401(k) Fidelity Bond: What Is It And How Much Do I Need?
I want to address the topic of fidelity (lower case f) bonds because the IRS has stated it’s one of the top two issues they find on 401(k) plans, at least for smaller ones. To give you an idea, I estimate there are about 36,000 single employer plans in Texas that have more than 3 people (excluding estimated exceptions discussed later for solo plans) and roughly 11,000 of those do not have adequate coverage and are out of compliance. That’s about 1 out of 3 plans with this issue! To top it off, over 8,000 of the 11,000 plans are under $2,000,000 in plan assets. This is quite possibly the easiest thing you can take care of on your 401(k) plan and it’s also a very important one.
What is a fidelity bond?
First, this is not something issued by Fidelity Investments. It’s referencing the true meaning of the word, which I would sum up as faithfulness. The bond is required under ERISA for anyone running a plan. The whole point of it is to protect the plan against fraud, dishonesty, theft, and embezzlement. As a plan administrator, you have access to people’s money. Theoretically, a dishonest person could wire that out of your company holding accounts and into their personal bank account (it’s happened in real life). In this scenario, the bond would cover the plan for losses up to the face amount.
What are the required amounts?
Under ERISA, you are required to have 10% of the value at the beginning of the plan year, with a minimum of $1,000 and a maximum of $500,000 (unless you have employer securities in the plan and then the max is $1,000,000).
Given most plans do not have employer securities, that means you need to monitor and update your coverage until your plan assets exceed $5,000,000 before you have the maximum amount required by law.
How do I know how much I need?
If you’re starting a plan, the minimum is $1,000. From there, your form 5500 will guide you on the appropriate amounts year to year.
The amount is based on the beginning of year plan assets and should be reviewed each year. You’ll also always know the next year’s amount necessary based on the end of the year total plan assets.
Part III, line 7a of the short form 5500 has Beginning of Year and End of Year plan assets. If, for example, you're filing your 2021 form 5500, you would look at the beginning of year column and multiply the amount by 10%. In the following example, the Beginning of Year assets are $1,698,720 (circled in red) multiplied by 10% which gets us $169,872. That number should be the minimum amount of your bond and coverage you have and listed in Part V, 10c (circled in orange). The DOL can easily run a scan and see if you have proper coverage or not. In this example, the below plan does not have proper coverage and could trigger an audit, all for something so small.
You can also figure out your 2022 bond amount, following this example, by multiplying End of Year amount (circled in green) and multiplying by 10%. $1,998,813 times 10% is $199,813. That number carries over to your beginning of year amount on your next form 5500. You can now go to your insurance provider to update/backdate if needed for this coverage amount in 2022. Rinse and repeat until your plan is over $5,000,000, if no employer securities.
What happens if I don’t have one or it’s not the correct amount?
The easiest answer is, you’re out of compliance with ERISA (i.e. the law), which is not a great place to be. As previously stated, it’s so simple for the DOL to flag this in their system. While no specific penalty is stated under the law, it can easily trigger a plan audit (they know you’re out of compliance on this, so what else are they going to find) and the fiduciaries can be held personally responsible for losses (I hope you have a well padded savings account).
I’m shocked at the amount of plans who just mark this no they don’t have one, when they do, or don’t update the amount. I’ve notified plan sponsors who don’t have proper coverage but then go on to claim they actually do. However, their form 5500 clearly informs the DOL of a different situation. Why would you do this! Would you take the same approach on your personal tax return or would you make it right? Please, make sure this isn’t you and you update the information correctly.
Who should be covered?
Anyone handling plan funds in any manner. That doesn’t mean all fiduciaries need to be bonded, but anyone who can move money should be covered. Bonds come in different forms, but a blanket bond, one that covers a group without a specific list of names, is typically best. This removes the requirement to update as staff who handles the plan turns over.
Where can I get one?
Not all insurance companies can provide one, but the Department of Treasury has an approved list you can see here. Your insurance company may be on here, so double check. From my experience, there are companies that can issue this online, in a matter of minutes.
Are there exceptions to this rule?
Yes, church plans, government plans, certain financial institutions like banks, insurance companies, and registered broker dealers are exempt. Also, solo-401(k) plans covering the owner and spouse are not required to have coverage (you’re only handling your money).
What’s Next?
There are so many facets to running a 401(k) plan. You likely have a day job that requires much of your attention and most of the time it’s best to have someone else keeping an eye on this with you. That someone needs to have deep knowledge of this space, far beyond investments only. I’m happy to be that person for you! Feel free to reach out or click the Schedule Appointment button at the top or bottom of this page.
Additional Resources
Protect Your Employee Benefit Plan With An ERISA Fidelity Bond
