Common Errors Found During Retirement Plan Audits – Fall 2023 Fiduciary Commentary

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Fall 2023 Fiduciary Commentary

Common Errors Found During Retirement Plan Audits

The audit of a qualified retirement plan is intended to safeguard participant assets by ensuring the plan is operating according to accepted standards. Audits are required if the plan is considered a “large plan” for Form 5500 reporting purposes. To be labeled a “large plan,” there must be 100 or more eligible participants at the beginning of the plan year. The audits must be completed by an independent plan auditor.

From the perspective of plan administrators, the notion of a plan audit may be stressful, even frightening. While going through the process can be a daunting task, the findings from an audit can assist a company in streamlining and making its plan operations more efficient.

A frequent recommendation shared by auditors is to, first and foremost, always reference the plan document. A plan document defines the rights, benefits, and features of the plan, as well as the plan’s terms and rules for its administration. Accountants who regularly perform plan audits witness a variety of operational errors, and many plan errors and compliance violations can be traced back to not following the terms of the plan. Let’s review some of the most common plan errors.

Inconsistent Demographic Data: Inconsistencies of participant data in plan recordkeeping and payroll systems is a common issue. For instance, auditors have witnessed situations in which payroll totals and information on year-end census data provided for non-discrimination testing don’t align.

Auditors have also found plans that lack sufficient controls to ensure various plan administrative functions are handled accurately and timely to be a problem. Without the necessary mechanisms to properly record participant data and elections, employee deferral elections, plan eligibility and entry, among other items, may be inaccurate. Additionally, some employers lack controls to ensure plan contributions are remitted to the recordkeeper with accurate source types, such as employee pre-tax and Roth deferrals and employer match and profit-sharing contributions.

Auto Enrollment Administration Errors: In some instances, audits have found that an employee who met the eligibility requirements of the plan had not been automatically enrolled into the plan as the plan document required. If an employee was not given the opportunity to make an elective deferral, corrective action is required. One alternative is for the employer to make a qualified non-elective contribution to the plan (QNEC) to correct the employee’s missed deferral. To reduce the risk of omitting eligible employees, the plan administrator should ensure the accuracy of employee data and any other information necessary to properly administer the plan.

Additionally, there have been instances in which the employer did not maintain written documentation confirming that employees opted out of the plan (which is critical to corroborating that participants were not supposed to be automatically enrolled). Furthermore, auditors frequently find that plans do not maintain documentation demonstrating that all newly eligible employees were notified of their eligibility to participate in the plan within the timeframe required.

Compensation Definition Errors: A common plan administration error concerns the various plan compensation definitions available for calculating plan contributions. Employers calculating employee deferrals and employer contributions often do not consistently use the definition “eligible compensation” for plan contribution purposes as stated in the plan document. For example, a common definition of compensation is the amount reported in Box #1 of Form W-2, grossed up for any pre-tax deferrals to a 401(k) plan and/or other benefit arrangements. That definition is basically gross compensation, so failure to consider an annual bonus, for example, would not be consistent with this definition.

Common mistakes include assuming that taxable, non-cash compensation is not eligible compensation and excluding a portion of compensation that should be included in eligible compensation, such as bonuses, commissions, or overtime. Often, employers find it helpful to square the plan’s use of compensation for plan contribution purposes with their payroll provider and confirm that the various pay codes used are consistent with how compensation is defined in the plan.

Plan Distribution Errors: Another common error within 401(k) plans is the processing of a hardship distribution. Employees are eligible for a hardship distribution when there is a need for immediate financial assistance and no other financial resources other than plan savings are available. Employers often approve the distribution without conducting the proper due diligence and do not preserve the documentation to evidence the financial need and other requirements of a hardship distribution.

A plan document will specify under what conditions (if any) in-service withdrawals are available. A plan may offer in-service withdrawal after the participant reaches the age of 59½. However, there can be additional restrictions to include rules on what money types are available for in-service distributions. For example, safe harbor contributions cannot be withdrawn during employment prior to age 59½ even if the plan otherwise permits hardship distributions. Also, money purchase pension plans and defined benefit plans typically prohibit distributions before age 62. Often, auditors find in-service withdrawals processed without these restrictions observed.

Plan administration errors such as these discussed and others, if not corrected in the year identified, can have serious and cumulative consequences, and grow to become material to the plan’s financial statements. The consequences of past mistakes can worsen to the point where the auditors can no longer represent that the plan has maintained its qualified status on its management representation letter.

If an error is discovered during an audit, the employer should take the necessary corrective measures needed to maintain the plan’s qualified status. The IRS offers various approved programs available under the Employee Plan Compliance Resolution System (EPCRS) for plan sponsors to regain compliance and preserve the plan’s tax-favored status. However, with audit results in hand, a plan administrator should be able to more accurately evaluate the strengths or weaknesses of the internal controls involved in financial reporting.

COLA 2024: The Highest Increase in 40 Years

The IRS recently announced the new qualified plan contribution and benefit limits for 2024. The adjustments reflect the moderating inflation readings, from the significant increases seen in 2023.

In general, annual limits elective deferrals and annual compensation amounts were increased over the 2023 limits, while catch-up contribution limits remain unchanged from 2023. Details on these and other retirement-related cost-of-living adjustments for 2024 are found in Notice 2023-75, available on

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