(k) deferral noted. The source of this information will come from your payroll records, employee files and enrollment records, and active participant account records. This participant data must be secured at the highest level to prevent inadvertent changes to previously accurate information and to reduce the risk of fraud as well. You should include a column on the census that notes if the employee is eligible or ineligible for the plan based on your plan documents. There should also be a column that notes if the employee is actively participating or not actively participating in the plan. An eligible participant can be a non-active participant if that eligible participant chooses not to participate and has never received firm contributions.

However, a non-eligible participant should not be an active participant. You should double-check each year that employees are not improperly included or excluded from the plan.

It is also good practice to document and check that all employees eligible for the plan have been informed of their eligibility, and how and when it was communicated to them and by whom. If this notification is not done internally, you should make sure it is in your third-party contract about how the third party will handle and retain documentation of the notification to eligible participants to join the plan. If the plan has an automatic enrollment feature, this feature and the opt-out rules should be clearly explained to incoming employees.

If you discover that you have eligible participants who you have erroneously excluded from participating in the plan, you must follow the “missed deferral opportunities” rules. Essentially you need to assume that this participant would have made 401(k) employee deferrals at the average deferral rate of existing, active participants of your firm and make a 50% contribution on their behalf to their participant account in the plan. For example, if an employee was erroneously excluded and had eligible compensation of $1,000 and the firm's average deferral rate was 10%, then the plan sponsor must make a contribution to the plan on behalf of the employee for $1,000 times 5% (50% of 10%) or $50. If the firm made a 100% match plus a 3% employer contribution, then the firm would also have to make an additional contribution of $100 for the 100% match (it is based on 100% of estimated missed deferral, not 50%) and $30 for the 3% employer contribution (based on 3% of $1,000 in eligible compensation). This contribution seems small ' $180 in total. But if eligible compensation was $100,000 vs. $1,000, then the additional firm contribution would be $18,000, not $180. If there were 10 people eligible and not just one, then the additional firm contribution could be $180,000 if they all had similar eligible compensation. The liability for the firm can be expensive if plan eligibility rules are not followed and the firm is not operating in compliance with the plan.

Properly Calculate Eligible Compensation

A continuing problem among plan sponsors is not understanding or using the correct definition of eligible compensation when calculating allowable elective employee
salary deferrals, automatic employee salary deferrals, required employer contributions, allocation of discretionary employer contributions and allocation of forfeitures. To make compliance more complicated, there may be several definitions of eligible compensation in your plan document. A plan document may define eligible compensation exactly the same way for employee deferrals and employer contributions, or it may have a specific and different definition of compensation for each contribution to a participant's account: elective deferrals, required matching contribution, discretionary matching contributions, required other employee contributions, discretionary other employer contributions. For example, compensation may be defined one way for employee deferrals (gross wages), but another way for the firm's contribution (gross wages excluding bonuses). Eligible compensation may consider compensation for the whole plan year or just from the date an employee was eligible to participate. In addition, maximum eligible compensation can be set by the plan document and in any event is set by annual IRS rules. For a defined contribution plan for the 2012 calendar year, the maximum allowable compensation is $250,000 ($255,000 for 2013).

If using the wrong definition of eligible compensation when calculating employee deferrals, a number of problems can occur. If a lesser amount of eligible compensation was used than the correct amount, then there exists another missed deferral opportunity situation as described in the previous section and the firm may have to fund a contribution to the employee. If a greater amount was used, then the employer deferred more than the employee elected and the excess contribution needs to be corrected, returned back to and taxed back to the employee.

If use of the wrong definition of compensation for employer contributions is a systemic problem vs. an isolated incident, the correction can be quite expensive for the employer. But it has to be corrected.

