Lack of Documentation Still an Issue During 401(k) Audit Season

August 4, 2015

The employee benefit plan audit season, which lasts from April through the extended Form 5500 filing deadline of October 15th, is well underway and we are finding that lack of proper documentation for plan transactions – typically hardship distributions, participant loans, and rollovers into the plan – is still an issue for many plan sponsors.

Earlier this year the Internal Revenue Service (IRS) posted clear guidance on its website reminding plan sponsors that obtaining and retaining records related to hardships and loans is their responsibility, even when recordkeeping for the plan is outsourced to a third party administrator. Specifically, with respect to hardship distributions, the following documentation should be kept:

  • Documentation of the request, review and approval;
  • Documentation supporting the employee’s immediate and heavy financial need;
  • Documentation supporting the distribution was made in accordance with plan provisions and the Internal Revenue Code; and
  • Proof of the actual distribution made and related Forms 1099-R.

While the plan sponsor can accept a participant’s self-certification regarding his or her immediate and heavy financial need, the other support should be collected by the plan sponsor and retained in either paper or electronic format.

With respect to participant loans, the IRS website indicates the following records should be kept:

  • Evidence of the loan application, review and approval process;
  • Executed plan loan note;
  • If applicable, documentation verifying that the loan proceeds were used to purchase or construct a primary residence;
  • Evidence of loan repayments; and
  • Evidence of collection activities associated with loans in default at the related Forms 2099-R, if applicable.

With respect to loans with terms in excess of five years to be used for the purchase or construction of a primary residence, the website is very clear that self-certification of the eligibility for these loans is not acceptable.  Failure to start the repayments is a common finding in our audits, so be sure to have procedures in place to initiate these repayments as soon as the loan is issued.

The audit of rollover contributions is another area where we often cannot see evidence that anyone considered whether the incoming funds were from a qualified plan.  In 2014, the IRS issued Revenue Ruling 2014-9 to provide some safe harbor procedures for a plan sponsor to follow to ensure a rollover contribution is from a qualified plan, including the employee’s certification of the source of the funds, verification of the source of the payment (i.e. the name of the former plan or IRA), and, if a former plan, looking up the most recent Form 5500 filing on the Department of Labor’s EFAST2 database.

If you are the party responsible for approving these transactions, be sure to follow the guidance!

For more information on employee benefit plan documentation requirements, please contact Aronson’s Employee Benefit Plan Services Group at 301.231.6200.