Employee benefit plan audit answers.

Being informed can help CPAs avoid costly mistakes.

Given the increasing attention and risks associated With employee benefit plan audits, there is a continuing need for guidance for plan auditors. Some of the questions that members of the American Institute of CPAs employee benefit plans committee and institute staff are asked most frequently are answered below. Many relate to issues identified as problem areas by the Department of Labor (DOL) during its recent review of selected 1992 employee benefit plan audit engagements. (See "A Warning for CPAs on Employee Benefit Plan Audits," on page 55.)

THE MOST COMMON QUESTIONS

Q: Which entity--the plan or the trust--must be audited under the Employee Retirement Income Security Act?

A: While some trust activity must be audited in any plan audit, the audit report must be on the plan, not on the trust. For example, if several plans are funded through a single master trust, each plan that meets ERISA's audit requirements (generally, funded plans with 100 or more participants as of the beginning of the. plan year) must be audited and a report issued. A sole audit report on the master trust with separate columns for each plan's financial information will not satisfy ERISA's audit requirements.

Q: Can a plan report detailed master trust information in its financial statements in lieu of submitting a separate master trust filing with the DOL?

A: No. DOL regulations require that a separate master trust filing be submitted to the DOL.

Q: Do plan auditors have to issue a report on a master trust's financial statements?

A: No, the master trust's financial statements do not have to be audited. However, the auditors of the plan generally will have to audit certain master trust activity in order to express an opinion on any related plan's financial statements.

Q: Can the plan meet the generally accepted accounting principles disclosure requirements for master trust information by attaching a copy of the master trust's filing?

A. No, the required summary master trust disclosures, as described in paragraphs 2.28 and 3.27 of the AICPA Audit and Accounting Guide Audits of Employee Benefit Plans must be included in the notes of the applicable plans' financial statements.

Q: Do plans have to report fund information in a participant-directed plan funded via a master trust?

A: Yes, GAAP requires disclosure of certain fund information by participant-directed and nonparticipant-directed accounts.

Q: Which institutions may certify investment information under ERISA's limited-scope audit exception (ERISA section 103)?

A: Banks, insurance companies, trust companies and certain other financial institutions subject to regular and periodic examination by a state or federal agency may do this. As a result, mutual fund companies, broker-dealers and selected other entities (such as associations) generally are not eligible for this statutory scope exception unless they have set up a separate trust company or other eligible institution with custody of any related ERISA plan assets. The DOL has proposed legislation, which the AICPA supports, to eliminate the current ERISA limited-scope audit exception.

Q: Does ERISA's limited-scope audit exception apply to benefit payments and plan administrative expenses if the trustee certifies such information?

A: No, the exception applies only to investment. related information that is certified both as to completeness and accuracy by an eligible institution;

Q: Should auditors extend the scope of their testing to include functions performed by certain third-party service organizations (such as welfare plan claims administrators and savings plan administrators) when Conducting a DOL limited-scope audit?

A: Yes. However, the limited-scope exception does not apply to certain areas that need to be examined in connection with any generally accepted auditing standards audit, including ERISA limited-scope audits (for example, benefit payments and administrative expenses). The nature and scope of testing will depend on a variety of factors (such as the kinds of functions being performed by the third-party service organization; what type of report was generated in compliance with Statement on Auditing Standards no. 70, Reports on the Processing of Transactions by Service Organizations; and the results).

Q: Will the Securities and Exchange Commission accept an ERISA limited-scope opinion (for example, a DOL disclaimer opinion) in connection with a form 11-K filing?

A: No.

Q: Will the DOL reject a form 5500 filing if the auditor's opinion on the plan's financial statements is qualified for any reason other than the limited-scope audit exception?

A: Generally, yes. However, the DOL has said informally that it will not reject a form 5500 filing if the auditor's opinion is qualified solely for failure to present comparative benefit obligation information in connection with the adoption on the American Institute of CPAs Statement of Position 92-6. Accounting and Reporting by Health and Welfare Benefit Plans. Current-year benefit obligation information must be presented, however.

Q: If plan auditors issue a qualified opinion on one or more supplemental schedules (for example, because of failure to provide historical cost information) and an unqualified opinion on the plan's financial statements, must the plan report that a qualified opinion has been issued in response to question no. 26b on form 5500?

A: No. This question addresses the opinion on the plan's financial statements and not on the supplemental schedules.

Q: What method does the DOL require be used for determining historical cost on:the supplemental schedules?

A: The DOL generally will accept any clearly defined and consistently applied method of determining historical cost that is based on the initial acquisition cost of the related asset (for example, first in, first out or average cost). For the reportable transactions schedule, historical cost must be the original historical cost as of the date of acquisition of the asset.