Errors must be corrected under one of the correction programs listed above. If the plan is under an IRS or DOL audit, the options for correction will be limited, as a plan cannot file for voluntary compliance once the plan has been selected for audit. But if a plan is in the middle of self-correcting a compliance issue when it is selected for audit, then the DOL will consider this favorably if the plan is about 65% on its way to correction. The IRS and DOL frown upon covering up errors and will attempt to impose the most severe penalties, but promised at the AICPA's 2013 National Conference on Employee Benefit Plans to work with sponsors when they try to fix their plans that are not operating in compliance with their plan documents. The key recommendation here is “Just Fix It!“

Recalculate Plan Contributions

Plan sponsors should institute the proper internal controls to ensure that plan contributions are made in compliance with the plan documents, as sometimes plan contributions are wrong for many other reasons. Below are a few examples:

1) The plan has a match on catch-up contributions, but the firm did not calculate the match on catch-up contributions and therefore must contribute them on behalf of participants. A catch-up contribution is an additional employee elective deferral that an employee can make if he or she has reached the age of 50 during the plan year. The maximum catch-up contribution is $5,500 for 2012 and 2013. If the firm has a 401(k) matching contribution, the firm plan document will stipulate whether or not this includes the over 50 catch-up contribution. You need to read the fine print in your plan document to determine this.

2) The plan has annual true up of employer matching contributions, but the firm did not calculate the annual true up. A firm can elect to make matching contributions with each pay period or after year end. If the matching contribution is calculated with each pay period, then the firm can also elect to end it there or true up the matching contribution at the end of the year based on annual compensation and annual elective deferrals. This is defined in your firm's plan document based on the option selected in the plan document. If an employer has made the election to true up the matching contribution annually and is not doing so, then the employee will be due an additional employer contribution, when the employer corrects this problem. If the plan does not allow for a year-end true up of employer matching contributions and the firm calculates and funds one, then the employer has over contributed to participant accounts and this needs to be corrected also.

3) The plan does not adhere to annual IRS pension limitations. The maximum employee annual compensation limit is $250,000 for 2012 ($255,000 for 2013). If a contribution to the plan is made using a definition of compensation that exceeds this limit, then the employee may have made an excessive elective salary deferral or the employer may have made an excess employer contribution to a plan participant. Likewise, the annual maximum elective deferral amount is $17,000 in 2012 ($17,500 for 2013) for an employee and the maximum catch-up contribution is $5,500 for 2012 and 2013. Sometimes employers allow employees to exceed these limits because they are relying solely on outside parties and not monitoring compliance through their payroll system and forget to stop withholding from an employee's paycheck once he hits these limits. In addition, if an employee worked for a previous firm during the current year, that new employee may have made 401(k) deferrals to another plan and has over deferred in your firm plan because he did not inform you of his deferral made in a previous employer plan for the same calendar year.

4) The plan is top heavy, but has not made a top-heavy contribution. If a plan is top heavy, it must take corrective action to make it not be top heavy, or it must make a top-heavy contribution. Top-heavy contributions can be some of the largest contributions required as they could affect everyone in the plan to the extent of 3% or more of eligible compensation depending on the testing of the plan. Top-heavy contributions can be corrected by electing to make required contributions only to non-highly compensated employees, which could reduce the required payment if this option was elected in your plan document. Always make sure your firm calculates or has engaged an expert to calculate whether the firm's plan is top heavy. If you do not calculate whether the plan is top heavy annually and it is discovered that the plan is top heavy, there may be a number of years that need to be corrected.

The above are some of the more common contributions errors discovered under audit, but unfortunately is not an exhaustive list of errors found. Strong internal controls, double-checking the work of others and recalculating key amounts in accordance with your plan documents can prevent or catch some of these errors. Remember you can outsource some of your work, but not your ultimate responsibility for compliance with your plan.

Contribute Employee Elective Salary Deferrals Timely to the Participant Accounts

When a plan sponsor withholds an employee's desired 401(k) contribution from an employee's eligible gross wages, the withholding must be remitted as soon as practicable, i.e., when it can be segregated properly from other assets, but no later than 15 business days after the month end during which it was withheld from the employee. Practically, there is probably no reason why your employee 401(k) withholdings cannot be remitted to the pension plan and allocated to participants' accounts within one to three business days after payroll is paid. Some employers used to routinely hold on to employees' withholdings and remit them on the last day possible, even if they could have submitted them earlier. This is unacceptable. Late remittances are considered loans from the plan to the employer who is holding on to them and in some instances can be considered fraud by employers. Employers with late remittances must take corrective actions and remit the late funds as well as lost earnings to the plan. These late remittances may be subject to penalties and are required to be reported as late on the pension plan's annual reporting to the IRS, Form 5500. They are also required to be disclosed in the plan's audited financial statements, if an audit is required or otherwise performed.

