A report from the American Institute of CPAs (AICPA) reminds plan sponsors at mid- and large companies of the importance of their duty to hire a qualified independent auditor to examine the plan each year.
Generally, the Employee Retirement Income Security Act (ERISA) requires employee benefit plans with 100 or more participants to have an audit as part of the obligation to file an annual return/report via the Form 5500 Series. As the AICPA report explains, the plan administrator must hire an independent qualified public accountant to do the job—known as a financial statement audit.
A financial statement audit provides an independent, third-party report to participants, plan management, the Department of Labor (DOL) and other interested parties. The report is meant to indicate whether the plan’s financial statements provide reliable information to assess the plan’s present and future ability to pay benefits. The AICPA says the process helps protect the financial integrity of the employee benefit plan, which in turn helps plan sponsors determine whether the necessary funds will be available to pay retirement, health, and other promised benefits to participants.
The audit also may help plan management improve and streamline plan operations by evaluating the strength of the plan’s internal control over financial reporting and identifying control weaknesses or plan operational errors, AICPA says. And again, the audit helps the plan administrator carry out its legal responsibility to file a complete and accurate Form 5500 for the plan with the DOL.
As noted in the report, ERISA holds plan administrators responsible for ensuring that plan financial statements are properly audited in accordance with generally accepted auditing standards (GAAS). Despite this, AICPA researchers say DOL studies of audit quality have identified significant deficiencies in plan audits. The penalties for such audit failures can be substantial: the DOL has the right to reject plan filings and assess penalties of up to $1,100 per day, without limit, on plan administrators for deficient filings. In recent years, the DOL’s Employee Benefits Security Administration (EBSA) has significantly stepped up its enforcement of the audit requirement for employee benefit plans, the report warns.
Barry Klein, a partner with ERISA auditing and consulting firm Babush Neiman Kornman & Johnson, tells PLANADVISER that hiring a firm lacking knowledge of the specialized nature of the retirement planning industry conflicts with the stated goal of ERISA to protect plan participants. For this reason, only after technical evaluation is complete and a list of qualified potential auditor firms has been identified should the sponsor factor in the prices offered by each firm. As the AICPA research notes, ERISA requires all fees to be “reasonable” given the scope and quality of the service provided, not necessarily the cheapest available.
Factors the DOL looks for in a quality independent auditing firm include:
- Adequacy of technical training and knowledge on the part of auditors conducting employee benefit plan audits;
- Awareness of auditors of the uniqueness of employee benefit plan audits;
- Whether auditors have established quality review and internal process controls;
- The perception by plan administrators and/or auditors of the importance of employee benefit plan audits beyond fulfilling a governmental regulatory requirement;
- The amount of employee benefit plan audit work in the auditor’s overall practice;
- Any failure of auditors to perform necessary audit work;
- Any failure of auditors to understand the limited scope audit exception; and
- Ability to adapt to new technical guidance.
Klein says the ability of an audit firm to stand up under the DOL’s scrutiny is a function of its staff experience, professional development capabilities, operational independence and licensing, AICPA researchers suggest.
“Unfortunately there are a lot of firms out there that are perfectly happy to conduct an audit, but they are unable to meet the standard of care prescribed under ERISA,” Klein says. “Often these firms come in with a really low price point to try and win the business that way, because they can’t do it on service quality.”
Frequently, audits are found to be deficient because of the failure of the auditor to conduct tests in areas unique to employee benefit plans, AICPA finds. As Klein explains, auditors should have expertise in evaluating whether plan assets covered by the audit have been fairly valued. They should also be able to understand and evaluate unique aspects of plan obligations, the timeliness of plan contributions, how plan provisions affect benefit payments, and how allocations are made to participant accounts. It’s also important for the auditor to have expertise in issues that may affect the plan’s tax status, along with transactions prohibited under ERISA.
The AICPA report also finds a well-crafted request for proposal (RFP) will determine the quality of the respondents and will help reduce the time and effort expended in the overall RFP and selection process. It is critical that the plan administrator ask informed questions during the proposal process in order to obtain adequate information on which to base your final decision to hire an audit firm.
But the RFP process is not a one-way street, the report warns: it is equally important to provide audit firms with sufficient information about the nature of the plan and the engagement to allow them to make a meaningful and comprehensive proposal that addresses the plan’s specific needs.
The full report from AICPA, which includes extensive guidance on crafting an RFP and ensuring a successful audit process, is available here.