Safe Harbor 401(k) Plan

Safe Harbor is a concept which has been around since 1999 that allows plans to automatically pass nondiscrimination testing.  A Safe Harbor 401(k) Plan requires that the plan sponsor make an employer contribution to the plan.  There are two types of contributions to chose from: 1) a matching contribution using the formula of a 100% match of the first 3% plus 50% match of the next 2% of employee compensation deferred, or 2) a nonelective contribution that is 3% of compensation to all eligible employees,  regardless of whether they make 401(k) contributions themselves.  Both contributions are 100% vested immediately.  Safe Harbor 401(k) plans that do not deposit any additional contributions in a plan year are also exempted from the top-heavy rules.              

The Benefit

The Internal Revenue Code sets limits on the amount that a participant can defer on a pre-tax or post-tax basis each year.  For 2017 the limit is $18,000 and if the employee attains the age of 50 during the plan year, he can contribute an additional catch-up contribution of $6,000.  Many owners and other highly compensated employees can not contribute these maximum 401(k) amounts each year due to the required nondiscrimination testing.  One way to guarantee that the business owner and other highly compensated employees will be able to contribute the maximum 401(k) amount without testing issues is to adopt one of the Safe Harbor contribution options.

Many plans may also be top-heavy and be required to contribute 3% of each participant’s entire year compensation if the owner and key employees are making 401(k) contributions during the year.  If Safe Harbor is adopted and only the Safe Harbor contributions are being made, then only the Safe Harbor contributions are required and no top-heavy contributions are required.  For the first year a participant becomes eligible, the top-heavy contribution must be calculated on full year compensation, but the safe harbor contribution may be calculated on compensation for only the time the participant was eligible, thus reducing the cost to the company.  The Safe Harbor Match contribution may also be less than the contribution required under the top-heavy rules since the Safe Harbor Match is only being contributed for employees making their own 401(k) contributions.

Also, if the business owner utilizes Safe Harbor and has a spouse on the payroll, the spouse can contribute 100% of the spouse’s wages up to the annual limits to the plan without any testing issues.

Numerical Example

This example includes options for a Safe Harbor Non-Elective 3% plan and a Safe Harbor Match plan.

      Option One     Option Two  
      Safe Harbor Non-Elective 3%       Safe Harbor Match  
        Safe     Safe  
        Harbor     Harbor  
Name Age Wages 401(k) 3% Total 401(k) Match Total
Owner 1 56 265,000 24,000 7,950 33,950 24,000 10,600 34,600
Owner 2 55 100,000 24,000 3,000 27,000 24,000 4,000 28,000
Total Owners   365,000 48,000 10,950 60,950 48,000 14,600 62,600
Employee 1 48 75,000 0 2,250 2,250 3,750 3,000 6,750
Employee 2 42 40,000 0 1,200 1,200 2,000 1,600 3,600
Employee 3 47 60,000 0 1,800 1,800 3,000 2,400 5,400
Employee 4 51 55,000 0 1,650 1,650 2,750 2,200 4,950
Employee 5 36 30,000 0 900 900 1,500 1,200 2,700
Employee 6 32 25,000 0 750 750 1,250 1,000 2,250
Employee 7 38 35,000 0 1,050 1,050 1,750 1,400 3,150
Employee 8 35 30,000 0 900 900 1,500 1,200 2,700
Employee 9 33 20,000 0 600 600 1,000 800 1,800
Employee 10 26 28,000 0 840 840 1,400 1,120 2,520
Total Employees 398,000 0 11,940 11,940 19,900 15,920 35,820
Total Contributions   48,000 22,890 72,890 67,900 30,520 98,420
Percent to Owners   100% 47%   71% 48%  

In Option One we have demonstrated two business owners at different wage levels contributing the maximum 401(k) contribution amount of $18,000 plus $6,000 as a catch-up contribution by utilizing the Safe Harbor Non-Elective 3% contribution.  Under this scenario the business owners receive 47% of the employer contributions.  The Safe Harbor Non-Elective 3% contribution can also be easily combined with additional Profit Sharing contributions in a cross-tested plan, see Cross Tested 401(k) Plan article here.

Some business owners only want to make contributions for those employees who are contributing to their own retirement.  The Safe Harbor Matching contribution is a great option for them to use.  In Option Two we have demonstrated all of the employees contributing 5% of compensation and receiving the Safe Harbor Match.  Under this scenario, the business owners can again contribute up to the annual limit of $18,000 plus $6,000 as a catch-up contribution for 2015.  The matching contributions for the employees are affordable and each business owner contributes the maximum amount allowed.  The business owners receive 48% of the matching contributions.

More Detail

Safe harbor 401(k) plans must satisfy certain notice requirements. The notice requirements are satisfied if each eligible employee for the plan year is given written notice of the employee's rights and obligations under the plan and the notice satisfies the content and timing requirements.

In order to satisfy the content requirement, the notice must describe the safe harbor method in use, how eligible employees make elections, any other plans involved. The timing requirement requires that the employer must provide notice within a reasonable period before each plan year. This requirement is deemed to be satisfied if the notice is provided to each eligible employee at least 30 days and not more than 90 days before the beginning of each plan year. Thus, in order for a company to adopt safe harbor for a calendar year plan, the plan must be amended and notice must be given to the employees at least 30 days prior to the beginning of the plan year, or by December 1 for calendar year plans.

Set Up This Plan

To setup this plan for your organization, please complete our Online Questionnaire.

You may also complete the questionnaire offline by downloading the form here and then faxing the completed form to our office.