Employee Benefit Plan Audit Quality Center

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Employee Benefit Plan Audit Quality Center

• Limited Scope Audits
• Basics and Beyond
• Live Forum
• April 21, 2009
•  

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Presenters

• Debbie Smith, CPA
• Grant Thornton LLP
• Sue Peirce, CPA
• Apple Growth Partners

• Lynne McMennamin, CPA
• McGladrey Pullen, LLP
• Hal Hunt, CPA
• Mayer Hoffman McCann P.C.
• Carl Kampel, CPA
• Ellin and Tucker, Chartered

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CPE Credit For Live Forum

• Must have registered for CPE credit prior to this
  live forum
• CPE Credit Approval Form emailed to you
• Listen for announcement of 8 CPE codes during the
  live forum (7 digit codes ALL_ _ _ _ )
• Record CPE Codes on CPE Credit Approval Form
• Return completed form (by fax or mail) to AICPA
  Service Center for record of attendance
• Keep a copy of completed CPE Credit Approval Form
  for your records

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Moderator

• Debbie Smith
• Grant Thornton LLP

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Why Talk About Limited-Scope Audits?

• Have you ever reviewed a certification which
  doesnt appear to meet the regulatory standards?
• Have you wondered what complete and accurate
  "really" means?
• How does the increase in alternative investments
  impact what you do on limited-scope audit
  engagements?

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Objectives

• Definition of a limited scope audit
• History of limited scope audits
• What is a certification
• Limited scope vs. full scope audits
• Current issues with limited scope audits
• QA with roundtable discussion

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What Is Limited Scope

• Sue Peirce
• Partner
• Apple Growth Partners

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Definition

• Summary of DOL Regulations 2520.103
• Where an audit is required, the financial
  statements accompanying the annual Form 5500 must
  be GAAP-compliant
• Provides for an exclusion from the audit of
  investments (valuation and existence) and
  plan-level investment activity, if qualifying
  institution holding the assets certifies to the
  accuracy and completeness of the information
• Qualifying Institutions-
• Bank or similar institution (e.g., a trust
  company)
• Insurance carrier
• Regulated and supervised and subject to periodic
  examination by a State or Federal agency

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Definition

• Summary of DOL Regulations 2520.103
• Provides sample certification language to be used
  by the certifying institution
• The XYZ Bank (Insurance Carrier) hereby certifies
  that the foregoing statement furnished pursuant
  to 29 CFR 2520.103-5(c) is complete and accurate.
• Indicates that certification extends to
  ordinary business records of the certifying
  institution
• The certification must be signed by a person
  authorized to represent the insurance carrier or
  bank

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Why Allow Limited-Scope Audits?

• Significant regulation and oversight
• 12 CFR Part 9
• OCC standards applying to the fiduciary
  activities of national banks
• Sets standards for administration, policies and
  procedures, recordkeeping, etc

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Legislative History

• 1974- ERISA section 103(a)(3)
• 1993- letter from DOL to Mr. Richard Bentley
• 1998- DOL and GAO urge congress to repeal
  limited-scope audit exemption
• 2002- letter from DOL to Mr. Richard Steinberg

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Why the Limited Scope Audit Made Sense in 1974

• What was the DOL looking for?
• Pre-ERISA environment do you know where your
  plan assets are?
• ERISA designed to ensure that the assets exist
  that plan values are accurate
• Certifying institutions played a prominent, if
  not exclusive, role in the New World order
• ERISA required plan assets to be held in a trust
  or insurance contract
• Holding assets in a trustees vault (versus the
  plan administrators file cabinet) provided
  vastly more comfort over the existence assertion
• Trustee/custodians provided a valuation
  independent of the plan sponsors
• Fair Value of plan assets were more commonly part
  of trustee or custodian's ordinary business
  records
• Plan investments had readily determinable market
  values
• Plan trust structures were less complex

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Common Types of Plan Investments - 1974
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So, What Changed? That Was Then. This Is Now

• Investments - explosion of new investment
  vehicles find their way into the employee benefit
  world
• Derivatives
• Emerging Market Funds
• Funds of Funds
• Hedge Funds
• Private Equity Debt
• Structured Notes
• Venture Capital LPs

