We are a small business that has been growing quite a bit in the last couple of years and are now up to about 100 employees. Our company has a 401(k) plan and most of the employees who are eligible for it are contributing. We have been told that because of the size of our plan, we might need to have it audited each year by an outside accounting firm.
How is it determined whether or not our 401(k) plan has to undergo this outside audit?
The short answer is that any company-sponsored retirement plan that has 100 or more participants on the first day of the plan year must hire an outside accountant (referred to as an Independent Qualified Public Accountant or IQPA) to audit the plan’s financial statements for that year. The audit report must be attached to the Form 5500 when it is filed.
For years when the audit is required, the plan is referred to as a large-plan filer. It is referred to as a small-plan filer in other years.
Now for the slighty longer answer. The term “participant” is one that is often confused, because it is used in many different ways depending on the situation. In this context, a participant is anyone who is eligible for the plan (even if he or she is not actively contributing) and any former employee who still has a balance in the plan. Take a snapshot on each January 1st (or whatever the first day of the plan year is for your plan), count everyone who meets one of those requirements, and if that headcount is at least 100, then the plan must have an IQPA audit for that year.
There is an exception known as the 80/120 rule. It basically says that if you are a small-plan filer, you can continue filing as a small plan (i.e. no IQPA audit required) every year until you have at least 120 participants on the first day of the plan year.
There are several steps plan sponsors can take to control the participant count and delay the need for an IQPA audit. One is to review the list of those employees who are actually contributing to the plan. If you have very relaxed eligibility requirements for your plan, but very few shorter-service employees actually contribute, amending the plan to require a longer waiting period (up to a year) would keep these shorter-service, non-contributing employees from being included in the participant count.
Since former employees who still have balances are counted, that is another area for attention. The law allows plans to force out former employees whose vested balances are below $5,000. By processing these mandatory distributions before year-end, sponsors ensure those individuals are not included in the participant count for future years. Former employees with more than $5,000 left in the plan cannot be forced out, but you can certainly take steps to remind them of their ability to take distributions of their accounts.
For more information on Form 5500, plan eligibility requirements, and mandatory distributions, please visit our Knowledge Center here, here, and here. And for more on plan sponsor requirements, visit here.