Is It Time to Sail Into a Safe Harbor 401(k)?

Is It Time to Switch to a Safe Harbor (4)

Although it seems like it’s still a million miles away, October 1st is just around the corner.

What is the significance of the October 1st mile marker?

Once we reach October 1st, it is too late to start a new Safe Harbor 401(k) Plan for the 2015 plan year. Newly established plans must be up and running and ready to accept contributions by October 1st. This means that, just like any other journey you may take, you have to plan ahead, and your planning should start now.

The Safe Harbor 401(k) is increasingly becoming a popular choice among plan sponsors. A Safe Harbor 401(k) plan is not actually a separate plan from the traditional 401(k), rather it is an optional provision that can be added to the 401(k) plan document. Electing to be a Safe Harbor 401(k) plan is simple, and a traditional 401(k) plan can easily be amended to allow for Safe Harbor contributions. Learn more about the Safe Harbor 401(k) plans in this article, and then you can decide if it is time for your company to make the switch.

Reasons to choose Safe Harbor 401(k)

If your plan is Top Heavy- If Key Employees have more than 60% of the plan’s total assets in their accounts, then your plan is top heavy. Top heavy testing identifies key employees in the plan, and then compares their account balances with those of rank and file or non-key employees. When plans are top heavy, the employer must make mandatory contributions to all eligible non-key employees’ accounts even if the participant does not make contributions of their own. These mandatory contributions made by the employer can become costly.

If your plan fails ADP/ACP testing- If a traditional 401(k) plan fails ADP/ACP discrimination testing, the employer must make mandatory contributions to rank-and-file employees. Or, the employer may have to make distributions of a portion of highly compensated employees’ (HCEs) deferrals and/or make matching contributions for the HCEs. In some case, the employer may have to do all of the above. Any excess contributions that are distributed to the HCEs will be taxed and included on their 1099R. More importantly, their ability to accumulate funds for retirement will be limited.

To Maximize Contributions- Amounts that Highly Compensated Employees HCEs can defer to the plan are limited by what Non-Highly Compensated Employees NHCEs defer from their pay into the plan. This can put HCEs at a disadvantage, especially in smaller organizations. A Safe Harbor plan allows HCEs the ability to maximize deferrals up to the full dollar amount allowed by the regulations each year ($18,000 for 2015) into the plan without worrying about failed discrimination tests and required refunds.

Requirements for Operating a Safe Harbor 401(k)

Mandatory Contributions- In exchange for Safe Harbor status, employers must make mandatory contributions to eligible employees. Employers must satisfy one of the following requirements:

  1. Basic Match- 100% match on the first 3% of employee deferrals and 50% on the next 2% contributed or;
  2. Enhanced Match- 100% match on the first 4% of employee deferrals or;
  3. Non-Elective Contribution- 3% non-elective contribution to employees on 100% of their compensation, even if they don’t defer.

Vesting- Employees are 100% immediately vested in both pre-tax deferrals and in employer Safe Harbor contributions.

Participant Notices- Participants and eligible employees must be given a Safe Harbor Notice by the plan sponsor each year. This notice informs all eligible employees of their rights under the plan as well as other plan information. This notice is required to be distributed not more than 90 and not less than 30 days before the beginning of the plan year.

Business Entity- The same entities that can sponsor a traditional 401(k) plan can sponsor a Safe Harbor 401(k) plan.
The Safe Harbor 401(k) plan can be a great option for the plan sponsor and employees under the right circumstances and can resolve many of the problems associated with discrimination testing. If you would like more information on setting up a Safe Harbor 401(k), please feel free to call us. Keep in mind that each plan is different and there are variances which are not discussed within this article. For a more detailed explanation of Safe Harbor in relation to your retirement plan, please don’t hesitate to contact us.

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