Magazine article The CPA Journal

Should a 401(k) Plan Be a Safe Harbor 401(k) Plan?

Magazine article The CPA Journal

Should a 401(k) Plan Be a Safe Harbor 401(k) Plan?

Article excerpt

A safe harbor 401(k) plan can be an attractive alternative for companies that might have difficulty satisfying antidiscrimination testing, or whose owners might be unable to maximize their contributions due to low employee contributions. If, however, the majority of employees are contributing to the 401(k) plan, or if highly compensated employees do not want to maximize their contributions, then a safe harbor plan may require significantly higher contributions from an employer than is necessary. Therefore, a safe harbor 401(k) plan may not be suitable for all employers.

Safe Harbor 401(k) Plans

Safe harbor 401(k) plans are very attractive because if the plan satisfies four conditions, then the 401(k) antidiscrimination test is deemed satisfied. Then the company's owners and other highly paid employees can contribute the maximum to the 401(k) portion of the plan and not worry about receiving a refund at the end of the year. The four conditions are

* a required contribution,

* 100% vesting for the required contribution,

* annual notice to all participants, and

* withdrawal restrictions.

A safe harbor 401(k) requires that an employer make either a contribution of 3% of compensation or a matching contribution (e.g., 100% of deferrals up to 4% of compensation). There are no accrual requirements for the safe harbor contribution; therefore, the plan can't require the participant to be employed on the last day of die plan year or satisfy an hours-of-service requirement to receive the safe harbor contribution. If an employer's 401(k) plan would have no difficulty passing the 401 (k) antidiscrimination test and the employer prefers to allocate company contributions to active participants, then a safe harbor 401(k) plan would not be in the company's best interest The employer could reduce the amount of the required company contributions by not having a safe harbor plan.

The safe harbor 401(k) contribution must be 100% vested immediately. The plan may still have a vesting schedule for company contributions other than the safe harbor contribution. A safe harbor plan is not the solution if an employer's 401(k) plan can easily pass the 401(k) antidiscrimination testing and if the employer, for example, wants participants to work for a specific number of years before receiving all of the company contributions. There can be any number of other reasons not to implement a 401(k) safe harbor plan; an employer should conduct a careful assessment before deciding.

A safe harbor 401(k) also requires participants to receive a notice explaining their rights under the plan. It must disclose certain information, including which safe harbor contribution will be made (3% of pay or match) for the year. …

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