You deserve a retirement plan that maximizes your contributions while championing your employees. A Safe Harbor 401(k) benefits you, your key team members, and all participating employees.
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Safe Harbor is a way of structuring a 401(k) plan that allows small business owners to maximize their contributions while sailing safely through annual compliance tests given by the IRS.
These IRS tests prove that the plan is fair for all eligible employees and doesn’t unfairly discriminate against lower-earning employees. As a trade-off for passing these nondiscrimination tests (and the extra administrative duties that go with the testing process) business owners must make a minimum contribution to the plan each year—which must be immediately 100% vested.
A Safe Harbor 401(k) plan is deemed to pass the two nondiscrimination tests that 401(k) plans must typically pass to prove that the plan is not providing a more significant benefit to HCEs which guarantees those who earn at least $150,000 per year or who own more than 5% of the company.
If a plan is not a Safe Harbor 401(k) plan and fails either of these tests, the business owner must either return a portion of the contributions made to HCEs or make additional contributions for the lower-paid employees. Unfortunately, if the testing failure is not corrected promptly, the business owner will owe a 10% excise tax.
Under a Safe Harbor 401(k) plan, if the business owner makes a minimum contribution to their employees’ plan, the following occurs:
There are three annual tests given by the IRS to make sure your plan is run fairly and benefits everyone–not just the people at the top. (These groups of high earners are referred to as highly compensated employees or HCEs.)
A Safe Harbor plan is designed to pass the two required nondiscrimination tests that prove your plan is not providing a more significant benefit to HCEs than to the rest of your employees.
This limits the percentage of compensation that HCEs can defer into their 401(k) based on the average contribution rates of the non-highly paid employees. This is the test that is most likely to impact small business plans.
This ensures that the employer matching contributions and any after-tax employee contributions contributed for HCEs are not disproportionately higher as compared to non-highly paid employees.
The top-heavy test is similar to the ADP and ACP tests but is focused on plan balances. If you and your key employees cumulatively hold 60% or more of the total balance plan, then the plan is top heavy.
If the only contributions you make to your plan are Safe Harbor contributions and employee deferrals, your 401(k) plan is exempt from top heavy correction requirements. If your plan is Safe Harbor, but a discretionary profit-sharing or matching contribution were deposited, the plan is NOT exempt from top heavy testing.
If your plan fails one of these tests, it’s an administrative ordeal filled with costly correctives and piles of paperwork. You may have to return a portion of the contributions made to HCEs or make additional contributions for the lower-paid employees. But hurry; if you take too long to make the plan corrections, you’ll owe a 10% penalty. The IRS has fix-it guides for both ADP/ACP failure and top heavy failure, but it’s best to prevent problems before they happen.
In exchange for getting an automatic pass on the ADP and ACP tests and the extra administrative duties that go with the testing process, business owners must make a minimum contribution to the plan each year—which must be immediately 100% vested (nonforfeitable). Business owners may choose from two contribution options:
A matching contribution means that the employer’s contribution matches a certain percentage of the employee’s contribution. In a Safe Harbor plan there are two main matching formulas used:
Additional matching formulas may be available, depending on the plan.
Unlike matching contributions, nonelective contributions are given to all eligible employees even if they are not making salary contributions to the plan. If a business owner decides to set up a Safe Harbor plan with nonelective contributions, the company must contribute at least 3% of each employees compensation to all eligible participants–regardless of the employees’ contributions.
The Safe Harbor provisions must be in place for at least 3 months if you are adopting a new 401(k) or 403b plan.
So, if you are starting a new calendar year plan, the plan must begin no later than October 1, 2023 to include Safe Harbor provisions for that first plan year. Starting a new plan can take time to administer, so we recommend contacting your plan provider no later than September 18, 2023.
Safe Harbor provisions can only be added to an existing plan before the beginning of the plan year and require you to provide a 30-day notice to your employees. If your new plan year begins January 1, 2024, you’ll need to request the addition of a Safe Harbor provision to your 401(k) plan before November 30th, 2023.
Safe Harbor provisions cannot be changed or eliminated during the year except if the plan is terminated completely. In the event of plan termination, the Safe Harbor contribution up through the date of termination would still apply.
Within 90 days before the beginning of the first Safe Harbor plan year (generally October 1), business owners must notify employees that a Safe Harbor feature has been adopted. Then, each year that the Safe Harbor feature is in effect, employees must receive a notice 30–90 days before the beginning of the plan year. This document outlines the employee’s rights and obligations under the Safe Harbor Plan provision.
Your Safe Harbor notice must contain the following:
Your Safe Harbor Plan Notice may be delivered electronically, by hand, or by regular mail. Employers are responsible for tracking the delivery list, method, and timing of delivery— which will be requested in case of an audit by IRS or DOL. Companies like Ubiquity automatically do this on behalf of the small business owner, so they have one less thing to think about.
While a Safe Harbor 401(k) can seem like an obvious choice, it may not be the best option for every plan.
Safe Harbor plans are a great fit for small businesses (particularly those with under 25 employees) and businesses that have failed noncompliance testing in the past. While you save in administrative hassle, you may pay a bit extra in plan costs and required contributions.
Weighing the pros and cons of a Safe Harbor plan for your business can be challenging—without all the additional hassle of setting up a 401(k). Luckily, our experts at Ubiquity can walk you through the plan design options and the setup process to make sure your plan is designed to fit perfectly to your needs. Only Ubiquity offers flat-fee plans1,free expert advice, and 24 years of small business experience.
Setting up a 401(k) can be complicated. Only Ubiquity gives small business owners access to 401(k) experts in addition to industry-leading, low, flat fees. Each sales expert has over a decade of experience assisting business owners in 401(k) plan design. Take advantage of this free benefit and check out our 401(k) calculator.
401(k) Safe Harbor plans present notable tax perks for your business. These services offer tax deductions on the contributions provided as an employer and let your business reap significant tax credits over time, bolstering your financial standing.
When you choose a 401(k) Safe Harbor plan, you’re effectively minimizing many administrative tasks. By design, these plans ensure that many intricate IRS tests, including some onerous ones, are sidestepped. This diminishes paperwork and frees up administrative hours, granting you more time for core business operations.
Given the fierce competition in the job market, the offer of a comprehensive safe harbor retirement plan is a powerful lure for potential employees. This exemplifies your dedication to their financial future and can notably cut down on employee attrition, conserving funds that would otherwise go to recruitment and training.
A distinct trait of the Safe Harbor match 401(k) is the adaptability it provides in employer matching. Whether you opt for standard or advanced Safe Harbor 401(k) match provisions, you can determine a format that syncs well with your company’s investment objectives.
Compared to a traditional 401(k), a Safe Harbor match plan permits business proprietors and prime employees to invest more in their retirement accounts, amplifying their retirement savings possibilities.
Thanks to the immediate 100% vesting in Safe Harbor match contributions, employees are more elective about their participation. They comprehend that the funds you contribute become theirs instantly. This sentiment for 401k Safe Harbor plans can boost overall participants’ involvement rates.
One major perk of the Safe Harbor 401(k) match is its automatic qualification in certain IRS nondiscrimination evaluations. This equates to fewer managerial troubles and a diminished likelihood of penalties or necessary adjustments.
1 Please refer to Important Information for details.