Employee benefit plan penalties, the Delinquent Filers Voluntary Compliance Program and the Voluntary Fiduciary Correction Program

By Shirley Appleby, CPA, CFE
Sturgill & Associates LLP

So you perform an employee benefits plan audit and you discover the sponsor hasn't remitted all the employee deferrals as reported on their W-2s. There was a major organizational change mid-year and deferrals for one week were not remitted at all. We're not talking about "late" — we're talking about "not at all." It's a clerical error that should have been caught but wasn't. The client isn't trying to avoid paying in deferrals; they just didn't catch it. A reconciliation comparing checks issued with the deferral amount on the W-3 would have revealed the oversight long before the auditors did.

My friend, you've just found a prohibited transaction. What do you do? How do you advise the client?

Two firms merge. The CEOs each of the individual entities step down and a new key management employee is thrown into a hectic situation while still getting acclimated to his or her new job responsibilities. When the dust settles, the CFO arranges for an overdue 401(k) plan audit. He discovers not only that the Form 5500 is late for the current year, but that his predecessor did not file the Form 5500 for the previous year. The client didn't purposely delay filing the required forms. Now the threat of significant penalties from the Department of Labor and the Internal Revenue Service (IRS) loom.

What do you do? How do you advise your client?

In any situation in which prohibited transactions, reporting non-compliance or reportable events for an employee benefits plan exist, it's always wise to consult an ERISA attorney. Third-party administrators also can be a valuable source of information.

The following is a summary of a few of the remedies that can be pursued. It is not exhaustive and the solutions explained can't be used for all situations, but hopefully it can answer some basic questions and assist in locating the answers you need.

About the penalties

The most recent guidelines for participation in the Delinquent Filer Voluntary Compliance Program and the Voluntary Fiduciary Correction Program as issued by the DOL can be found in the Federal Register for March 28, 2002. Copies can usually be found on the Government Printing Office Web site or a good tax advisory service like those provided by RIA and CCH, to name a few.

For small, non-public companies, participation in or application to these programs is a viable option, depending on the magnitude and the type of violation. In many cases, the DOL's self-correction program is a more practical remedy for smaller infractions, although it doesn't preclude the possibility that the DOL or the IRS may assess penalties at a later time. Larger public companies that report to the Securities and Exchange Commission should seriously consider application to the programs described in the Federal Register to limit the potential liability of future penalties being imposed.

What kind of penalties are we discussing? How much? For late filing of the Form 5500, they can be very high. The Form 5500 is required to be filed, along with financial statements and an auditor's report (where there are more than 100 participants), by the last day of the seventh month after the plan year-end. One extension of up to 2 ½ months many be requested on Form 5558. Filing after that date, assuming an extension is filed and approved, increases the possibility that penalties will be assessed.

Penalties under ERISA (as assessed by the DOL) are as follows:

Failure of an administrator to file an annual return: A return that is rejected because of failure to provide material information is not considered to have been filed. Penalties differ. For late filers, it is $50 per day. For nonfilers, it is $300 per day up to a $30,000 per year per plan ceiling. However, depending on the circumstances, penalties can be assessed up to $1,100 a day. The penalty is assessed from the date of a plan administrator's failure or refusal to file the annual report. The penalty is imposed on the plan administrator. Payment of penalties should not be paid from plan assets. The only defense against penalty assessment is reasonable cause. (ERISA Sec. 502(c)(2); DOL Reg. 2560.502c-2)

The difference between a late filer and a nonfiler seems to be the fact that a late filer voluntarily complies with the filing requirement even though late. The nonfiler is one who is "caught" by governmental authorities for not filing or one who refuses to file.

Penalties assessed under the Internal Revenue Code are as follows:

Failure of employer or administrator to timely file Form 5500: $25 per day the failure continues up to a maximum of $15,000. The penalty is imposed on the plan administrator (in the case of a pension benefit plan) or the employer (in the case of a fringe benefit plan). Payment of penalties should not be paid from plan assets. The only defense against penalty assessment is reasonable cause. (IRC Sec. 6652(e); Reg. 301.6652-3(a)(3))

It should also be noted that the Pension Benefit Guaranty Corporation (PBGC) may assess penalties if the plan is a defined benefits plan subject to its requirements. They are as follows: $25 per day for the first 90 days of delinquency and $50 per day thereafter.

The penalty will be proportionately reduced in accordance with the number of participants in the case of plans with fewer than 100 participants, one being subject to a floor of $5 per day. For example, the penalty for a plan with 25 participants would be $6.25 per day (25 percent of $25 per day) for the first 90 days, and $12.50 per day (25 percent of $50 per day) thereafter. Under these guidelines, the total penalty for any violation would not exceed $100 times the number of plan participants. (PBGC Statement of Policy of Reduced Penalties 7/18/95)

About self-correction

For filers who believe they can prove to the IRS, DOL and possibly the PBGC they have "reasonable cause," self-correction includes filing the Form 5500 (with applicable attachments) as soon as possible with a written statement setting forth all the facts supporting the "reasonable cause" position. The statement must contain a declaration that it is signed under penalties of perjury.

If a penalty notice is received from the DOL or the PBGC, a written statement such as the one described above, with a request to abate the penalties, must be filed within 30 days of the penalty notice date.

