A Change in Perspective

This posting comes in from a different perspective - that of the benefit plan auditor.  Since the reporting season for the calendar 2005 plan year is pretty much over, I thought it might be valuable to go over some of the problems that cropped up this year on such audits. After nearly 30 years of doing these audits, one would think that the audit requirement would be pretty well understood by now and the season would flow very smoothly.   I shouldn’t be saying that the season is “pretty much over.” It should be just plain over.

Such was not the case this year. At an AICPA committee meeting last week, practice leaders from some of the nation’s largest CPA firms agreed that there were more Forms 5500 filed without audit reports this year than any year that they could recall. Surprisingly, in early October 2006, all were receiving requests for proposals for calendar 2005 or earlier plan audits.

What is up with this? 

First, the plan audit process is a lot more complicated than it used to be and over the next several years, plan sponsors are going to find it even more complex. Today the complexities arise from paperless systems, HIPAA and other privacy considerations, mergers and acquisition activity, service providers' desire to protect what they see as their proprietary interests and changing investment arrangements. This has resulted in many audit firms leaving the business of doing plan audits or, at least, culling their client lists. That means that many plans are changing auditors unexpectedly and, often, late in the game. Hence, we have the problem with too many incomplete filings this year.

But that is not the only reason. There were simply a lot of problems this year. I wanted to take advantage of this space to give the readers some free advice on working with their benefit plan auditor.

  1. Arrange a meeting with your plan auditor in the next couple weeks to plan next year’s audit.
  2. Review problem areas from the prior plan year and what can be done to eliminate them. Common problem areas this year included:
    1. Plan documents that did not conform to the plan’s operation. This seems to be a trend as more and more sponsors shift to prototype or volume submitter plans. Those nuances of plan operations that were embedded in their individually designed plans persist in operation, but were omitted from the restated version of the plan.
    2. Operational defects: Though annoying to discover, wouldn’t you rather know now that your system has omitted eligible employees, enrolled ineligible, used the wrong definition of compensation or any one of the hundreds of things that can go wrong with the plan’s operations? Remember, an audit is based upon sampling, so there is no assurance that all operational defects will be identified. Just be grateful for the ability to promptly address those items that are discovered.
    3. Privacy and confidentiality agreements: The auditor is obligated by ERISA to follow generally accepted auditing standards. That means the auditor must look at statistically valid samples of the operating data of the plan. The terms under which the auditor is granted access to this information should be set as soon as possible with all parties responsible for the plan’s operations. Once set, such terms should remain in place until there is a change in the parties involved or a change in the law. 
    4. Plan combinations: It is a simple thing for an auditor to audit a rollover. But, when an entire population is entering a plan with all of the history associated with the prior plan, the plan sponsor’s duties increase and so do the auditor’s. So, talk about any such activity during a planning session.
    5. System changes: Because of the paperless environment, auditors rely heavily on the controls built into electronic systems, so make sure you advise your auditor of any such changes. 
    6. Hard to value assets: ERISA requires that plan assets and liabilities be reported at fair value. For plans that invest in publicly traded vehicles that is not a problem. But, recently plans have again started investing in arrangements for which there is no active market – real estate partnerships, hedge funds, etc.
    7. Late deposits: This has been an irritant in the audit process for nearly a decade now. What does it mean for funds to be deposited as “ of the earliest date on which such contributions can reasonably be segregated from the employer's general assets?” If I had to pick the two worst areas of audit controversy, it would be the privacy or confidentiality agreements for welfare plan audits and timeliness of deposits for 401(k) plans. In this latter case, the sponsor needs to recognize that the auditor is required by GAAS to look at related party transactions and to reach some conclusions on their status as exempt or not. Further, there is no materiality standard for the ERISA schedule of non-exempt transactions. I can confidently tell you that auditors don’t like doing this piece of the work any more than the sponsor enjoys hearing about it. 

      Different audit firms have different approaches to this area. In all cases, the audit files need to include evidence which supports the conclusion that deposits are or are not made on time. This standard varies from the standard the auditor is allowed to apply on tax matters. There the auditor is merely instructed to take action in the event something comes to his or her attention. With regard to prohibited transactions, the auditor is required to make specific inquiries and draw specific conclusions. 
  3. Keep the communication lines open on plan amendments, government audits or inquiries, system changes, addition of new service providers, etc.  I realize that it is an audit, but don't try to bury stuff just to see if the auditor can find it.  Please.
  4. Agree upon a schedule of what data will be required and when.

I recognize that when you look at many of the problem areas for the year, it appears that the auditor has an adversarial relationship with the sponsor. That is not intentional.  It is grounded in the fact  that ERISA requires that the audit be conducted for the benefit of the participants and beneficiaries. The auditor should simply be living up to their arrangement letter.