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Safe Harbor 401(k)s were built to make employee retirement plans easier for small businesses.

Safe Harbor 401(k)

Intro to Safe Harbor 401(k)s

Some tests are hard to pass.

For example, small businesses sometimes have trouble passing the IRS-required 401(k) non-discrimination tests. These are tests designed to make sure all participants in a 401(k) are treated fairly, regardless of compensation levels. That sounds like a good thing, but that rule can be a problem for small employers.

The challenge of non-discrimination tests

Non-discrimination tests compare Highly Compensated Employees1(HCEs) and Non-Highly Compensated Employees (NHCEs). For example, the IRS says that:

  • 401(k) deferrals by the HCEs can be limited by the NHCEs deferrals
  • Key Employee2 account balances generally can’t be more than 60% of the assets in the plan without additional contributions to the non-key employees

If the NHCEs don’t participate or contribute much, then the HCEs can’t contribute much. It can easily happen in businesses without a lot of employees, and that’s a problem if the HCEs want to make significant contributions.

The solution: the Safe Harbor 401(k)

Fortunately, regulators recognized that this was a problem, and the Safe Harbor 401(k) was born. It’s virtually the same as a traditional 401(k), except most of the non-discrimination tests are waived if certain requirements are met. We know the rules for a Safe Harbor 401(k) plan are confusing. We’re here to make sense of them. Let us help you evaluate the safe harbor 401(k) option for your business.

Who it's for

Small Business

A Safe Harbor 401(k) might be a good choice if you're a small business with a small staff.

How it works

In exchange for relief from the non-discrimination testing requirements and allowing for higher contributions by HCEs, you’ll have to either make non-elective contributions or matching contributions. Of course, we’re here to help you decide which of these two options is most advantageous for your business, and we’ll help you with the calculations.

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Non-Elective Contributions

You can make a non-elective contribution of at least 3% of compensation for each NHCE eligible to participate in the plan.

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Matching Contributions

You can make matching contributions under a “qualifying matching formula.” The basic matching formula is 100% of the first 3% of compensation deferred + 50% of deferrals between 3% and 5% of compensation. The minimum enhanced matching formula is 100% of deferrals, up to 4% of compensation. The matching formula is different if your plan has a qualified contribution arrangement.

Other rules

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You can’t set conditions on receiving safe harbor contributions. For example, you can’t say that plan participants have to be employed on the last day of the plan year or work at least 1,000 hours during the plan year. You can, though, have minimum age and service requirements to be eligible to participate in the plan.

Impact on your plan design

If your existing 401(k) isn’t currently a safe harbor plan, but you think it might be a good idea, be aware that safe harbor provisions can’t be added to an existing 401(k) during a plan year. You have to amend your plan to add a safe harbor design for the next plan year, with the amendment adopted before the first day of the new plan year.

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Employee notices

Before the start of each plan year, you have to give each eligible employee a notice of rights and obligations under the safe harbor plan. Employees who will be eligible to participate during the year also need to get the notice.

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All safe harbor contributions are immediately 100% vested.

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Safe harbor contributions generally aren’t available for in-service withdrawals before age 59½.

Plan documents

Plan documents must state if safe harbor or non-safe harbor testing will be used. Our retirement plan specialists will help customize your plan documents to best fit your situation.

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1 A Highly Compensated Employee is defined an employee who earned $115,000 the previous year, an individual with more than 5% ownership, or the family of a more than 5% owner (spouse, children, parents, grandparents).

2 A Key Employee is defined as an employee who owns over 5% of the company, an employee who owns more than 1% of the company and whose compensation is more than $150,000 during the plan year, or an officer whose annual compensation from the employer was more than $165,000.

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