Q: Do the disclosure requirements in Financial Accounting Standards Board Statement no. 107, Disclosures about Fair Value of Financial Instruments, apply to employee benefit plan assets?

A: Yes. Most employee benefit plan assets are carried at fair value, and no additional disclosures are necessary for those assets under Statement no. 107. However, disclosure of fair value is required for financial instruments not carried at fair value. The most frequent example is investment contracts held by defined-contribution pension or welfare benefit plans that are carried at contract value as required by SOP 94-4, Reporting of Investment Contracts Held by Health and Welfare Benefit Plans and Defined-Contribution Pension Plans. The disclosure amounts relating to such contracts typically are calculated by employing a discounted cash flow approach based on prevailing interest rates for similar instruments.

Q: If a plan has performed a voluntary tax compliance review and has discovered certain operational violations, what authoritative guidance should the auditors follow for reporting and disclosure in the plan's financial statements?

A: Such matters should be handled in accordance with FASB Statement no. 5, Accounting for Contingencies.

Q: What are an auditor's responsibilities in connection with prohibited transactions?

A: Under GAAS, the auditor must design an audit to detect any prohibited transactions that would have a direct and material effect on the plan's financial statements. The auditor also has the responsibility to be watchful for any prohibited transactions. If the auditor becomes aware of a potential prohibited transaction, he or she must ascertain whether it is prohibited. If it is, it must be disclosed on the applicable supplemental schedule, irrespective of quantitative materiality. In such cases, the auditor should consider consulting the plan's legal counsel.

Q: What should an auditor do if he or she discovers that required information has been omitted from one or more required ERISA supplemental schedules?

A: If any required information (for example, historical cost), items (such as participant loans) or transactions (such as prohibited transactions) are not disclosed in the applicable supplemental schedules, the auditor should modify his or her report as to the applicable supplemental schedules. Paragraphs 13.14 through 13.18 of the AICPA's Audits of Employee Benefit Plans provide guidance in this area.

Q: What responsibilities does an auditor have in connection with a plan's tax status?

A: Under GAAS, the auditor must review any applicable Internal Revenue Service determination and legal opinion letters of qualified tax counsel relating to the plan and the associated trust. If these are not available, the auditor should review those aspects of the plan document relevant to the determination of the plan's tax-exempt status. In addition, the auditor should make informed inquiries of the plan administrator or other appropriate plan representatives regarding the plan's operations and any changes in plan design that could jeopardize its tax-exempt status. Because of the complexity of this area and the related risks, the auditor should ensure that those responsible for performing the tax status review are qualified to do so.

Q: Are participant loans considered plan investments?

A: Yes. Therefore, they should be shown as investments on the plan's financial statements and on the Supplemental schedule of assets held for investment. They can be shown as a single line item on the schedule of assets held for investment if the conditions noted in the instructions to form 5500 are met. Generally, participant loans would be shown as a separate participant-directed investment column in any applicable plan's financial statements if they represent more than 5% of the plan's net assets.

Q: Are audit workpapers subject to examination by the DOL?

A: The DOL says that ERISA gives it legal access to audit workpapers since they support the audited financial statements that must be attached to the form 5500 annual report filing. As a result, the department conducts on-site reviews of audit workpapers as part of its ongoing enforcement efforts.

Q: What are the most common GAAS violations identified by the DOL during its on-site reviews of audit workpapers?

A: These violations have run the gamut. Inadequate audit work has included failure to properly plan engagements, conduct sufficient evaluations of internal control systems and obtain sufficient competent evidence to support the opinion expressed on the financial statements. When auditors have failed to obtain sufficient evidence, the most common deficiencies have been in areas unique to employee benefit plans: benefit payments, participant data, plan obligations and prohibited transactions.

Q: What action does the DOL take when it determines that auditors have performed substandard audit work?

A: The department may reject the client plan's form 5500 filing (of which the audited financial statements are a part), potentially subjecting the plan administrator to a civil penalty of $300 per day (up to $50,000) calculated from the day after the form 5500 filing was due. The department also refers significantly deficient work to the AICPA's professional ethics division and state licensing authorities.

Q: What should the auditor do when he or she becomes aware that a plan has not made the required filings?

A: The auditor has no express responsibilities under GAAS. However, he or she may wish to advise the plan administrator of the filing requirements and the availability of the DOL's delinquent filer voluntary compliance program, which gives plan administrators an opportunity to file overdue annual reports and pay reduced civil penalties.

DAVID M. WALKER, CPA, a partner of Arthur Andersen in Atlanta, is a former chair of the AICPA employee benefit plans committee and a former assistant secretary of labor for pension and welfare benefit programs.