Safe harbor 401(k) plans are the most popular type of 401(k) sponsored by small businesses today. They can help business owners maximize their annual contributions by automatically passing the ADP/ACP and top heavy nondiscrimination tests - which small business 401(k) plans often fail. However, to achieve safe harbor status, a plan must meet certain employer contribution and participant disclosure requirements. For many business owners, that trade-off is well worth the cost.
We get a lot of questions from business owners about safe harbor 401(k) plans. Below is a FAQ with answers to the most common questions we receive. These answers reflect changes made by the Setting Every Community Up for Retirement Enhancement (SECURE) Act. If you are a small business owner, you can use our FAQ to help decide whether a safe harbor 401(k) plan is right for your company.
What Are My Safe Harbor Contribution Options?
You must make a qualifying employer contribution to satisfy safe harbor 401(k) plan requirements. For 401(k) plans that do not meet Qualified Automatic Contribution Arrangement (QACA) requirements - which are described in the following question - your contribution options are:
- Matching Contribution - Your formula options include:
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Basic match - 100% match on the first 3% of deferred compensation plus a 50% match on deferrals between 3% and 5% (4% total).
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Enhanced match – Must be at least as generous as the basic match at each tier of the match formula. A common formula is a 100% match on the first 4% of deferred compensation.
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Nonelective Contribution - 3% (or more) of compensation, regardless of employee deferrals.
Highly-Compensated Employees (HCEs) can be excluded from these contributions. They must be 100% immediately vested.
What’s a Qualified Automatic Contribution Arrangement (QACA)?
A QACA is a type of safe harbor 401(k) plan that includes an automatic enrollment feature. QACAs must meet the following requirements:
- Make one of the following contributions to plan participants:
- QACA Match – 100% match on the first 1% of compensation deferred and a 50% match on deferrals between 1% and 6% (3.5% total). A more generous match formula is also allowed.
- QACA Nonelective – 3% (or more) of compensation, regardless of employee deferrals.
- Subject QACA contributions to no more than a 2-year cliff vesting schedule.
- Set a default deferral rate for the automatic enrollment feature based on the following limits:
- Minimum - 3% for the first year of plan participation, increased by 1% annually until 6% is reached.
- Maximum - 10% for the first year of plan participation. For subsequent years, the SECURE Act raised the cap to 15%.
Are profit-sharing contributions made to a safe harbor 401(k) plan subject to testing?
Yes. Regardless of a 401(k) plan’s safe harbor status, a profit-sharing contribution must satisfy the 401(a)(4) nondiscrimination test. While a pro-rata or permitted disparity formula will generally pass this test automatically, a “new comparability” formula must pass the 401(a)(4) “general test.”
Can an Additional Discretionary Match Also Exempt from the ACP Test?
It depends. If you make a discretionary match in addition to safe harbor contributions, it must meet two conditions to be exempt from the ACP test:
- The match formula cannot be based on more than 6% of deferred compensation.
- The match cannot exceed 4% of deferred compensation in total.
For example, a discretionary 50% match on the first 6% of deferred compensation (3% total) would be exempt from the ACP test, while 25% match on the first 10% of deferred compensation (2.5% total) would not.
A discretionary match can be subject to a vesting schedule – up to a 3-year cliff or 6-year graded schedule.
Is a safe harbor 401(k) plan always exempt from top-heavy testing?
No. A safe harbor 401(k) plan would be subject to top-heavy testing for plan years in which one or more of the following events occur:
- Safe harbor contributions are subject to longer eligibility requirements than employee deferrals.
- A profit-sharing contribution (including forfeiture reallocations) is made during the year.
- A match that’s not exempt from the ACP test is made during the year.
- Voluntary (non-Roth) after-tax contributions are made during the year.
However, all employer contributions made during the plan year will count towards satisfying the 3% top-heavy minimum contribution (if applicable).
What are the Participant Disclosure Requirements for a Safe Harbor 401(k) Plan?
For plan years beginning after December 31, 2019, only match-based safe harbor 401(k) plans are subject to a participant disclosure requirement. The SECURE Act made nonelective-based safe harbor plans exempt.
If applicable, a safe harbor notice must be distributed to plan participants within a reasonable period before the start of each plan year. In general, “reasonable” means:
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30-90 days before the start of each plan year.
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For new participants, generally no earlier than 90 days before their plan entry date and no later than that date.
What’s the Deadline for Establishing a New Safe Harbor 401(k) Plan?
In general, the first year of a new safe harbor 401(k) plan must be at least 3 months long – to give all plan participants the opportunity to make wage deferrals. That means the deadline for establishing a new calendar-based plan is October 1.
What’s the deadline for amending a traditional 401(k) into a safe harbor plan?
A formal plan amendment is necessary to convert a traditional 401(k) into a safe harbor plan. The deadline for executing this amendment will depend upon the type of safe harbor contribution to be made.
- Safe harbor match – amendment deadline is the last day of year preceding the plan year in which the plan will be safe harbor.
- However, the safe harbor notice must be distributed sooner - 30-90 days before the start of the plan year.
- Safe harbor nonelective – The SECURE Act made this amendment deadline much more flexible. It’s based on the nonelective contribution formula:
- Less than 4% - up to 30 days before the close of the plan year in which the plan will be safe harbor.
- 4% or greater - The last day of the plan year following the plan year in which the plan will be safe harbor (i.e., the deadline for distributing ADP/ACP corrective refunds).
Is it Possible to Reduce or Suspend Safe Harbor Contributions Mid-Year?
Yes. You can reduce or suspend either safe harbor match or nonelective contributions (as applicable) mid-year when all of the following conditions are met:
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Either of the following conditions apply:
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Your company is operating at an economic loss.
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The safe harbor notice provided before the start of the plan year states you may reduce or suspend contributions mid-year.
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A supplemental notice is distributed to eligible employees at least 30 days before the effective date of the reduction or suspension.
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Eligible employees have a reasonable opportunity to change their deferral election before the reduction or suspension occurs.
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The 401(k) plan is ADP/ACP tested for the full plan year in which the reduction or suspension occurs using the current year testing method.
Can a Safe Harbor 401(k) Plan be Amended Mid-Year?
It depends. You can amend a safe harbor 401(k) plan mid-year when all of the following conditions are met:
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If the amendment will affect the content of the safe harbor notice provided before the start of the plan year, you must:
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Distribute a new notice to eligible employees 30-90 days before the effective date of the amendment.
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Give eligible employees a reasonable opportunity to change their deferral election before the amendment’s effective date. A 30-day election period is deemed reasonable.
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The amendment cannot be a prohibited mid-year change listed in Notice 2016-16.
What tax credits apply to a safe harbor 401(k) plan?
Small businesses (up to 100 employees) can earn a tax credit to cover 50% of the ordinary and necessary costs of starting a new retirement plan – including a safe harbor 401(k) plan. The SECURE Act increased its annual cap from $500 to the greater of:
- $500 or
- the lesser of
- $250 multiplied by the number of non-highly compensated employees eligible for plan participation or
- $5,000.
This tax credit is available for up to three years.
Small businesses can earn an additional $500 tax credit by adding an automatic enrollment feature to either a new or existing 401(k) plan. The credit is available for each of the first three years the feature is effective.
Small Business Owners – Know Your Options!
Safe harbor 401(k) plans can be a great choice for small businesses that have trouble passing 401(k) testing. However, they are not for everybody – they can be more expensive than traditional 401(k) plans. You should weigh their pros and cons vs. a traditional plan before choosing one for your company.