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What Does Limited Scope Mean Today

• Lynne McMennamin Partner
• McGladrey Pullen, LLP

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Relevancy of the L/S Audit in Todays Environment

• The environment has changed, but the regulations
  have not
• Is the extinction of the limited scope audit
  imminent?
• When might a L/S audit be appropriate?
• Investment types and valuations are key drivers
  to determining audit level
• Marketable securities with readily determinable
  values
• Highly regulated Common or Collective Trusts
  (CCTs)/Pooled Separate Accounts (PSAs)
  invested in marketable securities
• Eligibility of certifying institution
• Clear designation of entity that is holding the
  plan assets
• No 11-K filing is required

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SoWhat Does This All Mean?

• Certification applies only to investments
  investment activity
• All other plan activity (e.g., eligibility,
  contributions, distributions, expenses, etc.)
  subject to full audit procedures
• No audit procedures performed on investments and
  related activity covered by the certification
• No review of internal control over investments
• No analytical review of income

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"Ordinary Business Records"

• DOL Regulations require
• "such information as is contained within the
  ordinary business records of the bank, trust
  company, or similar institution and is needed by
  the plan administrator to comply with the
  requirements of section"
• Ordinary business records may be best-available
  values, which may or may not be fair value!

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"Ordinary Business Records" What Do They Include?

• Cash securities holdings
• Security trade transactions
• Valuations of applicable securities (from
  readily-obtainable sources)

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"Ordinary Business Records" What is NOT
Typically Included?

• Valuation of hard to value investments (i.e.,
  utilization of industry specialists/experts)
• These services are an added value service
• Plan sponsors must specifically hire a bank to
  perform asset valuation services
• Few banks offer

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To Limit, or Not to Limit?That Is the Question!

• Who owns the decision to invoke the L/S audit
  exemption?
• The Plan Administrator!
• Requires a Paradigm Shift on the part of plan
  administrators
• Do they view the L/S exemption as an automatic
  entitlement, or as a privilege?
• Are they aware of what their certifying entity is
  actually certifying to?
• Are they prepared to engage their auditors in a
  discussion about the appropriate level of audit
  work, in advance of the audit?
• Do they have a formal pricing policy and
  valuation oversight monitoring and signoff
  process, or are they relying exclusively on the
  custodial statements?

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Limited Scope Vs. Full Scope

• Hal Hunt
• Partner
• Mayer Hoffman McCann P.C.

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Full Scope Vs. Limited Scope Considerations

• Visualize additional branches on the L/S Audit
  Decision Tree in the EBP Audit Guide
• What of plan assets are invested in holdings
  that do not have readily determinable market
  values?
• Can the plan administrator-
• rely exclusively on the trustees certification
  for the fair value
• or
• does their valuation committee rely on other
  investment analysis to supplement the custody
  values before signing off on the fair value for
  any Hard To Value Assets (HTVA)?

If the latter is the case, they may have less of
a chance of relying on the L/S exemption.
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Practical Audit Steps in a L/S Engagement

• Determine eligibility of certifying entity in
  accordance with DOL Regulations 2520.103-5
• Gain comfort with variations of the wording of
  the certification - examples of acceptable and
  non-acceptable wording
• to the best of my knowledge and belief
• Narrow down the activity that falls within the
  L/S exemption (i.e., investment versus
  non-investment transactions/activity)
• Gain comfort with the certification of plan
  balances when the assets of multiple plans are
  commingled and held within a master trust

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Limited Scope - Auditors Responsibilities

• Compare the certified information to the form and
  content of the financial statements and footnote
  disclosures
• Determine that the financial statements and
  disclosures are in compliance with GAAP and DOL
  requirements
• Test income allocations to participants
• Make sure-
• 5 of net asset disclosure is made
• certification footnote is included in financial
  statements which references what information was
  covered by the certification

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Limited Scope - Auditors Responsibilities
Participant Income Allocation Testing

