The 80/120 Rule: What Plan Sponsors Need to Know About Audit Requirements
Published on by Harold Kremer in Benefit Plan Audits
- The 80/120 rule determines whether a benefit plan files as small or large, impacting whether a plan audit is required.
- Plans with over 120 participants are considered large (audit required), while those under 80 are small; those in between can use prior-year status.
- New rules for defined contribution plans count only participants with account balances when determining the initial audit requirement.
- This update can delay audit requirements and reduce surprises for growing plans with inactive eligible employees.
- Plan sponsors should monitor participant counts and plan ahead to manage audit timing, costs, and compliance.
For plan sponsors, few compliance thresholds are as important (or as misunderstood) as the 80/120 rule. This rule determines whether your employee benefit plan files Form 5500 as a small plan or a large plan, which directly impacts whether an independent plan audit is required. In general, large plans must include audited financial statements with their Form 5500 filing, while small plans are exempt.
How is the benefit plan size determined?
The rule is based on the number of participants at the beginning of the plan year. If your plan has more than 120 participants, it’s treated as a large plan, and an audit is required. If it has fewer than 80 participants, it files as a small plan with no audit requirement. Plans with 80-120 participants may rely on the prior year’s filing status, allowing many sponsors to avoid switching back and forth between small and large plan status as headcount fluctuates.
For many plan sponsors, the most significant impact of the 80/120 rule is when it triggers an initial audit. Historically, exceeding the participant threshold, even if many participants were inactive, could unexpectedly create a new audit requirement. This was particularly challenging for growing plans with many eligible but non-contributing employees.
How did the 80/120 rule change?
Beginning with 2023 plan years, the Department of Labor refined this approach for defined contribution plans (which include most 401(k) and 403(b) plans). Now, the determination of whether an initial audit is required is based on whether the plan has more than 120 participants with account balances at the start of the plan year. Eligible employees who haven’t contributed and don’t yet have an account balance are excluded from this specific test. Importantly, once a plan is subject to an audit, standard filing rules generally apply in subsequent years. For plan sponsors, this change can significantly delay the audit requirement and support more strategic planning as the plan grows.
Quick FAQ for plan sponsors
What is the 80/120 rule in simple terms?
It’s a rule that lets plans near the participant threshold stay classified as small or large based on last year’s filing, rather than reclassifying every time headcount changes slightly.
When is a plan audit required?
An audit is required when a plan files as a large plan. For defined contribution plans, an initial audit is required only when the plan exceeds 120 participants with account balances at the beginning of the plan year.
Do eligible employees who never enrolled count?
For purposes of determining whether an initial audit is required (starting in 2023), no. Only participants with account balances are counted. However, eligible non-participating employees may still be counted for other Form 5500 reporting purposes.
Once my plan is audited, can it ever stop requiring audits?
In certain cases, yes. But moving back to small-plan status is uncommon and requires careful analysis. Plan sponsors should consult with their auditor or advisor before assuming an audit is no longer required.
What should plan sponsors do if they’re approaching 120 participants?
Plan sponsors should monitor participant counts early, coordinate with their third-party administrator (TPA) and the Barnes Dennig plan audit team, and prepare in advance for audit timing, staffing, and fees to avoid surprises.
Where can I find more information about employee benefit plan audits?
Glad you asked! Barnes Dennig has prepared a Guide to Understanding Benefit Plan Audits. This guide includes information about the initial plan audit and videos to address other FAQs. If you’d like to discuss employee benefit plan audit topics, please reach out to one of the Barnes Dennig dedicated Employee Benefit Plan team members. As always, we’re here to help.
