Understanding what to expect during the audit process and having the proper internal controls in place are the keys to check the stress of an audit off the list.
As part of a traditional IRS 403(b) plan audit, the IRS has requested plan sponsors to produce such documentation as the 403(b) plan document, a list of participants taking a loan, hardship or other distribution, and sample enrollment materials. However, in recent speaking engagements, the IRS has indicated that auditors are adding to their checklist and will also be looking to see that the terms of the plan match how the plan is in fact being operated. Any disconnects could highlight defects either within the plan’s written document or in the day-to-day plan administration.In short, an IRS auditor will be exploring whether the employer has put in place “internal controls”—procedures designed to demonstrate a commitment to compliance and minimizing errors.
During a 403(b) plan audit, expect to be asked for documentation of the following internal controls—and take the necessary steps now to produce this documentation if it doesn’t already exist:
- Plan administration: To determine whether your 403(b) plan document matches day-to-day plan operation, the IRS will likely request a copy of the most recent employee handbook. In its experience, the IRS has seen that an employer may not keep its plan document up-to-date to reflect current administration, but will often refresh the employee handbook on a regular basis. When updating your employee handbook, read it against the terms of your plan document. If provisions between the two documents are not consistent, determine which one needs to be modified to reflect both your operating procedures and the IRS rules.
- Employee eligibility: Expect to be asked about your procedures for notifying eligible employees of the opportunity to contribute to the plan. Be prepared to provide samples of these notifications.
- Employee deferrals: Auditors will likely look fordocumentation of payroll procedures showing how you are monitoring employee deferrals against the annual IRS deferral limit. If you have employees making catch-up contributions, the auditor will be looking for documentation of calculations to assess whether they will exceed the IRS-permitted limits.
- Information Sharing Agreements: The final 403(b) regulations introduced the concept of “information sharing”. This means that before processing a participant’s request for a loan, hardship, or distribution due to severance of employment, the plan sponsor and investment providers must coordinate to confirm the participant has satisfied the conditions for a withdrawal. If your plan has more than one investment provider, be prepared to show the procedures and agreements in place to share this information.
- Timely contribution remittance: Timely remittance of employee deferrals is critical to maintaining IRS requirement. For this reason, an auditor will want to see documentation for your procedures to indicate when employees’ contributions are transferred to the investment providers designated under the plan. Confirm these contributions are transmitted within the timeframes permitted under the IRS requirements. If the plan uses a common remitter service, determine how quickly the remitter sends contributions to its investment providers.
- Ownership interest: Determine if any of your employees have an ownership interest of more than 50% in an outside business. IRS rules will typically require aggregation of contributions made to the 403(b) plan and the outside plan. Solicit this information from your employees when they complete the salary deferral agreement for the plan. As year-end approaches, coordinate with those employees who indicated having an outside business as part of your annual contribution limit monitoring.
The ability to anticipate the lines of inquiry in advance of an IRS audit is the best preparation you can take. Make your own list of internal controls and check it twice to determine you are able to produce documentation for each of the above internal controls.
Even if your 403(b) plan is not under examination, this serves as a good reminder to review your plan so that you can identify and fix any outstanding issues in the event of a potential audit in the future. The IRS has indicated that a 403(b) plan with the proper internal controls will be perceived as having greater credibility for operating in an IRS-compliant environment.
Linda Segal Blinn, J.D.*, is vice president of Technical Services for ING U.S. Retirement. In this capacity, Blinn supervises the provision of legislative, regulatory, and compliance information to assist employers in operating their retirement plans. A contributing author to several publications, Blinn also speaks frequently at industry associations meetings on retirement plan issues facing K-12 schools, higher educational institutions, and non-profit entities. Contact Linda at (860) 580-1643 or LindaSegal.Blinn@us.ing.com.
This material was created to provide accurate information on the subjects covered. It is not intended to provide specific legal, tax or other professional advice. The services of an appropriate professional should be sought regarding your individual situation. These materials are not intended to be used to avoid tax penalties, and were prepared to support the promotion or marketing of the matters addressed in this document. The taxpayer should seek advice from an independent tax advisor.* Linda is not a practicing attorney.
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