401k Audits

401(k) Plans and Audit requirements

A 401k account is a retirement savings account, which takes its name from subsection 401(k) of the Internal Revenue Code.  In this account, employees can choose to defer a portion of their earnings and not pay income tax on the money until it is later withdrawn in retirement.  Earnings on contributions are not taxed until the funds are withdrawn. Employers may also choose to, and often do, match contributions that employees make.

The employee invests contributions among investment options selected by the Plan Sponsor (employer).   Typical investment choices are a selection of mutual funds, but sponsors may also allow other investment options such as stocks, bonds, guaranteed insurance contracts or individual brokerage accounts. The employee’s can generally re-allocate money among these investment choices at any time.

Regulatory changes that went into effect in 2006 now allow Plan Sponsors the option to design plans that accept separately-designated Roth accounts, commonly referred to as Roth 401k’s. Roth contributions are withheld from the employee after taxes; that is, income tax is paid or withheld in the year contributed. Qualified distributions from a designated Roth 401k account, including all earnings, are tax-free. 

Note:  all employer matching funds are deposited into the participant accounts on a pretax basis, even if the employee's contributions are all Roth contributions.

401(k) Audit requirements

All employers sponsoring 401k plans must file tax returns with the IRS.  This is done via an informational return filed on Form 5500.  The 401k audit requirement is based on whether the plan files this return as a large or small plan - large plans need to be audited whereas small plans do not.

The number of eligible participants as of the 1st day of the Plan year determines if a plan files Schedule H (large plan) or Schedule I (small plan) as a supplemental schedule to the Form 5500. 

In the first year of operations, the cutoff for classification is easy – under 100 eligible participants equates to a small plan and plans with 100 participants or more are classified as large plans.  After year one, the 80 - 120 Rule comes into play.   Any plan filing a Schedule H is required to attach an audited financial statement to the annual Form 5500 filing. 

Still confused as to whether you have a large or small plan?  Give us a call to discuss.


Tax Due Dates