For plan administrators who don't believe they can prove "reasonable cause" or who don't want to take their chances that the DOL, the IRS and the PBGC will abate or reduce the penalties to a reasonable amount, application to the Delinquent Filers Voluntary Compliance (DFVC) program and / or Voluntary Fiduciary Correction (VFC) program(s) is recommended.

Under the DFVC program, the DOL's per day penalty is reduced from $50 to $10 per day. The "per filing" cap also is reduced from $2,000 to $750 for a small plan (fewer than 100 participants at the beginning of the plan year) and from $5,000 to $2,000 for a large plan.

A "per plan" cap also is available to program applicants. It limits the penalty to $1,500 for a small plan and $4,000 for a large plan regardless of the number of late annual reports filed for the plan at the same time. There is no "per administrator" or "per sponsor" caps. If the same person is the administrator or sponsor of several plans required to file annual reports under Title I of ERISA, the maximum applicable penalty amounts would apply for each plan.

For more information regarding additional "caps" for small plans sponsored by certain tax-exempt organizations, top hat plans and apprenticeship and training plans, click here.

About penalty relief

Although the DFVC program does not cover late filing penalties under the IRC or Title IV of ERISA, the IRS and PBGC agree to provide certain penalty relief for delinquent Form 5500 filers for Title I plans where the conditions of the DFVC program have been satisfied.

To be eligible, the plan administrator must not have been notified in writing by the DOL of failure to file a timely annual report or of the DOL's intention to assess a civil penalty for failure to file a timely annual report.

To participate in the DFVC program a delinquent filer must:

file Form 5500 for the appropriate year as soon as possible according to the Form 5500 instructions. If the correct year cannot be obtained, use the most current form available, mark through the year at the top of page 1 and enter the appropriate prior year in bold print.
send a signed and dated copy of the first page of the Form 5500 series to the DOL, with a check payable to the U.S. Department of Labor. See the preceding paragraphs for amounts. These should be remitted to:

DFVC Program
PWBA, P.O. Box 530292
Atlanta, GA 30353-0292

It should also be noted that payment of a penalty under the terms of the DFVC program constitutes, with regard to the filings submitted under the program, a waiver of an administrator's right both to receive notices of intent to assess a penalty under subsection 2460.502c-2 from the DOL and to contest the DOL's assessment of the penalty amount.

Fiduciary violations under ERISA also can be self-corrected or an application can be made to the Voluntary Fiduciary Correction Program.

Correction of prohibited transactions such as the one mentioned in the first paragraph of this article can be self-corrected by remitting to the plan custodian the deferral amount not originally sent, along with an additional amount called "lost earnings" as soon as the violation is discovered. For the definition of this term and the suggested method of calculating "lost earnings," refer to the DOL's notice published in the Federal Register on March 28, 2002.

A detailed narrative describing the prohibited transaction, how and when it was discovered and what was done to remedy the situation, along with supporting documentation, should be attached to the Form 5500. A penalty of perjury statement also should be included. An example of the wording for the penalty of perjury statement can be found in the Federal Register notice. Opting to self-correct fiduciary violations doesn't guarantee a reduction or abatement of penalties, as stated earlier.

Penalties assessed by DOL under ERISA are as follows:

Any breach of fiduciary responsibility by a fiduciary or any knowing participation in such breach or violation by any other person: Twenty percent of the applicable recovery amount (any amount recovered from a fiduciary or other person with respect to such breach pursuant to a settlement agreement with the Secretary of Labor or ordered by the court to be paid by the fiduciary or other person to the plan or its participants). The penalty is reduced by the prohibited transaction penalty under IRC Sec. 4975. The defense against penalty is that the fiduciary acted reasonably and in good faith or it is reasonable to expect the fiduciary or other person will not be able to restore all losses to the plan without severe financial hardship. (ERISA Sec. 502(l); DOL Reg. 2570.81)

Penalties under the Internal Revenue Code are calculated and remitted to the IRS through the filing of Form 5330, Return of Excise Tax Related to Employee Benefit Plans, for all plan years during which the fiduciary violation went uncorrected. For a prohibited transaction, such as the one described in the first paragraph of this article, this is usually 15 percent of the amount involved.

Filers should consult the IRS instructions accompanying Form 5330 for more details. The Form 5330 should be filed by the disqualified person, as defined in those instructions, at the same time as Form 5500 (by the last day of the seventh month after the plan year-end).

The procedures for applying to the VFC program are detailed in the March 28, 2002 Federal Register notice and include preparing and remitting to the PWBA the following:

contact information;
a detailed narrative describing the breach and the corrective action taken;
supporting documentation;
penalty of perjury statement; and
checklist (included in Appendix B of the notice).

The application must be prepared by a plan official or his or her authorized representative. If a representative of the plan official is submitting the application, the application must include a statement signed by the plan official that the representative is authorized to represent the plan official. To be eligible for the program, neither the plan nor the applicant can be under investigation and the application must not contain any evidence of potential criminal violation as determined by PWBA. Applications must be submitted to one of the 10 PWBA regional offices whose addresses are listed in the Federal Register notice.

Upon receipt and processing of the application, the PWBA will issue a "no action" letter if all program criteria are met. Those who qualify for the VFC program also may qualify for excise tax exemption under the IRC if certain additional criteria are met.

For more information, view the VFC program fact sheet listed on the Department of Labor's PWBA Web site mentioned in the first part of this article.

This content has not yet been Rated.

To Rate content, please Login.