For small plans, those with less than 100 eligible participants, a safe harbor remittance period exists. The safe harbor rule requires that any 401(k) contributions withheld from an employee's paycheck must be remitted to the qualified plan no later than seven business days from when the amounts were withheld. This rule applies to withholdings for 401(k) contributions as well as for participant loan repayments. This safe harbor rule does not apply to large plans under ERISA ' generally those plans with 100 of more eligible participants. To reduce the risk of additional liabilities or fraud, review, document and implement internal controls surrounding timely remittances so that your firm can remit employee withholding within one to three business days routinely. Any deviations should be clearly documented as to the reason why and what was changed to prevent a delay in the future. Any remittances deemed late must be reported to the DOL.

Other Compliance Failures

1) Improper determination of vesting for participant contribution. This error may be due to a number of reasons:

• Using incorrect census data such as date of hire, date of rehire, date of eligibility, or date of termination;
• Miscalculating years of eligibility and vesting due to mathematical error;
• The occurrence of a partial termination which automatically vests any terminated participants.

2) Rising participant loans and repayments errors. In the recent and long-lasting economic downturn, employee loans from their pension plan participant accounts are on the rise. As a result, there have been more errors discovered related to employee loans. These include the following:

• Unrecognized and uncorrected events of defaults;
• Improper repayments of loans;
• Untimely remittances of loan repayments;
• Loans made when the plan document does not allow for loans to exist;
• Improper reason for hardship withdrawals;
• A greater number of outstanding loans per participant than the plan document allows.

3) Misuse of plan forfeitures. Plan documents specify how an account forfeiture must be used. Forfeitures may be reallocated to certain plan participants, as described in the plan, used to fund future employer contributions, used to pay certain plan expenses or a combination thereof. If plan forfeitures are applied incorrectly, the firm may have to contribute more to the plan to fund the required use of the forfeitures;

4) Misuse of revenue sharing refunds;

5) Non-compliance with minimum distribution rules.

Conclusion

Employee benefits plans are complicated, and your plan is unique to your firm. Your firm must know your plan intimately and those at your firm in charge of governance of the plan must be competent, implement controls to reduce the risk of fraud or loss, and safeguard participants' interests. After being sure you understand your plan documents, make sure you are following them by reviewing the key areas of errors and non-compliance. You are dealing with other people's money and retirement security, and this responsibility should not be taken lightly. This requires a team effort at your firm among those in charge of governance, the management team, the finance, accounting and payroll departments, and human resource personnel. Through annual education and training, you can operate your pension plan in compliance with ERISA in an efficient and cost-effective manner while improving the security of retirement benefits for plan participants.

To learn more about your compliance requirements and how you rate, read your plan documents, consult with your CPA, consult with an ERISA attorney, do a self-audit of the plan, and go to www.dol.gov/ebsa/ or www.irs.gov/Retirement-Plans.

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K. Jennie Kinnevy is the director of the Law Firm Services Group at Feeley & Driscoll, P.C. (www.fdcpa.com). The Group provides tax, accounting, business advisory and consulting services to law firms. Based in Boston, Kinnevy can be reached at [email protected]%20or by phone at 617-456-2407.

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Generally, if your law firm-sponsored pension plan (defined contribution plan or defined benefit plan) has more than 100 eligible participants, your plan must be audited by a qualified independent certified public accounting (CPA) firm on an annual basis. But even if your firm does not have greater than 100 eligible participants, your plan could be selected for an audit directly by the Internal Revenue Service (IRS) or the Department of Labor (DOL). How would you survive an audit by your CPA firm, the IRS or the DOL? Read on for key information on the most frequent problems found with pension plans during employee benefit plan audits, and how you can self-audit your plan for possible compliance issues and options you have to correct them.

