Don’t Get Caught in a Jam with the IRS

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By Christle Johnson, QKA, CIP

No trustee or custodian—even a nonbank trustee or insurance company—is exempt from an IRS audit of its IRAs, HSAs, or other savings accounts. And chances are that the IRS will penalize a financial organization for compliance violations discovered during an IRS audit. Even those who think they are 100 percent on target with compliance can get caught in a jam with the IRS.

Fortunately, there are Ascensus experts who know a thing or two about surviving an IRS audit. As an ERISA consultant, Tammy Schultz has been conducting onsite compliance reviews for more than 15 years. These reviews help financial organizations target and clean up any compliance issues with their savings plan programs before the IRS comes calling.

We recently talked with Tammy about her compliance review experience, and here’s what she had to say.

What are the key areas of compliance that the IRS might examine during an audit? 

The IRS will review paperwork associated with most required procedures, and may interview staff about the procedures. While the IRS auditor may review anything related to the specific IRA, HSA, ESA, or retirement plan program, the key area they will examine are documents and amendments, contributions, distributions, tax withholding and notices, reporting to individuals, and IRS reporting. The key to surviving an IRS audit is to identify and correct any areas of weakness before the IRS audit. An onsite compliance review is an excellent way to do this.

What does the compliance review process look like?

A compliance review by Ascensus starts with a pre-assessment questionnaire that gathers information about the organization and the type of accounts and retirement plans it maintains. At the beginning of the onsite review, I’ll meet with the staff and ask detailed questions about their procedures. I’ll then select a random sampling of clients and review the files from start to finish. At the end of the review, I’ll conduct an exit meeting to discuss the concerns that arose during the review. Then I’ll provide the organization with a comprehensive document that outlines the organization’s compliance issues and Ascensus’ recommendations for addressing those concerns. 

Tammy Schultz, ERISA Consultant, QPA, CISP, CHSP

Tammy Schultz, ERISA Consultant, QPA, CISP, CHSP

What documents do you examine during the review process?

Everything! I review every document that I find in each file selected. I look at all of the opening documents, amendments, reporting forms, and correspondence. Even if the document isn’t required, I’ll review it to see how and why the transaction was done and whether it was done correctly. 

What’s the most common compliance problem that you’ve come across?

That would have to be meeting tax withholding requirements. For example, the withholding rules state that a withholding election is valid until it is revoked. But most organizations treat the withholding election as if it’s tied to the transaction, not to the IRA or retirement plan. Let’s say, for instance, that an IRA owner establishes scheduled payments and elects to waive withholding. Later in the year, the IRA owner requests a distribution that is not part of the scheduled payments and elects to withhold 10 percent, which changes the withholding election for all future payments to 10 percent. If the organization fails to apply the new withholding election to future distributions, the organization could be subject to IRS penalties, including being required to pay the IRS the amount that should have been withheld but wasn’t.  

Have any of your clients been penalized by the IRS?

To avoid IRS penalties, most clients invite us in for a compliance review before they’re audited by the IRS. But the most common penalty that I hear about outside of the audit is for incorrect reporting. For instance, the organization may receive IRS Notice 972CG (Notice of Proposed Civil Penalty) indicating a $50 penalty for each failure to file Form 5498 accurately or timely. Incorrect reporting is something that the IRS can easily monitor because it typically receives the information returns and can usually determine when these reports are incorrect.  

Have you come across an easily preventable compliance issue?

Yes. During the review of an organization’s IRS reporting forms, I noticed that all of the Form 1099-Rs that had already been sent to the IRS were not properly completed. We determined that during a systems change, the correct amounts were not brought over to the new system. As a result, the financial organization had to correct and send out approximately 500 forms to its clients and the IRS. The organization could have avoided this issue by doing a quick check of the 1099-R report before sending the forms to the IRS.

Do you have any suggestions for how financial organizations can prepare for an IRS audit?

Financial organizations should always keep up with IRS rules and regulations. Once organizations understand what they’re required to do, they need to  effectively relay the rules to the appropriate staff. This may require maintaining a procedure manual and attending training sessions. 

Another important step to prepare for an IRS audit is to have complete, well-organized files—paper or electronic. Make sure that the required documents are signed and can be found when needed. This includes retaining amendments that have been required throughout the years.