Lisa Tavares, employee benefits and executive compensation partner at Venable LLP and former attorney with the IRS Office of Chief Counsel, regularly assists clients with various self-correction programs, such as the IRS Employee Plans Compliance Resolution System (EPCRS) and the Department of Labor (DOL) Voluntary Compliance Program (VCP).
Looking back over the course of her career, Tavares says, the expectations put on retirement plan fiduciaries have radically evolved from the perspective of regulators, courts and employees. Unfortunately, many employers and even some service providers still assume that plan fiduciaries will be given the benefit of the doubt when their actions are called into question—so long as there is no evidence of willful wrongdoing or corruption.
“There used to be a general understanding that fiduciaries had the last word, but in the last decade, this has changed,” Tavares warns.
Apart from the role of activist litigators and participants, regulators are also eager to ask questions about fiduciaries’ decisions and processes.
“The environment has caused employers of all types to be worried about litigation and regulatory sanctions, even when they are fully confident that they are running a generous and compliant retirement program,” Tavares says.
The best tip she can give fiduciaries in such an environment is to document their deliberations and their decision process. Practically, this often means fleshing out retirement plan committee minutes to better reflect what fiduciaries have decided and why.
“The notes have to be more than just stating that a fund change has happened,” Tavares says. “In this environment, you want to have a defensive strategy designed up front so that you can have a paper trail that can support you in the future, both in the event of employee inquiry and also in the case if there is litigation or an IRS or DOL investigation.”
Self-Correction Can Solve Common Problems
Broadly speaking, Tavares says, the most common issues she comes across in her ERISA practice have to do with the untimely remittance of deferrals. When discovered, such issues tend to be minor—unless the issue has continued unnoticed for years—and, as such, they can be effectively and efficiently self-corrected.
Besides deferral problems, enrollment errors are common, as are mistakes made in the vesting of participants’ accounts. Frequently, an incorrect definition of compensation is being used, resulting in excessive or deficient deferrals being made.
Another common problem area pops up when a small employer’s plan moves over the 100-participant threshold, Tavares says, which means the plan now must run independent financial audits. Tavares’ firm does “quite a lot of work” that comes after a plan’s first independent review raises red flags.
“We often hear from small business owners that are surprised that they paid an auditor to identify issues, but then the auditor is not be able to help them remedy the issues,” Tavares says. “This has caused a lot of unexpected grief for a lot of CEOs and CFOs running these businesses. Auditors might not even identify all the problems, either. They will tell you the problems they think you have with what they sampled, but, in fact, it’s up to the business owner to go in and certify how big of a problem this may be.”
Tavares recommends that, at a minimum, plan fiduciaries should be correcting these minor errors within the guidelines of the various self-corrections programs, even if they are not going to decide to formally enter the program.
“This is what we’ll do for some clients that come in after having gotten what is called an invitation letter from either the IRS or DOL,” Tavares says. “Such letters literally invite the plan sponsor to enter the self-corrections program. There is some debate out there whether receiving such a letter is random or if it makes an audit more likely. The jury is out on that question, but such letters always cause a great deal of unease.”
Technical Guidance from IRS and DOL
As detailed on the IRS website, many mistakes in operating retirement plans can be self-corrected without filing a form with the IRS or paying a fee. Eligible operational failures include failure to follow the terms of the plan; excluding eligible participants; not making contributions promised under the plan terms; and loan failures.
Importantly, “document failures” aren’t eligible for self-correction. A document failure occurs when a plan sponsor doesn’t have a plan document up-to-date or if the plan document doesn’t fully comply with the tax law, the IRS explains.
Also of note, while an insignificant operational failure can be self-corrected at any time, plan fiduciaries must self-correct significant failures within a certain timeframe, as defined by a publicly posted summary chart.
IRS staff determines “significance” based on the facts and circumstances, but general factors to consider include other failures in the same period (not how many people are affected); percentage of plan assets and contributions involved; number of years it occurred; participants affected relative to the total number in the plan; participants affected relative to how many could have been affected; and whether correction was made soon after discovery.
The IRS guidance in this area emphasizes that no single factor is determinative of significance, meaning, for example, that failures are not necessarily significant just because they occur in more than one year.” The IRS states directly that its staff “will not interpret these factors to exclude small businesses.”
The IRS website offers up some examples, including the following: “The benefits of 50 of the 250 participants in Plan A are limited by the IRC Section 415(c) compensation limits, but the plan’s contributions for three of these employees nonetheless exceeded the maximum contribution limitations. The sponsor contributed $3,500,000 for the plan year, and the excess contributions totaled $4,550. This failure is insignificant because of the small ratio of the number of participants affected by the failure relative to the total number of participants who could have been affected and the amount of the failure relative to the total employer contribution to the plan for the plan year. The failure is still insignificant if the same failure occurred for three separate plan years, or if the three different participants were affected in each of the three years.”
For its part, the Department of Labor has also published helpful guidance and fact sheets about its Voluntary Fiduciary Compliance Program. According to DOL staff, “anyone who may be liable for fiduciary violations under ERISA, including employee benefit plan sponsors, officials, and parties in interest, may voluntarily apply for relief from enforcement actions, provided they comply with the criteria and satisfy the procedures outlined in the VFCP.”
Can’t Correct Through ECPRS?
Plan sponsors should also be aware of the Voluntary Closing Agreement Program (VCAP)—an IRS program that assists fiduciaries with resolving certain income or excise tax issues involving tax-deferred retirement plans established under the Internal Revenue Code that can’t be corrected through EPCRS.
A VCAP user guide published on the IRS website notes that for plans subject to Title I of ERISA, the plan sponsor should first correct a prohibited transaction using the Department of Labor’s Voluntary Fiduciary Correction Program before making a request for a closing agreement. Additionally, all actions identified in the closing agreement must be completed by the date the taxpayer signs the closing agreement.
To increase the likelihood that the IRS will enter into a voluntary closing agreement, a taxpayer should be prepared to show “willingness to furnish necessary facts and documentation to establish its tax liabilities; that the agreement is in the best interest of both the IRS and the taxpayer; that the federal government will suffer no disadvantage from entering into the closing agreement; and that any Internal Revenue Code violation or tax deficiency was unintentional.”
According to an analysis published by Marcel Weiland, an attorney with Employee Benefits Law Group focusing on IRS and ERISA issues, “any situation involving income taxes or excise taxes due to retirement plan failures that cannot be fixed in EPCRS is appropriate for a voluntary closing agreement request under VCA.”
“The failure could involve any type of retirement plan, including a qualified plan under Internal Revenue Code section 401(a), Code section 403(b) plan, Simplified Employee Pensions (SEPs) and IRAs under Code section 408(k). Code section 457(b) and Code section 457(f) plans are not eligible for VCA,” Weiland explains.
One caveat here is that a VCA request does not prevent an IRS examination of the plan or the plan sponsor. This is unlike the situation when a plan sponsor submits an application in VCP under EPCRS, Weiland notes, in which case the IRS is prevented from auditing the plan with respect to the issues contained in the VCP application for a compliance statement.
“This is not the case with VCA,” Weiland says. “If you are audited while a VCA request is pending, you can still be subject to an examination. If you are audited by the IRS, you will need to inform the IRS agent that there is a VCA request pending and the IRS may or may not exclude the issue from examination depending upon the facts and circumstances. However, the fact that you had already begun to address the correction of the issue will be a significant factor to the IRS in considering a lower audit sanction penalty amount than they may have imposed if you had not filed the VCA request.”