• Tested in L/S audit as allocation not certified
• Consider using investment returns for month or
  quarter
• Some firms testing allocations of interest and
  dividends
• Cannot solely rely on a SAS 70 Service
  Organization Report even a Type II
• A SAS 70 Report is NOT a certification and is not
  related to the limited scope exemption

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Limited Scope - Auditors Responsibilities(contin
ued)

• If something unusual comes to your attention
  bring matter to the attention of the plan
  administrator
• If material discrepancies noted, plan
  administrator should investigate and consider
• Requesting trustee/custodian to correct and
  either recertify or amend the certification
• If information is excluded, the plan
  administrator is responsible for proper valuation
  and reporting
• Engage the auditor to perform full-scope audit
  and/or full-scope procedures, as appropriate

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Investments Full Scope AuditsWhat Is Different
From a Limited Scope Audit?

• Confirm existence directly with holder of assets
  (more than one custodian may hold assets)
• Year-end market value testing
• Purchases and sales testing
• Investment income testing
• Interest dividends
• Realized gains and losses
• Unrealized gains and losses

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Limited Scope vs. Full Scope
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Limited Scope Issues

• Carl Kampel
• Partner
• Ellin and Tucker, Chartered

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Alternative Investments

• Alternative Investments definition is broad
• Its all about how easy or difficult it is to
  corroborate the value of the investment
• When evaluating Alternative Investments-
• there are two key questions
• 1 What does the plan hold marketable or
  non- marketable securities?
• 2 How are they held directly or indirectly?

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Impact of FAS 157 on L/S Audits

• FAS 157- Fair Value Measurements- requires a
  better understanding of the custodial pricing
  processes
• Requires communication with the trustee or
  custodian to determine pricing methodologies used
  in order to facilitate disclosure of Level 1, 2
  3 pricing inputs
• Requires an understanding of the nature of the
  investment, whether it is a partnership interest,
  an illiquid security, etc.

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Limited Scope Audit Issues

• Indicators that there may be additional
  information required
• Cost equals fair value for certain investments
• Fair value for certain investments have not
  changed for several years
• Description of investments on the Schedule of
  Assets is inconsistent with footnote for
  investments
• Certain investments are not included in the
  certification

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Dont Forget-Fair Value Measurements and
DisclosuresAre Management's Responsibility!

• Management needs to
• Establish an accounting and financial reporting
  process for determining the fair value
  measurements and disclosures
• Select appropriate valuation measurements
• Identify and adequately support any significant
  assumptions used
• Prepare the valuation
• Ensure that the presentation and disclosure of
  fair value measurements are in accordance with
  GAAP

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Certification InadequatePlan Administrator
Procedures

• If auditor becomes aware that certified
  information is incomplete, inaccurate, or
  otherwise unsatisfactory the auditor should
  request the plan administrator to obtain an
  amended/corrected certification with appropriate
  year-end values
• Alternatively, the amended certification may
  exclude such investments
• If information is excluded, the plan
  administrator is responsible for proper valuation
  and reporting and the auditor is responsible for
  auditing those investments

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Investment information Not Prepared in Conformity
With GAAP and DOL Regulations

• If plan administrator is unable to determine the
  fair value of alternative investments, the
  financial statements may not be in accordance
  with GAAP and DOL Requirements
• Auditors report would have to be modified
• Add emphasis of matter paragraph to auditors'
  report for a limited scope engagement which would
  discuss the effects of not applying adequate
  valuation procedures
• The auditor cannot perform valuation procedures
  for the plan in order to determine the fair value
  of alternative investments without impairing the
  auditors independence

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Final Thoughts

• Nothing has really changed from a legislative
  perspective
• Not currently seeking repeal of limited-scope
  audit exemption
• Plan administrator is responsible for determining
  if conditions for limiting the scope of audit
  have been satisfied
• Don't audit if you aren't engaged to do so
• Duty to report concerns (auditor's report and SAS
  112/SAS 114/SAS 115)

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Question Answer Session

• Please submit questions

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Question 1

• Should I be worried if the certification I
  received includes the following additional
  language - ".complete accurate, to the best of
  my knowledge and belief."

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Question 2

• Is there a difference between when a
  certification indicates that the information is
  complete and accurate versus complete and
  correct?