Follow Your Plan Documents

The first step in surviving a pension plan audit is making sure you follow your plan documents. Assuming that they are up-to-date with all the laws and regulations established under the Employee Retirement Income Security Act (ERISA), what documents should you read to make sure you are in compliance? There is a long list of documents that includes the following:

1) Basic plan document ' Your basic plan document is usually called a prototype plan document. It can be standard or non-standard. Non-standard plan documents have customized features or non-standard clauses that you need to understand. While a standard prototype plan may be written to be in compliance with ERISA, you may want to get a separate determination letter for a non-standardized plan to make sure all the added customized features are also in compliance with laws and regulations. Generally, the basic plan document describes all the default features of a group of pension plans that use the basic plan document. Then optional features are selected in the firm's adoption agreement.

2) Adoption agreement ' Even though a plan may be a standardized prototype plan, each law firm's employee benefit plan is unique, based on what optional
features are selected by the plan sponsor in the adoption agreement. An adoption agreement is basically a checklist of optional features concerning eligibility, definitions of compensation, deferral limitations, employer contributions, use of forfeitures, distribution requirements, testing compliance methods, participants' loan conditions, and distributions requirement or methods.

You must read your adoption agreement carefully when making selections. It can be confusing. You should make sure your third-party administrator (TPA), who sends you the adoption agreement to complete or has completed it for you based on your instructions, explains what each option means and how the options you intend to select or have selected affect the operation of your benefit plan. If you do not understand the options, then you should get additional advice from an informed adviser, such as your ERISA counsel or your CPA. It is critical to understand this agreement, as you must follow all the rules associated with the options you selected.

3) Summary plan description ' A summary plan description is an agreement that should summarize in more simple terms the features of your plan that are included in the basic plan document and that you selected in the adoption agreement. It is important to read this summary plan description carefully. You should make sure it is consistent with how you think the plan works and with the features you selected in the adoption agreement. Unfortunately, sometimes it is not. If it is not, then it needs to be revised to accurately reflect how the plan works. You cannot just rely on your summary plan description to inform you on how your plan works. This document is a description to distribute to eligible participants, to give them something to review that is easier to understand and less cumbersome to read than the plan document and adoption agreement. It is used as a guide for active participants about how the plan works and as a tool for eligible participants to use in deciding if they want to join the plan.

4) Vendor agreements ' You must read, understand and approve other vendor and administrative agreements such as trust agreements, investment adviser agreements, investment policy agreements, investment manager agreements, third-party administrator contracts, broker agreements, CPA agreements and actuarial service agreements. It must be clear what services are to be provided and the timing of those services so that your firm, as the plan sponsor and administrator, can ensure all plan responsibilities are being met.

You can outsource certain services provided to the plan such as payroll accounting, investment management, actuarial services and plan recordkeeping, but you can never outsource your ultimate responsibility. It is the plan sponsor's responsibility to make sure outsourced functions are being completed properly and in a timely manner. This requires review, control and oversight by the plan sponsor. Monitor your service providers carefully after making sure they are qualified to do the job in the first place. It is also your responsibility to make sure any services and expenses paid for by the plan are reasonable and disclosed before entering into an agreement with a plan vendor.

5) Other documents ' You are also responsible for preparing or reviewing and approving (and possibly filing with tax authorities) the following documents on an annual basis:

• Plan financial statements;
• Summary annual report;
• Investment and insurance contracts; and
• Annual Form 5500 or related documents.

In order to ensure your plan was prepared in compliance with current laws and regulations, you should seek the advice of ERISA counsel annually to review it for any updates needed. In order to gain further assurance that your plan is in compliance with current laws and regulations, you should submit your current plan documents to the IRS for review and obtain a determination letter from the IRS. The IRS will issue a determination letter regarding your individual plan with a specific date if your written plan documents are written in compliance with the current laws and regulations.

If you discover that your firm is not operating the plan in compliance with the plan documents, you should seek advice of ERISA counsel. You have three options to correct an operational failure as follows:

• Self Correction;
• Voluntary Correction Program;
• Audit Closing Agreement.

