Retirement Planning Audit Rules Should Be Top of Mind for Firms

New tax laws and regulations this year in the retirement planning landscape not only are affecting plan administration but also offer businesses a unique opportunity to optimize their plans, enhance financial efficiency, and ensure compliance.

Previously, a significant number of employees didn’t cash out their retirement accounts when leaving an employer, leading employers to have to maintain many account balances for former employees. To address this administrative challenge, employers were allowed to cash out amounts under $5,000 without employee consent.

The new tax law, which raises the threshold to $7,000, encourages employers to reevaluate their approach to small account balances, effective for distributions after Jan. 1, 2023. By embracing cash-outs within the new limit, businesses can reduce administrative overhead and simplify their plan structures. This helps save costs but requires employees to make more investment decisions regarding their retirement funds.

ERISA and the 80-120 Rule

The Employee Retirement Income Security Act of 1974, or ERISA, mandates the filing of Form 5500—the Annual Return/Report of Employee Benefit Plan. Traditionally, plans with over 100 participants on the first day of the plan year had to undergo an audit. For this purpose, participants include active participants, eligible participants, and terminated employees with plan account balances.

The 80-120 rule carves out an exception to this threshold. Plans with 80 to 120 active participants can file the same form as filed the prior year, effectively sidestepping the audit requirement if no audit was required the prior year. So if Company ABCD LLC had 95 participants on Jan. 1, 2022, and filed Form 5500 without an audit for 2022, they could continue this practice even with 105 participants on Jan. 1, 2023.

Also, for plan years beginning on or after Jan. 1, 2023, the Department of Labor is redefining participants for determining whether the 100-participant limit is exceeded, excluding eligible employees who don’t make plan contributions and terminated employees who don’t maintain an account balance. This minimizes the need for plan audits, which reduces the costs of maintaining retirement plans, and encourages employers to explore or continue offering retirement savings plans.

Strategic Approaches to Audit Mitigation

A critical facet of retirement plan audits is the inclusion of terminated employees with account balances. Employers can adopt proactive strategies to manage this aspect. Terminated employees become eligible participants when their account balances remain within the plan. By facilitating balance distributions or transfers, employers can exclude them from the participant count, potentially averting an audit requirement.

The recent expansion of the cash-out limit opens an avenue for employers to curtail the likelihood of a financial statement audit. Although implementation requires a plan amendment, its significance is magnified for small businesses near the 100- or 120-participant threshold. Distributing account balances of terminated employees within the $5,000 to $7,000 range can significantly reduce participant counts, potentially eliminating the need for a plan audit.

Considering recent regulatory shifts, businesses should consider holistic strategies for their retirement plans. Leveraging the increased cash-out limit, understanding participant redefinition, and implementing proactive measures can lead to optimized plan management, substantial cost savings, and reduced audit risks. This changing landscape provides a platform for businesses to align their retirement plans with both regulatory rules and employee needs.

As the retirement plan landscape continues to evolve, it’s important to stay informed and proactive. Businesses that adapt strategically to these changes can optimize their retirement plans and enhance financial efficiency. The path to successful retirement plan management lies in understanding the nuances of these amendments and translating them into tangible benefits for employers and employees alike.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

Author Information

Deborah Walker is the national director of compensation and benefits at Cherry Bekaert. She advises clients on employment taxes, compensation and benefits issues, and IRS reporting requirements.

Alex Zhou and Dave Flinchum of Cherry Bekaert have contributed to this article.

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