How to Survive a 401(k) Audit

I’ve been very fortunate in my career to have several opportunities in which the person allegedly responsible for mentoring me and developing my skills instead showed me exactly how not do do something. Call it “reverse-mentoring,” if you will.

This is how I learned how to survive a 401(k) audit. The person who showed me the ropes pretty much hung himself on those ropes. He provided me with a virtual checklist of everything you shouldn’t do when the auditors show up. His files (both paper and electronic) were a rat’s nest of duplicates, triplicates and CYA memos to himself. He relied on his often faulty memory of the plan document to respond to queries instead of taking the time to look at what the plan document actually said. He wasn’t exactly sure what he was responsible for and what the TPA was responsible for, resulting in duplicate and contradictory documentation. Worst of all, he adopted a defensive attitude towards the auditors, challenging simple requests on shaky legal theory and a policy of “share as little as possible.” As a result, the field work that should have taken a couple of days stretched into weeks, adding unnecessary cost to the plan itself. The plan participants effectively lost money because this guy couldn’t get his act together.

Let’s turn this nightmare experience into a positive learning event. Here’s what you need to do to make sure your audit goes as smoothly as possible and to keep audit costs down to a minimum:

1. Realize that your 401(k) auditors are there to help you. Your auditors are accounting professionals assigned the task of ensuring that your 401(k) financials and related processes are running smoothly. They have no special motivation to find errors or lengthen the audit. In fact, the reverse is true: most accounting firms are tightly scheduled and tightly staffed, meaning that they have every motivation to get in there and get the work done as quickly as possible so they can meet their commitment to the next client. If errors or anomalies are found, don’t get frightened or defensive. Share what you know and learn from the experience. There are times that you may want to consult with your ERISA attorney on certain matters before discussing them with the auditors, but in general, your attitude towards the auditors should embrace transparency.

2. Get organized and stay that way. This falls under the “where there’s smoke, there’s fire” category of errors. Messy files imply messy processes and messy processes will give any auditor cause for concern. Since the audit is a recurring event, it makes sense to organize your files according to your auditor’s needs. Every auditor will give you a list of documents and files they want to review, and this list rarely changes much from year to year. Organize your files according to their needs. For example, you could have one folder for your plan reports, one for plan documents and amendments and one for plan events; within each of those folders are sub-folders organized by year.

3. Clarify responsibilities. That list the auditor gives you is also a handy organizing tool. When you receive the list, set up a conference call with your internal accounting people and your TPA to review who-is-going-to-do-what. Re-publish that list to that group with responsible parties and due dates.

4. Don’t memorize the plan document: look it up! Our educational experience of having to memorize trivia to pass tests has led us to adopt the habit of using our memories as a primary source of information. Since we are all on information overload today, our memory banks are pretty full. Get into the habit of going to the plan document every time one of your employees asks you a question. This may seem inefficient, but if you know your document and have it handy in a searchable electronic format, it turns out to be quite efficient. It’s certainly more efficient than giving your employees bad information—or giving the auditors the impression that you don’t know your plan document.

5. Coordinate responses in advance, but keep those responses 100% truthful. The auditors will interview the key people involved in plan operations and financial statements. Depending on your organization, this may include the HR leader, the top financial executive and a couple of others. Before the auditors arrive for field work, sit down with those key people and review the important events that occurred during the audit year. If you have problematic information to share, come to agreement as to what it is you are going to say after consulting with your ERISA attorney. This advice is not a license to spin bad information; it is simply to ensure that your internal team is in agreement as to what happened, why it happened and what you’re going to say about it. Consistency and honesty are equally important when communicating with auditors.

6. Do as much as possible in advance. You and your auditors will be in complete harmony on one thing: they don’t want to spend any more time at your site than they have to. Fortunately, the age of the electronic document is upon us and most record requests can be handled well in advance via email. Take advantage of that opportunity and continue to look for new ways to minimize the amount of physical paper in your processes.

401(k) audits do not have to be painful or dramatic. If you take the time to prepare and get organized, you will earn the trust and confidence of your auditors and ensure that the relationship becomes more of a collaborative effort and less of a police action. The auditors have a responsibility to you and you have a responsibility to your plan participants. The best way to fulfill both is to help your auditors do the job you’re paying them to do.