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Surviving an IRS Audit

by: Graham Blackburn

Throughout history, people have harbored a certain degree of anger and fear for tax collectors.  The modern day IRS is not too different.  It’s a massive organization tasked with implementing a tax system that is simultaneously complicated and impactful.  The dreaded IRS audit is the primary source of fear, but with a better understanding we can help alleviate some of that angst.

First off, it’s important to know that audit rates are declining.  In 2015, the IRS only audited 0.8% of individual taxes, or about 1.2 million returns, with higher income taxpayers more likely to be selected.  This marks an eleven year low.  Small businesses, S-Corporations and Partnerships are seeing similarly low audit rates.  Being selected for an audit does not mean you’ve done anything wrong.  Often selections are simply at random.

If you do happen to get audited, it’s helpful to understand the basics of what that means and what transpires when the IRS comes knocking.  Essentially, during an audit, the IRS has one of their agents review part or all of your tax return, in person or via mail.  They request information to support the reported figures, checking to ensure the validity.  Audits, or the potential for them, are the reason we’re told to retain reams of tax documents years after returns are filed.  As a general rule, the IRS can audit any return within the last three years.  However, if there is substantial error found on the return (>25% misrepresentation of income) the time-frame extends to six years.  In the event of an audit, our goal at Hobe & Lucas is to assist you in dealing with the IRS agent, aiming for a determination that there should be “no-change” to the tax return.

After dealing with the IRS in past instances, I have a few thoughts and recommendations:

  1. Remember that it’s going to test your patience. Generally, the larger an organization, the slower it will operate, and the IRS is one mighty large organization.  Resolution is not imminent.  Lengthy periods of silence from the IRS doesn’t necessarily mean there are problems.  It just tends to take them a long time to process information and correspond.
  2. Understand your appointed agent. It might be easy to think of IRS agents as a tax-collecting robots, but I think it’s important to realize that they are people with varied knowledge, motivations and personalities.  IRS agents have objectives and are actually trying to complete a difficult objective.
  3. Respond in a timely manner. Ignoring letters and requests won’t make them go away.  It’s best to correspond as soon as possible to stay in the good graces of the agent, even though it seems hypocritical given the IRS’s slow response time.
  4. Try to stay confident and positive. To understate the obvious, tax law is onerous.  Different individuals have varied interpretation of the law.  In an audit situation, the agent might challenge certain aspects of the return.  Defend your position if you believe it’s correct.

Overall, tax audits are fairly infrequent occurrences, but the fact is that some audits are unavoidable.  It’s unfortunate to be selected for audit, but the whole process is – manageable – and therefore nothing to fear. Hobe & Lucas tax personnel are experienced and knowledgeable in complicated tax issues and compliance with them, and we’re here to help. Give us a call 216.524.8900 or contact us.

Quality Retirement Plan Audits and Compliance is Essential in Protecting Employees’ Benefits

by: John Granger, CPA

A recent study published by the U.S. Labor Department’s Employee Benefits Security Administration (EBSA) found that 39% of the audits reviewed were deficient and failed to comply with professional standards.  These results revealed both an alarming issue regarding the quality of employee benefit plan audits.  Over the past 10 years, not only has the number of deficient audits increased, but the total number of deficiencies is on the rise as well. Additionally, the review performed by EBSA supports the following conclusion:

  • The number of employee benefit plan audits and the quality of the audit work performed by a CPA were positively correlated.  Of the CPA firms reviewed, those who performed the least amount of audits had a deficiency rate of 76% and the CPAs performing the most audits only had a deficiency rate of 12%.
  • It was also noted that CPA firms that were members of the American Institute of Certified Public Accountants’(AICPA) Employee Benefit Plan Audit Quality Center tended to have audits with fewer deficiencies.

A well performed audit and engaging a qualified, experienced auditor will provide vital protection for your employee benefit plan.  Federal law requires that an auditor engaged to perform an employee benefit plan audit be licensed or certified as a public accountant by a State regulatory authority (i.e. Accountancy Board of Ohio).  Failure of an auditor to meet professional quality standards and plan compliance regulations could prove financially harmful for both a plan’s sponsor and participants, so care must be taken to ensure the plans are being administered correctly.   

Remember, benefit plan audits are unique engagements and are not your typical balance sheet audits.  It is in your best interest and the interest of your plan’s participants to ensure a quality audit is being performed to help protect the assets and financial integrity of your plan.

Employee Benefit Plan Audit Preparation Tips  

Understanding the tests and procedures performed by the auditor per professional auditing standards, will help reduce time spent searching for requested documentation and sending incorrect information.  Here is a list of the areas examined during an audit:

  • Contributions – sample of participants and total contributions (i.e. deferrals, employer contributions) reported on statements provided by the third-party administrator (TPA) need to agree with the amounts on the participant’s payroll summary covering the plan year (i.e. Form W-2’s, Year-end Payroll Summaries).
  • New Hires– sample of new entrants to the plan during the year under audit will be selected to ensure the participant is eligible for participation.  Therefore, have all hiring and plan enrollment documentation (if applicable) easily accessible and ensure that all information on these forms (i.e. D.O.B., hire date, SSN, first and last name, etc.) agree with each other before being processed and filed.  These forms include form I-9, employment application, form(s) of ID, plan enrollment form, etc.
  • Participant Elections / Requests – if participant elections and requests (deferral %’s, distributions, loans) are paper filed with the sponsor’s plan administration, be sure copies of these documents are on file.  Failure to produce this documentation during a request may result in an audit finding / deficiency.
  • Payroll – review and/or update company policy regarding documentation of payroll.  Company documentation of all employee / participant pay rates and any subsequent appraisals will reduce the possibility any deficiencies being noted while testing payroll.  This will also help ensuring that compensation used agrees with the definition in the Plan Document.  

*It is a good idea to be sure the administrator at the plan sponsor has online access to their account(s) at third party payroll service providers or maintains a reliable contact.  This will expedite the process of acquiring all payroll documents, summaries and reports needed.

  • Plan Documents and Amendments – auditors are required to have copies of all updated plan documents and amendments for the plan in a permanent file.  

*It is a good idea to compile these documents throughout the plan year and be able to provide them upon request.

In addition to being prepared, we recommend that the plan administrator see if the plan’s TPA offers online access for auditors.  Providing this type of access will greatly reduce the amount of time spent by the TPA fulfilling the requests from the auditor.

Hobe & Lucas is a member of the AICPA Employee Benefit Plan Audit Quality Center.  For any questions you may have regarding employee benefit plan audits, DOL compliance, filing requirements, or audit documentation requests, please feel free to contact us at 216.524.8900 to speak with an experienced employee benefit plan auditor.

Are You Subject to a Retirement Plan Audit?

by: Brian Davis, CPA

Recently, the U.S. Department of Labor has increased its efforts to monitor employee plans, resulting in an audit process that is increasingly complex and lengthy. Organizations are under intense scrutiny as more regulations and reporting requirements must be stringently followed for employee benefit plan audits.

Are you sure you need one?

First, let’s review the requirement for having an Employee Retirement Income Security Act (ERISA)-mandated audit. All retirement plans that have 100 or more eligible employees (participants) at the beginning of the year are considered to be “large” retirement plans. Large plans are required to be audited each year and have audited financial statements sent with the Form 5500 filed with the U.S. Department of Labor.

Are there any exceptions?

There is an exception called the 80-120 rule. This ruling allows plans with between 80 and 120 participants, as of the 1st day of the plan year, to file the Form 5500 in the same category (Large or small plan) as indicated on the prior year Form 5500 filing. Therefore, if you filed as a small plan in the prior year, you may continue to do so until you have over 120 participants at the beginning of the year.

What is exactly done during an audit of a retirement plan?

Auditing a retirement plan involves testing contributions, distributions, investment earnings, ending investment values and various compliance requirements such as the timeliness of transmitting employee deferrals to the plan’s trust.

What should I look for in choosing the right CPA firm?

When choosing a firm, obtain multiple quotes and ask what value they bring to the audit process in addition to completing a basic audit.  When selecting one, you should avoid CPA firms who provide an extremely low quote (Remember, you get what you pay for!) and should look for a firm that belongs to the AICPA’s Employee Benefit Plan Audit Quality Center (EBPAQC), which Hobe & Lucas is a participant.    Finally, if you have a prior audit done by another firm and looking to switch firms, the predecessor firm is required by auditing standards to respond to inquiries by the successor firm.

This can be a daunting process, but you need to make sure you feel comfortable with the expertise of the firm.  At Hobe & Lucas, our team will review your plan documents and operations in addition to just performing “the audit” and try to point out areas where we see room for improvement.  Our goal is to provide value beyond expectations and be your full service provider for all your accounting and auditing needs.   

Still have questions or want to talk about your situation?  Contact us at 216.524.8900 or visit our Contact Us page.