Monitor Eligibility to Participate in the Plan

It may seem like a simple issue with which to comply, but some firms are not compliant with their plan's eligibility requirements. There are many allowable options for eligibility. If a plan does not have a documented age or service requirement, that means there is no age or service requirement and every employee is eligible. Make sure the age and service requirements are clearly documented and followed. Some common errors are as follows:

• Students, interns or part-time employees are excluded even though they meet the minimum age and service requirement.
• Rehires are excluded even though they may be exempt from restarting service requirements, as their prior service may automatically make them eligible to participate in the plan.
• Resident aliens are excluded even though your plan only specifically excludes non-resident aliens.

All employees and participants should be summarized on a census every year with name, date of birth, date of hire, date of rehire, date of termination, annual compensation, eligible compensation and current year 401(k) deferral noted. The source of this information will come from your payroll records, employee files and enrollment records, and active participant account records. This participant data must be secured at the highest level to prevent inadvertent changes to previously accurate information and to reduce the risk of fraud as well. You should include a column on the census that notes if the employee is eligible or ineligible for the plan based on your plan documents. There should also be a column that notes if the employee is actively participating or not actively participating in the plan. An eligible participant can be a non-active participant if that eligible participant chooses not to participate and has never received firm contributions.

However, a non-eligible participant should not be an active participant. You should double-check each year that employees are not improperly included or excluded from the plan.

It is also good practice to document and check that all employees eligible for the plan have been informed of their eligibility, and how and when it was communicated to them and by whom. If this notification is not done internally, you should make sure it is in your third-party contract about how the third party will handle and retain documentation of the notification to eligible participants to join the plan. If the plan has an automatic enrollment feature, this feature and the opt-out rules should be clearly explained to incoming employees.

If you discover that you have eligible participants who you have erroneously excluded from participating in the plan, you must follow the “missed deferral opportunities” rules. Essentially you need to assume that this participant would have made 401(k) employee deferrals at the average deferral rate of existing, active participants of your firm and make a 50% contribution on their behalf to their participant account in the plan. For example, if an employee was erroneously excluded and had eligible compensation of $1,000 and the firm's average deferral rate was 10%, then the plan sponsor must make a contribution to the plan on behalf of the employee for $1,000 times 5% (50% of 10%) or $50. If the firm made a 100% match plus a 3% employer contribution, then the firm would also have to make an additional contribution of $100 for the 100% match (it is based on 100% of estimated missed deferral, not 50%) and $30 for the 3% employer contribution (based on 3% of $1,000 in eligible compensation). This contribution seems small ' $180 in total. But if eligible compensation was $100,000 vs. $1,000, then the additional firm contribution would be $18,000, not $180. If there were 10 people eligible and not just one, then the additional firm contribution could be $180,000 if they all had similar eligible compensation. The liability for the firm can be expensive if plan eligibility rules are not followed and the firm is not operating in compliance with the plan.

Properly Calculate Eligible Compensation

A continuing problem among plan sponsors is not understanding or using the correct definition of eligible compensation when calculating allowable elective employee
salary deferrals, automatic employee salary deferrals, required employer contributions, allocation of discretionary employer contributions and allocation of forfeitures. To make compliance more complicated, there may be several definitions of eligible compensation in your plan document. A plan document may define eligible compensation exactly the same way for employee deferrals and employer contributions, or it may have a specific and different definition of compensation for each contribution to a participant's account: elective deferrals, required matching contribution, discretionary matching contributions, required other employee contributions, discretionary other employer contributions. For example, compensation may be defined one way for employee deferrals (gross wages), but another way for the firm's contribution (gross wages excluding bonuses). Eligible compensation may consider compensation for the whole plan year or just from the date an employee was eligible to participate. In addition, maximum eligible compensation can be set by the plan document and in any event is set by annual IRS rules. For a defined contribution plan for the 2012 calendar year, the maximum allowable compensation is $250,000 ($255,000 for 2013).

If using the wrong definition of eligible compensation when calculating employee deferrals, a number of problems can occur. If a lesser amount of eligible compensation was used than the correct amount, then there exists another missed deferral opportunity situation as described in the previous section and the firm may have to fund a contribution to the employee. If a greater amount was used, then the employer deferred more than the employee elected and the excess contribution needs to be corrected, returned back to and taxed back to the employee.

