Four costly errors and lessons learned: Four case studies in the price of 401(k) plan mistakes

By Dan Ryan

Do you know if there are weak spots in your company’s 401(k) plan? Do you even know where to look?

Within the administration of a 401(k) plan, even small mistakes can cost big money. For employers that offer 401(k) retirement plans to their employees, a simple oversight could generate costs that far outweigh any losses caused by the original error.

Consider these four common 401(k) plan errors and the penalties paid entirely by the employer:

Eligible employees were not allowed to make an elective deferral.

• Employer penalty: An employer must make a corrective contribution to compensate the employee for the missed opportunity to participate. The time between the error occurrence and discovery impacts the contribution amount. The corrective contribution could include a portion of the missed employee salary deferrals and the missed employer matching contributions. All correcting contributions are adjusted for lost earnings.

Failure to timely remit employee elective deferrals to the Plan’s trust.

• Employer penalty: The employer should determine which deposits were late and then calculate and contribute lost earnings resulting from the deferrals not being deposited into the trust promptly.

Late filing of Form 5500, which is submitted annually to the U.S. Department of Labor (DOL) and Internal Revenue Service (IRS) detailing a company’s 401(k) plan.

• Employer penalty: ERISA and the Internal Revenue Code provide for the DOL and the IRS to assess or impose penalties for not filing a complete and accurate return. A penalty of up to $2,259 per day that a plan administrator fails to file a complete and accurate return with no maximum along with other penalties may apply based on the circumstances of the late filing.  Fees of $250 per day to the IRS, to a maximum of $15,000 for filings before December 31, 2019 and for late filings after December 31, 2019, provisions of the SECURE Act apply, resulting in penalties of up to $250 per day, not to exceed $150,000.

The Employer did not use the correct definition of plan compensation for elective deferrals.

• Employer penalty: Employer must make a corrective contribution comprised of the missed salary deferrals and the missed matching contributions using proper plan compensation, adjusted for lost earnings.

Employers often outsource the processing of the employee benefit plan to outside service providers; however, when an error occurs, regardless of who is at fault, the employer is responsible for making and paying for the correction and/or penalty.

Real-life 401(k) plan mistakes

These case studies show the costs that accumulate when companies fail to follow plan documents and procedures:

Eligibility error: Eligible employee not timely enrolled in the plan.

Audit testing at a professional services firm discovered an error and breakdown in controls. The company failed to enter an eligible employee’s 401(k) deferral election into the payroll system, and deferrals never commenced. A misplaced participant election form caused the error.

The mistake was continued for approximately five years until uncovered by the audit. The employer paid about $10,000 in a corrective contribution.

• Lesson learned: The employer performed an internal audit of 401(k) documents to ensure the accurate recording of all information.

Late deposit error

Through an audit, a consulting firm with about 100 plan participants learned that deposits had been late for several years. The business rejected recommendations by the auditors to take corrective action. The firm eventually received a notice from the Department of Labor. The company had to immediately pay $30,000 in corrective contributions for four years of late deposits.

• Lesson learned: The company implemented new procedures to prevent late deposits after paying the fine.

Form 5500 late filing

The IRS sent a notice to a company after the agency found it never filed the required Form 5500. The small 401(k) plan did not require an audit, and upon investigation, the company learned that the third-party administrator had not filed the document. The company received a $12,000 fine, nonetheless.

• Lesson learned: The company contracted with Boyer & Ritter to review the company’s benefit plan processes and procedures to avoid future errors.

Plan compensation error: Deferrals not withheld from bonus compensation

An IRS audit on a private company revealed that the organization did not correctly use the definition of plan compensation for all deferrals. Contrary to the definition in the company’s plan document, the organization did not withhold 401(k) plan deferrals from bonus pay for approximately 100 participants.

The employer had to immediately pay more than $100,000 in corrective contributions calculated according to missed deferral opportunity, match, and loss of earnings. The business also paid an IRS fine.

• Lesson learned: The company and third-party administrator now hold annual meetings to review all plan amendments to ensure that changes are implemented correctly and timely at the company.

Boyer & Ritter offers preventive help

In all of these cases, preventive measures would have averted costly fines and payments. Businesses that find themselves in these circumstances can also be on the hook for additional costs, such as paying the third-party administrator to calculate the corrective contributions and lost earnings and filing fees for IRS correction programs.

Remember, the fault – and penalties – always fall on the employer.

The first step in avoidance is hiring a reputable and reliable third-party administrator, but even then, active monitoring is a must.

Boyer & Ritter can help employers learn the rules, identify system weaknesses, implement safeguards that prevent costly errors, and give employees confidence that their employer is appropriately managing their hard-earned retirement dollars.

Dan Ryan is a manager with Boyer & Ritter LLC. He is an integral part of the firm’s employee benefit plan group and provides audit and accounting services for construction industry and other closely held business clients. Contact Dan at 717-761-7210 or dryan@cpabr.com