401k Plan Audits – Part 1: Does Your Company Require One?

Posted by Jessica Rizzo on Mar 9, 2021 9:31:08 AM
Jessica Rizzo

When a business reaches a certain number of eligible participants for their 401(k) plan, federal law requires an independent audit of the plan. While larger companies may be familiar with this process, many small business owners may find themselves in uncharted territory the first time their number of eligible participants increases above the threshold amount. In this 3-part blog series, we’ll cover the basics of 401(k) plan audits.

What is a 401(k) Plan Audit?

The Employee Retirement Income Security Act of 1974 (ERISA) first mandated the annual audit of 401(k) plans after carmaker Studebaker terminated their pension plan in 1963, leaving workers without retirement funds. The primary objective of the audit is to ensure that the plan complies with government regulations and company-specific requirements, allowing you to take corrective action on any parts of your 401(k) plan that are found to be not in compliance, and therefore minimizing risk to your employees and your company.

Requirements & Eligibility

How many eligible employees does your company have on the first day of the plan year? If it is more than 120 eligible participants, you are required by the IRS to have a 401(k) Plan Audit (see “ 80 - 120 Participation Rule” below). An “eligible participant” is any employee of the company who meets both the statutory IRS requirements and the requirements of the company’s 401(k) plan agreement at the beginning of the year. Even if they decide not to participate in the plan, these individuals are still considered eligible, and therefore are still considered part of your eligible employee count towards whether your company needs an audit. Terminated employees who have balances in the 401(k) plan on the first day of the plan year are included in the count as well.

What is the “80-120 Participation Rule”

If you filed as a "small plan" last year and the number of plan participants is fewer than 121 at the beginning of this plan year, you may continue to file Schedule I as a "small plan" with no audit requirement under the "80-120 Participant Rule." This rule allows plans with between 80 and 120 participants at the beginning of the plan year to file the Form 5500 in the same category ("large plan" or "small plan") as the prior year filing. Small plans do not have an audit requirement.

If your plan reaches 120 eligible participants, and requires an audit, the audit threshold for eligible participants during future years drops to 100 eligible participants.

My company has 120+ eligible participants, now what?

Once you reach 120 eligible participants, your company is required to have a 401(k) plan audit completed. This means that the company’s financial statements will need to be completed and submitted with Form 5500 to the IRS within seven months after the end of the month the plan year ends. For instance, if your plan year ends December 31, 2020, then your 401k plan audit is due on July 31, 2020. An extension can be filed in which the Form 5500 due date can be pushed out an additional two and a half months to October 15, 2020. If an extension is filed for the Form 5500 this also allows the financial statement due date to be extended as well.

Stay tuned for the next blog post in this series, which will dive into what is audited during a 401(k) audit. If you have any questions about 401(k) audits, leave a comment below, or feel free to reach out to me directly, I’m happy to help!

Topics: Business Advisory, Audit, Employee Benefits, Small Business