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EP Team Audit (EPTA) Program - Top Ten Issues Found In EPTA Audits

The following EPTA "Top Ten" items include issues which can be identified during the planning and initial stages of an examination.

1.  Termination or Partial Termination - Potential Vesting/Distribution Issues

  • When comparing multiple years, there is a large drop in plan participants.
  • There is a large decrease in plan participants from beginning of the year to end of the year.
  • There appears to be a large number of separated participants during the year.
  • There appears to be a low percentage of participants compared to the total number of employees relative to other plan years.
  • The corporation appears to be "downsizing."
  • The employer uses plan assets to provide incentives for termination, such as enhanced early retirement benefits or severance pay not specified in the plan document. Note: This is a problem even when all the affected participants are fully vested as is often the case.
  • Not all of the participants from an acquired plan continue to participate after that plan has been merged with an ongoing plan.

2.  Acquisitions

  • With respect to employer allocations made each pay period, the acquiring employer's profit sharing allocation may not be made to the trust timely for employees of newly acquired companies because the employees may not yet be part of the centralized payroll system.
  • The acquiring employer may exclude the matching contribution for employees of the newly acquired company.
  • The acquiring employer might fail to offer all optional benefits on distributions of transferred assets from merged plans.
  • The acquiring employer might use incorrect compensation amounts when computing the matching contribution for business units of the newly acquired company.
  • Incorrect matching contributions due to inaccurate participation dates for employees of newly acquired companies.
  • The acquiring employer makes a plan contribution relating to an assumed liability. Such contributions are generally acquisition costs that cannot be deducted by either company.

3.  Deferral Percentage Tests

  • If the plan has no limits on HCE deferrals and no matching contributions, examining how the plan meets the ADP test may uncover a process inadequacy.
  • ADP/ACP percentage calculations may be performed incorrrectly.
  • ADP/ACP electronic data may be faulty.
  • There could be failures if testing is completed by a third party vendor and there is no oversight by the employer.
  • The employer's ADP test could fail if a benefit is provided to a "special" group of participants and not to "all" participants.
  • Newly acquired employees may have not been offered an option to make elective deferrals or may not have been considered for testing purposes.

4.  Compensation

  • Equity compensation plans typically generate Form W-2 income on exercise of stock options or early sales of stock purchased through a section 423 stock purchase plan. A plan, which permits employees to make section 401(k) deferrals from such income, may not have any means to collect the deferred income and, therefore would be applying the deferral percentages incorrrectly.
  • If the section 401(a)(17) compensation limitation is exceeded, the result could be excess employer contributions.

5.  Plan Document

  • Qualification issues exist where plans have not timely adopted amendments (including GUST amendments), leading to automatic disqualification. These issues are resolved through closing agreements.
  • The merger of plans into other plans - The plan documents may not have been timely amended to comply with all applicable laws prior to the time the plans were merged.

6.  Vesting

  • Issues may exist where the accounts of participants age 65 and over have forfeitures. If the participant is age 65 or over, the participant should be 100% vested and there should be no forfeitures.
  • Issues exist where the plan failed to properly calculate participants' vesting percentages.
  • Plans may be using incorrect vesting schedules.
  • Plans may fail to properly determine participants' service correctly.
  • Failures occur when plan administrators incorrectly apply the vesting provisions written in the plan documents.

7.  Distributions and Loans

  • Large distributions on the income statement relative to plan assets or to a prior or subsequent plan year.
  • Large distributions payable relative to plan assets or to distributions actually paid out during the plan year.
  • Plans may fail to suspend "salary deferrals" of participants receiving hardship distributions from their accounts as required by I.T. Regulation 1.401(k)-1(d)(2)(iv)(b).
  • Plan participants, receiving premature distributions or defaulting on plan loans, fail to report the distributions and/or pay the 10% excise tax on their individual tax returns.
  • Return indicates that the plan terminated a long time ago, but distributions did not take place.
  • If the employer uses automated systems for participants to secure plan loans, in-service distributions, or hardship distributions, significant compliance issues may occur if required documentation or spousal consents are not secured and maintained.
  • Distributions may be understated due to a plan's failure to properly value employer real property or employer securities in a closely held corporation.
  • Distributions codes used on the Forms 1099 may be in error resulting in improper tax treatment of distributions and/or a failure to report the 10% excise tax.

8.  Assets

  • Large percentage of assets classified as other assets on the balance sheet.
  • Large percentage of assets in one single investment.
  • Large amounts of administrative expenses.
  • Significant misclassifications of assets or liabilities.
  • Significant changes in types of investments from one year to the next based on a comparative analysis of three or more plan years.
  • Existence of relatively large liabilities (other than in a leveraged ESOP).
  • Large percentage of assets invested in employer real property or employer securities (other than in an ESOP).

9.  Limits

  • Excess deduction taken as a result of the "accrual" of a pension expense with no corresponding Schedule M-1 adjustment.
  • Plan(s) may exceed IRC section 415 limits when plan participants are participating in more than one plan of the employer and the employer is making annual additions to all plans.
  • Employees may also exceed the IRC section 402(g) limit when participants are participating in more than one plan that offers elective deferrals.

10.  Miscellaneous

  • Lack of sufficient internal controls to ensure that data provided to third party record keepers/plan administrators is accurate. Often the audit reveals that reports and testing prepared by third parties have inacccurate data, such as dates of hire or termination, ages of employees, amount of compensation, etc. Thus the plan administrator is improperly calculating such things as vesting or employer matching allocations.
  • Large corporations with decentralized payroll systems may have problems administering the plan if there are no internal controls to ensure plan provisions are properly applied. For example, if each subsidiary determines eligibility for plan participation, who is an HCE, or what constitutes "plan compensation", significant compliance issues may occur in coverage and allocations.
  • Plan data used to prepare the 5500 returns does not always match the actual records (such as payroll data). In addition, the Taxpayer's Employee Master File has been found to be incomplete (for example, participants who are being reflected on the section 401(a) plan records do not have hire dates shown on the Employee Master File).