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Question 3

• The certification I received is not manually
  signed. Do I need to insist that it be manually
  signed?

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Question 4

• Can an auditor rely upon the plans trust
  statements and certification that are posted
  online, or must the auditor or plan administrator
  receive such information directly from the
  trustee/custodian?

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Question 5

• I am working on a messy limited-scope audit, and
  I received multiple sets of statements - all a
  bit different, but all certified to be "complete
  accurate". Should I be worried?

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Question 6

• I am doing a limited-scope audit of a plan, but
  the recordkeeper provided the certification. They
  said they have an agency relationship with the
  plan's trustee.  Do I need to insist on getting a
  copy of the agency agreement, or is it enough to
  just perform a limited scope audit based on my
  engagement letter?

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Question 7

• The client gave me a certification from the bank
  but the plan is self-trusteed. Dont I have to
  do a full scope audit since the trustee is not
  eligible to certify the statements?

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Question 8

• If a plans custodian was a brokerage house for
  the first 6 months of the year, and then with an
  eligible custodian for the last 6 months, can a
  limited scope audit report still be issued?
• If so, what would the report look like?
• What would the certification footnote look like?

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Question 9

• The custodian that certified last year was bought
  out this year.  How do I best handle that in my
  limited scope opinion?

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Question 10

• Can the auditor rely on a certification for
  non-interest bearing cash or is non-interest
  bearing cash always subject to full-scope audit
  procedures?

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Question 11

• I've been engaged to do a limited scope audit,
  but I've come to find out that the insurance
  company that is certifying will only certify
  their proprietary funds (i.e., the PSAs held by
  the plan), but the plan also holds mutual fund
  investments.  What should I do?

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Question 12

• When a certification covers alternative
  investments, can I simply perform full scope
  procedures on the alternative investments or do I
  need to obtain a revised certification that
  excludes those assets?

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Question 13

• Can a L/S audit be performed on a plan or plans
  which participate in a master trust when only the
  master trust as a whole is certified?

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Question 14

• I am doing a limited-scope audit of a plan that
  participates in a Master Trust that a bank is the
  trustee for.  The sponsor received statements
  that provide columnar detail for each plan in the
  Master Trust, but the certification does not
  specifically name the individual plan I am
  auditing. What should I do, if anything?

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Question 15

• My clients plan has GICs. I never know what
  number is the right number to present on the face
  of the financial statements and/or the
  supplemental schedule. Not only that, the TPA
  is not giving us all the necessary disclosure
  information. Help!

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Question 16

• What steps might an auditor take to determine if
  adequate year-end valuation procedures have been
  performed?

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Question 17

• Does the certification normally cover participant
  loans, and if so, do I have to do any audit work
  on participant loans?

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Question 18

• Participant loans are included in the certified
  trust statements, but I know that the custodian
  is only memo-recordkeeping them (i.e., they don't
  "hold the loans, and execute loan
  transactions").  What should I do?
• Assuming they shouldn't have been covered, do I
  need to have them carved out of the
  certification?

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Question 19

• I have a Type II SAS 70 Report from the custodian
  and the recordkeeper- both are clean! Can I
  perform a limited scope audit?

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Question 20

• Under the Risk Assessment Standards, how much
  risk assessment documentation is needed for
  investments?

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Question 21

• I've done limited scope audits for years, and now
  there is an S-8 and the plan is subject to the
  11-K reporting requirements - what should I do?
  Does the prior year audit work and report need to
  be upgraded to full-scope?

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Question 22

• Can I do a limited scope audit of a Health and
  Welfare Plan that has no assets at either the
  beginning or end of the plan year, but does have
  some money market interest earned on a bank
  checking account held in the name of the plan?

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Question 23

• Can a L/S audit be performed on a 403(b) plan?
• Any special considerations?

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AICPA Upcoming Events

• April 22 AICPA Employee Benefit Plans Strategic
  Briefing Live Webcast
• May 18 20 AICPA National Conference on
  Employee Benefit Plans, Orlando, FL

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Employee Benefit Plan Audit Quality Center

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