The Safe Harbor 401(k) Plan allows eligible employees to contribute a portion of their own salary to a retirement plan. