Background
Back in 2001, the Department of
Labor tightened regulations regarding fidelity bonds for small company pension
plans. As of April 17, 2001 even small company plans with less than 100
participants had a choice - obtaining fidelity bonds for their plan assets and
report them on Form 5500 or procure an annual independent audit of the plan.
While many plan sponsors complied with the rules, others neglected to observe
the regulations. To encourage compliance, the DOL created a Delinquent Filer
Voluntary Compliance Program. Still, adherence with the new rules was
inconsistent. Some companies were going without sufficient bonds year after
year.
DOL easing penalties, but
demanding compliance
In December 2002, the U. S.
Department of Labor's Pension and Welfare Benefits Administration (PWBA) and
the Internal Revenue Service announced a joint project to ensure that all
employee benefit plans comply with their Form 5500 filing obligations under
the Employee Retirement Income Security Act (ERISA) and the Internal Revenue
Code. In order to increase participation, penalties have been lowered to
$1,500 or less per plan per year under a revised Delinquent Filer Voluntary
Compliance Program.
The flip side of the lowered
penalties is a tougher stance toward companies that refuse to bring their
plans into compliance. While direct penalties are low, the true cost of
non-compliance can be high. The DOL is targeting plans without fidelity bonds
and pursuing lawsuits against them. In a landmark DOL case, Chao v. Thomas E.
Snyder and Snyder Farm Supply Inc. 401(k) Plan Civil Action No. 1:00CV 889, a
federal judge ordered the termination of a company
401(k) plan because the company
and its majority owner had violated the Employee Retirement Income Security
Act (ERISA) by failing to bond the pension plan offered to company employees.
As part of the settlement, the company was required to 1) purchase and
maintain a fidelity bond for the company's 401(k) plan until the plan was
terminated and 2) pay all expenses (except annual maintenance fees) related to
the distributions, rollovers or plan termination. A pension plan that was
supposed to create wealth ended up as a liability, simply through the lack of
a low cost fidelity bond.
Sponsor choice: Fidelity Bond
or audit
Having a CPA perform an
independent annual audit is the alternative to purchasing a fidelity bond for
plan assets. In most cases, an audit is far more costly than a bond,
especially since most assets typically found in a small company pension plan
are only required to have a fidelity bond equal to 10% of their value. Assets
held by a financial institution, such as a bank, insurance company,
broker-dealer or regulated entity, as well as mutual funds, participant loans,
qualifying employer securities, or self-directed individual account plans
generally qualify for the 10% bond. Real estate does not fall into this
category unless held in trust by an above institution.
However, not all assets can be
covered with a 10% bond. Some assets are considered "non-qualifying" and are
required by the DOL to carry a higher level of protection from fraud.
Non-qualifying pension plan assets typically include limited partnerships,
artwork, collectibles, mortgages, real estate and securities of "closely-held"
companies and are typically held outside of regulated institutions such as a
bank; an insurance company; a registered broker-dealer or other organization
authorized to act as trustee for individual retirement accounts under Internal
Revenue Code §408. If non-qualifying assets comprise 5% or more of the entire
plan assets, the plan must have either an annual "full-scope" CPA audit, where
the CPA physically confirms the existence of the assets at the start and end
of the plan year, or a fidelity bond equal to 100% of the value of the
non-qualified assets. A limited-scope CPA audit, where the accountant bases
the audit opinion on another party's review of the operation, is not
sufficient to satisfy the DOL regulations.
Ways to Comply
Now and in the future, the PWBA
of the Department of Labor and the IRS will be targeting small company pension
plans that neglect or refuse to protect their plan assets. While past
non-compliance can be addressed through the Delinquent Filer Voluntary
Compliance Program, current and future compliance requires sufficient fidelity
bonds for both qualifying and non-qualifying assets or an independent annual
audit. With the precedent set of the DOL suing a company that did not comply
and shutting down their pension plan, non-compliance is no longer a reasonable
option. More information on the Snyder compliance case is available at:
We intend the information in this publication as a general resource, not as legal or plan compliance advice or counsel. If you consider any actions discussed in this update, we suggest that you consult a tax or ERISA professional. Milberg Consulting LLC and Barry R. Milberg do not warrant and are not responsible for any errors and omissions from this update.
