If you’re a business owner, the chances are that your worst nightmare is an IRS audit. These days, however, middle market companies should be more concerned about being raked over the coals by a little-known agency called the Employee Benefits Security Administration (EBSA) for making costly mistakes with retirement plans.
With retirement plans becoming increasingly complex, regulations mushrooming and a greater government focus on enforcement, what employers don’t know really does hurt them.
EBSA—part of the U.S. Department of Labor—enforces the Employee Retirement Income Security Act (ERISA). It regulates 681,000 retirement plans worth trillions of dollars. In recent years, it has significantly ratcheted up its number of audits. In 2015, it recovered $777.5 million from companies that had problems with their retirement plans.
EBSA last year undertook 2,002 civil investigations, working on tips from retirement plan participants, referrals from the IRS arising during tax audits, and from random checks of plans. More than 67 percent of those cases ended in fines or other corrective actions.
Make no mistake, these audits are arduous, taking months or years, and requiring endless documents. The DOL also has federal subpoena power and, as well as being able to levy fines, it can bring criminal charges. It also refers cases to the IRS when it finds potential tax issues.
Unwanted EBSA audits are also expensive—the average recovery of payments to plans and participants in 2016 was $388,360.
At First Western Trust, clients tell us again and again about the same ERISA problems. Trouble often begins by using a payroll firm or a large retirement plan company to administer its plan. Because such firms assume no fiduciary responsibility for the plan and have little technical expertise, there are often misunderstandings about who is responsible for what.
As a result, human resources managers and business owners are saddled with fiduciary responsibility of the retirement plan that they don’t understand. Meanwhile, oblivious corporate officers believe HR and outside service providers are handling everything. It’s a recipe for disaster.
Among the most common mistakes retirement plan sponsors make are not bringing employees into plans when they become eligible, not knowing who should be in the plan, not making correct contributions, and not using the proper definition of compensation.
So, what goes wrong?
Among the most common mistakes retirement plan sponsors make are not bringing employees into plans when they become eligible, not knowing who should be in the plan, not making correct contributions, and not using the proper definition of compensation. For example, does the plan define compensation as salary alone or does it include bonuses, commissions, and fringe benefits?
Keeping up with changing regulations and maintaining accurate documents has grown ever more complex. Most companies do a great job ensuring that they get excellent investment advice when setting up their retirement plan. But, administering that same plan requires the same level of professional service to assure ERISA compliance.
To avoid problems, firms must file an accurate and complete annual ERISA form 5500 and distribute required notices on time. Companies should also voluntarily correct mistakes and immediately report them to EBSA to avoid potentially higher fines.
Some employers might wonder if it would be simpler to stop offering a retirement plan altogether. However, plans have become integral to most compensation strategies, and a competitive benefits package helps companies attract and retain workers. In addition, retirement plans are one of the few tax-advantaged vehicles for saving still available to most workers.
The good news is that it’s relatively easy for companies to avoid major headaches with a little planning. Companies should regularly undertake a compliance review with an ERISA attorney or with an independent consultant.
Companies finding any problems should consider retaining an independent Third Party Administrator (“TPA”) to ensure the smooth running of their retirement plan. A good TPA adds value beyond simply avoiding an EBSA audit—offering advice to ensure the plan meets its stated objectives and by asking the right questions. Does your retirement plan maximize the firm’s benefit dollars? Does it take advantage of the tax benefits available for employees? Can it be used as a part of succession planning?
For example, to maximize benefits, employers can choose to contribute part of an annual bonus as a profit sharing contribution to avoid payroll taxes.
Retirement plans can also help succession planning, particularly in closely-held private companies. A business owner over age 50 can use a cash balance plan in combination with a 401(k) to generate a retirement benefit worth more than $1 million over five or six years. This kind of sophisticated planning can avoid forcing an owner to sell a business to retire.
The Department of Labor wants retirement plan sponsors to take their fiduciary responsibilities under ERISA seriously to make sure the savings of every American are safe. Any company hoping to avoid the discomfort of an EBSA audit would be well advised to add monitoring ERISA compliance to their broader risk management efforts.
Eileen Baldwin-Shaw is an ERISA consultant heading up First Western Trust’s Third Party Administrative Services practice.