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Over-Reliance on Limited-Scope Audits Harms Benefit Plan Participants, Borzi Says

Thursday, May 3, 2012
By Florence Olsen

Report on AICPA Employee Benefit Plans Conference
Key Topic: DOL is concerned about over-reliance on limited-scope plan audits.

Key Takeaway: Limited-scope audits can mask potential conflicts of interest.

ATLANTA--Assistant Secretary of Labor Phyllis C. Borzi issued a harsh rebuke of limited-scope audits on the opening day of an April 30-May 2 conference of certified public accountants.

“The limited-scope audit is practically useless,” said Borzi, assistant secretary of the Department of Labor's Employee Benefits Security Administration.

Speaking April 30 at the American Institute of CPA's conference on employee benefit plans, Borzi said limited-scope audits do not protect participants, and yet about 65 percent of employee benefit plan audits are limited-scope audits.

“You don't issue an opinion based on the financial statements because of the scope limitation,” she said. “Unfortunately, ordinary people think this disclaimer means that no audit at all has been conducted, and the dirty little secret is that, in terms of its effectiveness, probably that's right,” Borzi said.

In a limited-scope audit, auditors are required to compare information certified by the plan trustees or custodians with information provided in the company's financial statement. Auditors also must verify that all investments were properly presented and disclosed and that any received or disbursed amounts reported by the trustees or custodians were handled according to the plan's provisions (7 PBD, 1/13/10; 37 BPR 103, 1/19/10).

The ERISA Advisory Council examined limited-scope plan audits in 2010, but did not recommend eliminating them. Instead, the council suggested that the Form 5500 be amended to identify those auditors who were members of the AICPA's Employee Benefit Plan Audit Quality Center (214 PBD, 11/8/10; 37 BPR 2425, 11/9/10).

Conflicts of Interest
Conflicts of interest are a problem when auditors simply rely on a financial institution's business records for the valuation of an asset, especially when financial institutions stand to benefit by overstating the value of those assets, Borzi said.

The limited-scope audit has outlived its usefulness, even as a less-expensive alternative to a full-scope audit, Borzi said. Little difference in price distinguishes the two types of audits today, she said.

Although EBSA might prefer to eliminate reliance on limited-scope audits, it has no authority to do so, Borzi said. Only action by Congress could end limited-scope audits but, despite some interest on Capitol Hill, no action is likely, she said.

“It's hard to imagine passing a Mother's Day resolution in this Congress,” she added.

Substandard Audits
The culprit in substandard plan audits generally is inadequate compensation, Borzi said, an observation also confirmed by EBSA's chief accountant Ian Dingwall in a later session of the conference.

Auditors who think they are being compensated at an insufficient rate are the primary ones producing substandard audits, Borzi said. AICPA's Employee Benefit Plan Audit Quality Center has raised the professional standards for plan audits, but more improvements must be made, she said.

Lack of Authority
Borzi reminded the audience, largely made up of accountants, that DOL lacks authority to regulate employee plan auditors, despite auditors' duties to plan participants under the Employee Retirement Income Security Act.

The secretary of labor cannot set accounting standards or impose sanctions for substandard work unless it rises to the level of knowing participation in a fiduciary breach, Borzi said.

“The only tool we have if we find crummy audits is to reject the 5500 form, and that doesn't strike me as a particularly effective tool,” she said.

Self-policing by the auditing profession also has not provided adequate enforcement of professional standards to ensure that plans participants are not harmed, Borzi said.

ERISA Duties
Borzi also reminded the auditors in attendance of their duties under ERISA, instructing them that auditors go astray when they forget that their client is the plan participant, not the plan sponsor.

Plan auditors must be independent, even when they rely on the work of specialists, such as appraisers and trustees, Borzi said. The drafters of ERISA expected auditors to take a skeptical look at valuations and appraisals and not blindly accept the work of plan service providers, she said.

Dingwall, in a later session, said auditors should request the expert help they need to assess valuations and appraisals.

Employee stock ownership plans, one of EBSA's audit priorities, require special vigilance on the part of auditors, Borzi said. EBSA has seen many cases in which auditors accepted improper ESOP valuation methodologies and assumptions, creating serious and expensive problems for ESOP participants.

Fiduciary Rule
EBSA expects to repropose a redrafted fiduciary regulation when it completes work on clarifying aspects of the rule, which could be a couple of months from now, Borzi said.

In updating the regulation that defines a fiduciary, the department seeks to impose a legal liability on individuals who represent themselves as financial advisers when giving individualized investment advice, Borzi said.

Any financial service providers who represent themselves as trusted advisers to a client must put the client's financial interest first, she said.

By Florence Olsen

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