401k Audit: The Complete Guide


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Many companies don’t realize that they may have a 401k audit requirement. The plan may have started with only a few participants. But now it has grown large. 

Federal law requires an independent audit a 401k plan reaches a certain number of participants (more about this in a moment). Large businesses often understand the audit requirement and may be subject to an audit of their books and records. 

However, the audit process can be incredibly cumbersome for smaller business owners who have never been subject to the audit process and don’t understand how it works.

So when is a 401k audit required? Who performs the audit, and how much does it cost? In this post, we will take a close look at the issue. 

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What is a 401(k) Audit?

401k audits were first mandated by The Employee Retirement Income Security Act of 1974 (ERISA). The main goal is to make sure the retirement plan complies with IRS and government regulations. It should also follow any specific requirements in your 401k plan document. 

The audit can uncover parts of the plan that are (often unknowingly) not in compliance. This gives the company a chance to take corrective action. This will minimize employee risk and help the company keep it’s distance from the IRS. 

Who performs a 401k audit?

401(k) audits are performed by independent CPAs who have specific expertise and experience in 401k plan matters and compliance. 

When is an audit required?

A business must have its 401k plan audited if they have 100 or more eligible plan participants. However, a specific rule called the “80-120 rule” allows a company to postpone an audit until it begins a plan year with 121 or more eligible participants. 

While the plan itself may be considered a large plan once it hits the 100 participant threshold, the company may defer the audit requirement for a couple of years. This can give the company a nice break.

However, the plan is a “large” plan once is passes the 120 eligible participant threshold. At this point, an audit can no longer be avoided unless the eligible participant threshold dips back below 100.

What does “eligible participant” mean?

In a qualified plan like a 401k, an employee is considered an eligible participant when they meet the following requirements:

  • They are a current employee who meets eligibility to contribute to the 401(k) plan, whether they elect to participate or not. The point when the employee becomes eligible is designated in the plan document. It is typically driven by how long the employee has worked at the company.
  • They are a former employee who still maintains funds in the 401(k) plan. Generally, former employees can roll the funds over into an IRA, but they may choose to leave the funds in the prior employer’s retirement plan.

All you have to do is add up the two participant groups, and if the number is 121 or more on the first day of the 401k plan year, then the audit is required for the given year.

What does an audit encompass?

While each audit is a little different based on the plan design, the CPA will typically cover the following issues:

  • Review of the 401(k) plan document to determine that the plan is compliant and functioning consistent with IRS and DOL rules.
  • Examine any amendments made during the plan year. 
  • Verify that the information included on IRS Form 5500 is accurate and complete. 
  • Review and assess how the business maintains its electronic 401(k) records.
  • Test employee contributions to ensure funds are remitted accurately and timely.
  • Confirm that any distributions or rollovers were paid out properly and timely
  • Sample selected participant transactions to obtain comfort that overall participant activity is accurate. 
  • Interview company management to ascertain that the plan is properly functioning.

The audit process can be excessive. It can last 30-60 days, depending on the plan’s size and complexity. For this reason, the average 401k audit can cost $5,000 to $10,000. Of course, this is an average with some companies with thousands of employees who face large audit bills.

How can a company prepare for an audit?

Companies need to ensure that all documentation relating to the plan is carefully documented and tracked. This includes the following:

  1. The original plan documents, including the adoption agreement
  2. Any plan amendments made during the year
  3. Form 5500
  4. Detail of W2s (W3) and payroll records
  5. Schedule of loan requests and outstanding loan balances (including new loans and payments)
  6. Detail of plan distributions and rollovers
  7. Schedule of all employee contributions
  8. Detail of company matching contributions with dates and amounts

It is critical to monitor eligible plan participants for companies who are hiring more employees with a growing number of plan participants. Careful planning will reduce the chance of any surprises and help track the required documents to ensure that your first audit is a smooth process. 

Money on an abacus

Regardless of plan size, make sure you carefully coordinate the process with your 401(k) administrator to gather the proper information for the auditor. It might make sense to allow the administrator to directly access the CPA to reduce the company’s time commitment. 

Make sure that you engage a CPA who has the proper experience to complete a thorough and timely audit. Make sure you do your due diligence so that the process is efficient. 

What is the outcome of the audit?

Once the CPA has finalized the audit, you will receive a report. This report can then be attached to Form 5500. All companies with 401(k) plans must file Form 5500 annually.  This report must be filed with the IRS and the Department of Labor (DOL). 

Additional information required will include the type of plan, the plan sponsor’s (company) information, third-party administrator’s information, and the total number of plan participants. This forms the basis of whether your plan is considered small or large and whether you’ve passed the eligible participant threshold that triggers the audit. 

Form 5500 may not be as easy to complete as you might think. But typically, the administrator will prepare it for review by the auditor. 

Top 401k audit FAQs

Paul Sundin

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