Is Your Form 5500 an Errata Piñata?

Every year in Mexico around December 16th, in a tradition four centuries old, townsfolk begin the nine-day celebration of Las Posadas. This celebration features a dramatization of the Christian nativity, as well as the omnipresent and iconic piñata in the shape of a seven-pointed star. Historically, the seven points of the piñata represent the seven deadly sins, and the goodies inside represent a reward for fidelity to advised virtues.

Another tradition occurs yearly – albeit with less jubilation – as employers sign and file their Forms 5500, an annual report to the IRS required of 401(k) and 403(b) plans. Unfortunately, many employers are unaware that even a well-intentioned error in the Form can result in a Department of Labor or IRS audit. Both entities know that a few errors (or even one) is an indication that other errors and compliance problems are potentially present and thus the employer is a good candidate for review. In the same vein, once an audit begins, the scope of inquiry is quickly broadened. Detected compliance errors can quickly ratchet into costly fines, transforming an ostensibly error-free Form 5500 into a multi-pointed errata piñata!

According to the Employee Benefits Security Administration (an agency of the Department of Labor), the average fine, penalty or reimbursement assessed on audited plans in 2016 was $575,000 per plan. More than two-thirds (67.7%) of plans audited by the DOL incurred such costs, totaling $777 million. That’s a lot of “goodies” to encourage government agencies to “go to bat”!

Many employers I speak with are concerned, but also understandably perplexed by what appears to be a thicket of “gotcha” regulations. They’re like most plan sponsors who have been audited and handed an assessment; they’re not trying to circumvent ERISA, but they do find its many “facets” to be difficult to comprehend and follow. And unlike a piñata, their annual plan report via a Form 5500 includes more than just seven “deadly sins” to watch out for!

One “deadly sin” that I see with some frequency as I meet with employers relates to their ERISA or fidelity bond, which each plan must have. Some employers report they don’t have one as they sign their Form 5500, which means they are non-compliant under ERISA. This error is understandable. The line that asks, “Was this plan covered by a fidelity bond?” is one in a series of questions most frequently answered NO, thus causing Form 5500 preparers to unwittingly check the NO answer to this question as well. On more than one visit with a plan sponsor, I have heard their woeful tale of a Department of Labor audit that occurred because of such a NO answer . . . and resulted in fines for other areas of noncompliance despite their plan being compliantly bonded!

This raises another issue. Most employers rely on a service provider – their recordkeeper or a third party administrator – to prepare their Form 5500. Often they are surprised to learn that they are fully responsible for Form 5500 contents despite its preparation by another company.

With my binder of helpful resources and circumspect sleuth-work, my mission when meeting with employers is to rescue them from uncertainty. Drawing from my experience in reviewing many Forms 5500, here is a sample of seven exercises I suggest employers perform before signing and submitting the Form:

1. Review the Form 5500 as though it is the first time you see it. Do not make assumptions regarding any numbers or copy from another form. This includes your EIN and plan number!
2. Review the plan’s fidelity/ERISA bond, as stated above! Each plan must have one that adequately covers plan participants. See my blog Goldilocks and the Three Bonds for more on bonds. Make sure you answer “yes” to whether your plan has a bond.
3. Ensure your Form 5500 immaculately distinguishes and tallies participants who are active, have balances and are terminated. Review the IRS definitions of each just to make sure.
4. Make sure all the plan characteristic codes you enter accurately describe your plan’s operations. For example, if you select 2F to indicate you intend to operate under ERISA 404(c) – and thus eliminate your potential liability for participants’ investment selections – then you must make sure that you provide participants notice of your intention and the necessary materials that will allow them to make an informed investment decision.
5. Ensure no deferrals exceed the annual limit, and that all contributions are coded corresponding to their plan type, e.g. 403(b) contributions as such, rather than as 401(k) contributions.
6. Make sure all schedules and attachments correctly reference the name of the plan, EIN, plan number and so forth.
7. If you terminate a plan, remember to file a Form 5500 for that plan. Some 5500s also show a plan to be terminated when it is simply frozen, or vice versa.

Again, this is merely a sample of the many things to watch out for when filing a Form 5500. If you have never spoken with someone on how to guard yourself against potentially costly errors, there has never been a time like the present! Dash off a quick email or place a brief call, and we can talk further!

This blog is written to help make the lives of plan sponsors easier in the process of meeting legal requirements under ERISA for their defined contribution plans. Please understand that reading this blog should not alone take the place of a one-on-one consultation regarding the needs of your specific plan, and hence cannot be a guarantee against fiduciary breaches.

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