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Four Common 401(k) Plan Compliance Deficiencies and How to Prevent Them

Four Common 401(k) Plan Compliance Deficiencies and How to Prevent Them

Over the past several years, 401(k) plans have been under increased scrutiny by both the Department of Labor (DOL) and Internal Revenue Service (IRS).  

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Plan administrators and plan sponsors should have sound policies and procedures to ensure that they are in compliance with plan rules and federal regulations.  To assist plan administrators and sponsors, we have detailed four of the more common 401(k) plan compliance deficiencies and have provided examples to prevent such errors.

1.     Nondiscrimination Testing

Deficiency
On an annual basis, a 401(k) plan is required to perform nondiscrimination testing to ensure highly compensated employees are not allowed to contribute substantially more than non-highly compensated employees.  This testing is achieved by performing Average Deferral Percentage (ADP) and Annual Contribution Percentage (ACP) tests.  Deficiencies in this area include incorrectly classifying employees as highly compensated or non-highly compensated, using an incorrect definition of compensation or calculating the ACP/ADP tests incorrectly. 

Prevention
To reduce the possibility of errors, a plan should appoint an individual to review the plan document and employee data to ensure all information has been correctly captured.  Another individual should be responsible for reviewing the ADP/ACP test to ensure it was performed timely and accurately.  To eliminate the need for nondiscrimination testing, the plan may consider changing from a traditional 401(k) plan to a safe harbor plan.  This allows the sponsor to make “safe harbor” fully vested contributions to employees’ accounts.

2.     Participant Contributions

Deficiency
The issue of participant contributions has been a hot button issue over the past several years, particularly, the timing of when contributions are remitted to the plan from the plan sponsor.  Generally speaking, contributions for large plans (more than 100 participants) must be remitted to the plan as of the earliest date on which such contributions can be reasonably segregated for the employer’s general assets, but no later than 15 business days after the month in which the participant contributions were withheld.  If contributions are remitted after this date, the contributions are considered a loan to the plan sponsor, and it is reported as a prohibited transaction on the plan’s Form 5500.      

Prevention
The key to ensuring that contributions are remitted in a timely manner is consistency.  The plan sponsor should consider developing a calendar tracking system to ensure contributions are remitted within DOL rules. 

3.     Plan Document

Deficiency
A failure to timely update the plan document is another common deficiency.  Plan documents should be updated to ensure all plan changes and new laws have been incorporated into the plan.  Errors can also occur in applying the terms of the plan document, such as incorrectly applying the definition of compensation or plan eligibility rules. 

Prevention
The plan sponsor should consult with legal counsel to ensure the plan document is updated timely.  In addition, the plan sponsor should appoint a dedicated individual(s) to be responsible for understanding the specific rules of the plan.

4.     Regulatory Compliance

Deficiency
Plan sponsors are responsible for monitoring the guidance released by regulatory bodies (e.g., IRS and DOL), and plans that do not adhere to regulatory changes and updates may be putting themselves at risk.  One of the more recent changes for 401(k) plans has been to the process of submitting tax determination requests.  The IRS released Revenue Procedure 2012-6, which updated the process as follows:  1) master or prototype plans are no longer able to file for a determination letter on Form 5307; 2) volume submitter plans may only file Form 5307 for limited changes made to an approved plan; and 3) plans may no longer include with their determination requests information relating to participation, coverage and nondiscrimination requirements.  These changes are effective February 1, 2012, for plans under the five-year remedial amendment cycle and May 1, 2012, for terminating plans or plans under the six-year remedial amendment cycle.   

Prevention
Plans should consult with legal counsel specializing in retirement plans, or designate an individual who is responsible for following updated guidance and regulatory changes.  

Plan sponsors and administrators are ultimately charged with the responsibility of ensuring their plan complies with both external and internal rules and regulations.  The deficiencies listed above highlight some of the more common 401(k) plan errors and ways to prevent such issues to ensure your plan is compliant.   From your standpoint, the key is to be prepared and proactive in implementing preventative measures.  

Donnie Springer, CPA, has nine years of experience with audit and accounting services for employee benefit plans and not-for-profit organizations.  She is a member of the American Institute of Certified Public Accountants, California Society of Certified Public Accountants and International Foundation of Employee Benefit Plans.  Contact Donnie at dspringer@lindquistcpa.com

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