If use of the wrong definition of compensation for employer contributions is a systemic problem vs. an isolated incident, the correction can be quite expensive for the employer. But it has to be corrected.

Errors must be corrected under one of the correction programs listed above. If the plan is under an IRS or DOL audit, the options for correction will be limited, as a plan cannot file for voluntary compliance once the plan has been selected for audit. But if a plan is in the middle of self-correcting a compliance issue when it is selected for audit, then the DOL will consider this favorably if the plan is about 65% on its way to correction. The IRS and DOL frown upon covering up errors and will attempt to impose the most severe penalties, but promised at the AICPA's 2013 National Conference on Employee Benefit Plans to work with sponsors when they try to fix their plans that are not operating in compliance with their plan documents. The key recommendation here is “Just Fix It!“

Recalculate Plan Contributions

Plan sponsors should institute the proper internal controls to ensure that plan contributions are made in compliance with the plan documents, as sometimes plan contributions are wrong for many other reasons. Below are a few examples:

1) The plan has a match on catch-up contributions, but the firm did not calculate the match on catch-up contributions and therefore must contribute them on behalf of participants. A catch-up contribution is an additional employee elective deferral that an employee can make if he or she has reached the age of 50 during the plan year. The maximum catch-up contribution is $5,500 for 2012 and 2013. If the firm has a 401(k) matching contribution, the firm plan document will stipulate whether or not this includes the over 50 catch-up contribution. You need to read the fine print in your plan document to determine this.

2) The plan has annual true up of employer matching contributions, but the firm did not calculate the annual true up. A firm can elect to make matching contributions with each pay period or after year end. If the matching contribution is calculated with each pay period, then the firm can also elect to end it there or true up the matching contribution at the end of the year based on annual compensation and annual elective deferrals. This is defined in your firm's plan document based on the option selected in the plan document. If an employer has made the election to true up the matching contribution annually and is not doing so, then the employee will be due an additional employer contribution, when the employer corrects this problem. If the plan does not allow for a year-end true up of employer matching contributions and the firm calculates and funds one, then the employer has over contributed to participant accounts and this needs to be corrected also.

3) The plan does not adhere to annual IRS pension limitations. The maximum employee annual compensation limit is $250,000 for 2012 ($255,000 for 2013). If a contribution to the plan is made using a definition of compensation that exceeds this limit, then the employee may have made an excessive elective salary deferral or the employer may have made an excess employer contribution to a plan participant. Likewise, the annual maximum elective deferral amount is $17,000 in 2012 ($17,500 for 2013) for an employee and the maximum catch-up contribution is $5,500 for 2012 and 2013. Sometimes employers allow employees to exceed these limits because they are relying solely on outside parties and not monitoring compliance through their payroll system and forget to stop withholding from an employee's paycheck once he hits these limits. In addition, if an employee worked for a previous firm during the current year, that new employee may have made 401(k) deferrals to another plan and has over deferred in your firm plan because he did not inform you of his deferral made in a previous employer plan for the same calendar year.

4) The plan is top heavy, but has not made a top-heavy contribution. If a plan is top heavy, it must take corrective action to make it not be top heavy, or it must make a top-heavy contribution. Top-heavy contributions can be some of the largest contributions required as they could affect everyone in the plan to the extent of 3% or more of eligible compensation depending on the testing of the plan. Top-heavy contributions can be corrected by electing to make required contributions only to non-highly compensated employees, which could reduce the required payment if this option was elected in your plan document. Always make sure your firm calculates or has engaged an expert to calculate whether the firm's plan is top heavy. If you do not calculate whether the plan is top heavy annually and it is discovered that the plan is top heavy, there may be a number of years that need to be corrected.

The above are some of the more common contributions errors discovered under audit, but unfortunately is not an exhaustive list of errors found. Strong internal controls, double-checking the work of others and recalculating key amounts in accordance with your plan documents can prevent or catch some of these errors. Remember you can outsource some of your work, but not your ultimate responsibility for compliance with your plan.

