Creative Plan Designs, Ltd. Newsletter
July 2009
We don't do this just to annoy you....
Looking at audit statistics it seems that the IRS auditors have been holding their own version of a tax lottery. This has been done by imposing large fines for small missed plan amendments.

A story describing this phenomena goes as follows: A doctor maintained a profit sharing plan that covered himself and his wife. For 16 years he funded his plan and filed the requisite 5500EZs as well as signed any amendments his TPA put in front of him. His TPA died and it took him a few months to find a new TPA, and was able to file that years return on a timely basis. This was for the 2005 tax year.
Recently, his plan was audited. He wasn't worried. He had done everything he was told to do and hadn't done anything unusual with the plan or it's assets.

There was only one problem discovered by the auditor. In 2005, the IRS required all qualified plans to adopt an amendment which changed the plan document language to comply with Code section 401(a)(31)(B) and Notice 2005-5. This amendment was a form over substance amendment as it pertains to this plan as it would realistically never apply.

The Notice 2005-5 required all qualified plans to adopt an amendment for this change by the end of the plan year which began on or after January 1, 2005. For calendar year plans, this meant that the amendment had to be signed by December 31, 2005. In December of 2005, the IRS issued Notice 2005-95, which extended the deadline for adopting this amendment until the later of December 31, 2005 or the due date, including extensions, for filing the income tax return for the employer's taxable year which included March 28, 2005. With the prior third party administrator dying in 2005, this amendment had been inadvertently missed.

To paraphrase a Master Card ad:
VCP fine for not timely adopting a 401(a)(31)(B) amendment: $375
Audit CAP fine for not timely adopting a 401(a)(31)(B) amendment: $3,000
Audit fine for not timely adopting a 401(a)(31)(B) amendment: $45,000
Amending your plan on a timely basis: Priceless

There are programs supported by the IRS that guide us in these situations. If the sponsor of the plan had realized on his own or been informed of such by his new TPA that the plan was missing the Automatic Rollover amendment from 2005, the plan could have been brought back into compliance by paying a $375 fine and filing an application with the IRS' Voluntary Compliance Program (VCP). This can only be done BEFORE the IRS discovers the mistake. Because this mistake was discovered by an IRS auditor, the VCP program was unavailable to bring this plan back into compliance.

If the absence of the amendment had been discovered during the filing for a determination letter, the IRS would have allowed this plan to pay a $3,000 fine, sign the amendment and the plan would have been brought into compliance.

For this plan sponsor, there was not a happy ending. Once the plan is audited and the IRS auditor discovers the missing amendment, there is a formula applied based upon the number of years the plan has been out of compliance and the total dollar amount in the plan. For this doctor's plan, the IRS auditor decided that the appropriate fine is $45,000. The doctor has been given the choice of paying $45,000 or having the plan disqualified. At age 65, if the plan is disqualified, he won't be able to accumulate enough money for retirement. The greater question is, how does this fine make any sense?  After all, the failure to sign the amendment had no impact on any plan participant.  The short answer, it doesn't.  However, these are the rules and it is our job to make sure they are followed to the letter.

Dr. Ronald K. Stair
Creative Plan Designs, Ltd.
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