Contributing Author: Kristine M. Custodio, Advanced Certified Paralegal
In my previous blog post, I discussed internal controls that plan sponsors of qualified plans can implement to avoid or mitigate compliance issues before an audit is initiated. But what happens when you receive that dreaded audit letter from the Department of Labor (DOL) or Internal Revenue Service (IRS)?
First, take a deep breath. Next, make note of any deadlines prescribed within the letter for response to the items being sought under the examination. Review the audit letter thoroughly. Make note of the time period under review. Then begin compiling your responsive documentation, preferably in the order requested, and placed in a three-ring binder with dividers or tabs. Your documentation will be critical to a swift resolution of the examination.
It may be the case that you do not maintain some or all of the documents required by the administrative agency. As such, you should promptly contact your plan administrator or recordkeeper for the items being sought of which you are not in possession. If you have plan counsel, you may prefer that your attorney act as your agent during the audit process. This may be accomplished by your attorney and you executing a Power of Attorney (Form 2848) and submitting the completed form to the reviewing agent. Oftentimes, plan sponsors desire an ERISA attorney who is experienced with handling DOL and IRS audits to act on their behalf.
The reviewing agent from the DOL or IRS may request an on-site review. If this is the case and you have not retained your plan counsel to represent you during the audit and to act on your behalf, be courteous and professional to the agent. Make sure that the agent is provided a comfortable and private space to review the responsive documentation. If you are being interviewed and do not understand the question or are not sure of the answer, state just that. You are able to supplement your response once you are able to clarify the request being made by the agent. At this point, if you have not already retained your plan counsel or an ERISA attorney to assist or represent you during the audit process, it may be in the best interest of the plan and its participants to do so for a more expedient conclusion to the audit.
The audit process may take several months, and the agent may request additional information to make sure that the plan is operating in compliance with the law. Upon completion of the audit, the agent may issue a Closing Letter with no findings during the examination. However, if there are plan compliance issues, the agent may issue penalties amongst other things.
The DOL has the power to seek criminal penalties (up to $100,000 or 10 years in prison) against anyone who willfully violates ERISA, including, but not limited to, engaging in prohibited transactions, self-dealing, embezzling 401(k) trust assets and using employee 401(k) deferrals to pay for other business expenses. (See U.S. v. Eriksen) Depending on the compliance issues in violation of the law, the agent may recommend disqualification of the plan which would result in the loss of its tax-qualified status, ultimately causing the employer to lose its deductions for contributions and the trust to be impacted with income and excise tax liability, penalties and interest. Moreover, any employee distributions that may have been rolled over into an IRA or other tax-qualified plan may not be eligible for rollover and may become immediately taxable.
Once your plan is under review, if there are plan corrections discovered by the IRS agent, generally the IRS's voluntary correction programs (“VCP”) are not available. Instead, the plan sponsor will need to go through the IRS Audit Closing Agreement Program (“Audit CAP”), whereby the plan sponsor may correct any plan failures and pay a sanction. It is advisable to retain an ERISA attorney for Audit CAP negotiations and before entering a Closing Agreement through Audit CAP.
Should you find your plan under audit, don't fret. If you have been diligently adhering to the best practices I earlier recommended, the examination should be a swift and smooth process. If you have questions about IRS or DOL audits, contact the attorneys at Butterfield Schechter LLP for more information. Our attorneys have an extensive history of counseling plans through an IRS or DOL audit.