Contribute Employee Elective Salary Deferrals Timely to the Participant Accounts

When a plan sponsor withholds an employee's desired 401(k) contribution from an employee's eligible gross wages, the withholding must be remitted as soon as practicable, i.e., when it can be segregated properly from other assets, but no later than 15 business days after the month end during which it was withheld from the employee. Practically, there is probably no reason why your employee 401(k) withholdings cannot be remitted to the pension plan and allocated to participants' accounts within one to three business days after payroll is paid. Some employers used to routinely hold on to employees' withholdings and remit them on the last day possible, even if they could have submitted them earlier. This is unacceptable. Late remittances are considered loans from the plan to the employer who is holding on to them and in some instances can be considered fraud by employers. Employers with late remittances must take corrective actions and remit the late funds as well as lost earnings to the plan. These late remittances may be subject to penalties and are required to be reported as late on the pension plan's annual reporting to the IRS, Form 5500. They are also required to be disclosed in the plan's audited financial statements, if an audit is required or otherwise performed.

For small plans, those with less than 100 eligible participants, a safe harbor remittance period exists. The safe harbor rule requires that any 401(k) contributions withheld from an employee's paycheck must be remitted to the qualified plan no later than seven business days from when the amounts were withheld. This rule applies to withholdings for 401(k) contributions as well as for participant loan repayments. This safe harbor rule does not apply to large plans under ERISA ' generally those plans with 100 of more eligible participants. To reduce the risk of additional liabilities or fraud, review, document and implement internal controls surrounding timely remittances so that your firm can remit employee withholding within one to three business days routinely. Any deviations should be clearly documented as to the reason why and what was changed to prevent a delay in the future. Any remittances deemed late must be reported to the DOL.

Other Compliance Failures

1) Improper determination of vesting for participant contribution. This error may be due to a number of reasons:

• Using incorrect census data such as date of hire, date of rehire, date of eligibility, or date of termination;
• Miscalculating years of eligibility and vesting due to mathematical error;
• The occurrence of a partial termination which automatically vests any terminated participants.

2) Rising participant loans and repayments errors. In the recent and long-lasting economic downturn, employee loans from their pension plan participant accounts are on the rise. As a result, there have been more errors discovered related to employee loans. These include the following:

• Unrecognized and uncorrected events of defaults;
• Improper repayments of loans;
• Untimely remittances of loan repayments;
• Loans made when the plan document does not allow for loans to exist;
• Improper reason for hardship withdrawals;
• A greater number of outstanding loans per participant than the plan document allows.

3) Misuse of plan forfeitures. Plan documents specify how an account forfeiture must be used. Forfeitures may be reallocated to certain plan participants, as described in the plan, used to fund future employer contributions, used to pay certain plan expenses or a combination thereof. If plan forfeitures are applied incorrectly, the firm may have to contribute more to the plan to fund the required use of the forfeitures;

4) Misuse of revenue sharing refunds;

5) Non-compliance with minimum distribution rules.

Conclusion

Employee benefits plans are complicated, and your plan is unique to your firm. Your firm must know your plan intimately and those at your firm in charge of governance of the plan must be competent, implement controls to reduce the risk of fraud or loss, and safeguard participants' interests. After being sure you understand your plan documents, make sure you are following them by reviewing the key areas of errors and non-compliance. You are dealing with other people's money and retirement security, and this responsibility should not be taken lightly. This requires a team effort at your firm among those in charge of governance, the management team, the finance, accounting and payroll departments, and human resource personnel. Through annual education and training, you can operate your pension plan in compliance with ERISA in an efficient and cost-effective manner while improving the security of retirement benefits for plan participants.

To learn more about your compliance requirements and how you rate, read your plan documents, consult with your CPA, consult with an ERISA attorney, do a self-audit of the plan, and go to www.dol.gov/ebsa/ or www.irs.gov/Retirement-Plans.

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K. Jennie Kinnevy is the director of the Law Firm Services Group at Feeley & Driscoll, P.C. (www.fdcpa.com). The Group provides tax, accounting, business advisory and consulting services to law firms. Based in Boston, Kinnevy can be reached at [email protected]%20or by phone at 617-456-2407.

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