Your "Small Plan" is not Automatically Exempt from a 5500 Audit
Until now, pension plans with less than 100 participants could file their annual reports on Form 5500 as "small plans" and were not required to have an annual audit. Under recently adopted DOL regulations, for plan years beginning after 4/17/01, small plans will have to meet three new "security enhancing" tests to avoid an audit requirement.
Background
This new rule is DOL's reaction to recent cases involving embezzlement or other misappropriations of pension assets that have focused national attention on the pension plan fraud and abuse. DOL recognized that a global audit requirement, covering all plans, would be far too expensive.
In assessing alternatives to a mandatory audit requirement, DOL settled on a three-pronged approach--focusing on (1) who holds the plan's assets, (2) enhanced disclosure to participants and beneficiaries and (3) in limited situations, an improved bonding requirement.
"Do It Yourself Approach": DOL feels that well informed participants and beneficiaries are often in the best position to be watchdogs over their own pension plans and can catch problems early.
1. Qualifying plan assets and bond requirement
The first part of the rule, therefore, focuses on the extent to which a plan's assets are held by regulated financial institutions.
"Qualifying plan assets" are defined as:
a. any assets held by: a bank or similar financial institution, an insurance company qualified to do business under the laws of a state; an organization registered as a broker- dealer under the Securities and Exchange Act of 1934; or any other organization authorized to act as a trustee for individual retirement accounts.
b. mutual funds
c. investment and annuity contracts issued by insurance companies.
d. participant loans meeting the requirements of ERISA section 408(b)(1)
f. qualifying employer securities, as defined in ERISA section 407(d)(1).
g. participant directed assets in an individual account plan, if the participant gets a statement of such assets at least annually.
The 95% test is provided in recognition of the fact that some small plans may have assets (such as limited partnership or real estate interests) held by parties that are not regulated financial institutions.
If at least 95% of assets are "qualifying", the first test is met. If the 95% test is not met, the second test requires bonding at least equal to the amount of the non-qualifying assets.
The administrator of a plan electing the audit waiver must make test the plan's eligibility as of the beginning of the plan year, by reference to the prior year. A determination that more than 5% of a plan's assets do not constitute "qualifying plan assets" may necessitate an increase in the amount of the plan's bond, assuming the administrator does not elect to engage an accountant.
For example, Plan A, which reports on a calendar year basis, has total assets of $600,000 as of the end of the 1999 plan year. Plan A's assets, as of the end of year, include: investments in various bank, insurance company and mutual fund products of $520,000; investments in qualifying employer securities of $40,000; participants loans, meeting the requirements of ERISA section 408(b)(1) totaling $20,000; and a $20,000 investment in a real estate limited partnership. Because the only asset of the plan that does not constitute a "qualifying plan asset" is the $20,000 real estate investment and that investment represents less than 5% of the plan's total assets, no bond would be required under the proposal as a condition for the waiver for the 2000 plan year. By contrast, Plan B also has total assets of $600,000 as of the end of the 1999 plan year, of which $558,000 constitutes "qualifying plan assets" and $42,000 constitutes non-qualifying plan assets. Because 7%--more than 5%--of Plan B's assets do not constitute "qualifying plan assets," Plan B, as a condition to electing the waiver for the 2000 plan year, must ensure that it has a fidelity bond in an amount equal to at least $42,000 covering persons handling non-qualifying plan assets. Inasmuch as compliance with section 412 generally requires the amount of bonds to be not less than 10% of the amount of all the plan's funds or other property handled, the bond acquired for section 412 purposes may be adequate to cover the non-qualifying plan assets without an increase (i.e., if the amount of the bond determined to be needed for the relevant persons for section 412 purposes is at least $42,000). As demonstrated by the foregoing example, where a plan has more than 5% of its assets in non-qualifying plan assets, the bond required by the proposal is for the total amount of the non-qualifying plan assets, not just the amount in excess of 5%.
2. Disclosure
In addition to the bonding requirement, the regulation further conditions the waiver on the disclosure of certain information to participants and beneficiaries. Specifically, except for qualifying assets listed at (d), (e), or (f), the regulation requires that the summary annual report (SAR) of a plan electing the waiver include, in addition to the previously required information:
(1) The name of each institution holding "qualifying plan assets" and the amount of such assets held by each institution as of the end of the plan year;
(2) The name of the surety company issuing the bond, if the plan has more than 5% of its assets in non-qualifying plan assets;
(3) A notice indicating that participants and beneficiaries may, upon request and without charge, examine, or receive copies, of statements received from each institution holding qualifying assets which describe the assets held by the institution as of the end of the plan year, and, if applicable, evidence of the required bond and
(4) A notice stating that participants and beneficiaries should contact the Regional Office of the U.S. Department of Labor's Pension and Welfare Benefits Administration if they are unable to examine or obtain copies of statements received from each institution holding qualifying assets or evidence of the required bond, if applicable.
3. Limitations
This regulation does not affect the obligation of a plan to file a Form 5500 "Annual Return/Report of Employee Benefit Plan," including any schedules or statements required by the instructions to the form. In addition, the regulation makes clear that a plan electing to file a Form 5500 as a small plan pursuant to the "80 to 120 rule" may also claim the waiver afforded in this section in the same manner as a plan with fewer than 100 participants, and a plan electing to file as a large plan could not claim the waiver.
The rule does not affect the exemption for small welfare plans (such as group health plans).
Effective Date
This regulation is effective for plan years that begin after 4/17/01.
