A Guide to 401(k) Plan Audits: Requirements, Exceptions, and Common Issues

Written by Michael Kanjo LMC Senior Audit Manager

401(k) employee benefit plan audits are essential for ensuring compliance with federal regulations and maintaining the integrity of retirement plans. These audits are required for “large” plans, which are defined as those with 100 or more participants with account balances at the start of the plan year.

Audit Requirements

Federal regulations require that large 401(k) plans undergo audits conducted by independent accounting firms. These audits must be performed according to Generally Accepted Audit Standards (GAAS) and adhere to guidelines established by the Internal Revenue Service (IRS) and the Department of Labor (DOL). Additionally, audits must comply with the provisions of the Employee Retirement Income Security Act (ERISA) of 1974.

Purpose of a 401(k) Audit

The primary purpose of a 401(k) audit is to ensure that the plan complies with IRS and DOL regulations, as well as the plan’s governing documents and agreements. The audit also verifies that the financial information reported on the plan’s Form 5500 and audited financial statements is accurate and complies in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP).

Form 5500 Filing Requirements

Form 5500 is an annual tax form that must be filed with the DOL by all large 401(k) plans. This form reports the plan’s financial condition and operations. An audited financial statement must be attached to the Form 5500 when it is filed. The filing deadline for Form 5500 is July 31st, with the option to extend the deadline to October 15th each year.

Exceptions to the Audit Requirement

Not all large plans are required to undergo an audit. Some exceptions include:

• Short Plan Year: If the plan year is shorter than 7 months, the audit can be deferred to the following year.
• 80-120 Rule: If the plan has between 80 and 120 participants at the beginning of the plan year, it can file as a small plan if it did so in the previous year.

Minimum Required Documents for a 401(k) Audit

To prepare for a 401(k) audit, plan sponsors need to provide specific documentation, including:

• Plan Documents: Adoption agreement, summary plan description, IRS opinion letter, and investment policy.
• Form 5500: Completed form for the applicable year.
• Fidelity Insurance Bond: Proof of the plan’s fidelity bond coverage.
• Meeting Minutes: Records from retirement plan or investment committee meetings.
• Employee Census Report: Participant information for the year.
• Payroll Reports: Documentation of employee compensation and contributions.
• Participant Files: Enrollment packages and personnel records for selected participants.
• Remittance Schedule: Records of contributions made through payroll deductions.
• Internal Controls Documentation: Procedures for payroll, contributions, distributions, and loans.
• Audit Package: Yearly activity report from a third-party administrator (TPA).

Key Audit Findings and Issues for Plan Sponsors

Compliance Issues

• Eligibility Errors: Mistakes in determining who can participate in the plan.
• Contribution Miscalculations: Errors in calculating employee contributions or employer matching.
• Incorrect Compensation Definitions: Failing to include eligible compensation such as bonuses and commissions.
• Late Remittance: Delays in depositing employee contributions.
• Participant Transactions: Errors in processing loans, withdrawals, or distributions.
• Vesting Schedule Compliance: Failing to adhere to vesting rules.
• Loan Terms: Issues with loan repayment terms or monitoring.

Financial Reporting Errors

• Asset Calculation Errors: Inaccurate calculation of plan assets and liabilities.
• Account Balance Mistakes: Errors in recording participant account balances.
• Record Discrepancies: Inconsistencies between plan records and trustee statements.
• Form 5500 Errors: Missing or incorrect information on Form 5500.

Internal Control Deficiencies

• Inadequate Documentation: Missing records for plan transactions.
• Segregation of Duties: Poor separation of responsibilities in plan administration.
• Weak Monitoring Procedures: Insufficient oversight of participant data and account activity.

Addressing Audit Findings

When an audit identifies issues, the following steps should be taken:

Communication with Plan Sponsor

• The auditor will provide a detailed report outlining the findings, their impact, and recommendations for corrective actions.

Corrective Actions

Plan sponsors should promptly address the identified issues by:

• Updating plan documents.
• Recalculating participant balances.
• Improving internal controls.
• Notifying affected participants if necessary.

Follow-Up

Auditors may perform follow-up procedures to ensure that the corrective actions have been implemented effectively.

Navigating 401(k) employee benefit plan audits can seem complex, but understanding the requirements and preparing the necessary documentation can make the process more manageable. For more information, contact Michael Kanjo, LMC Senior Audit Manager at mkanjo@lmcas.com.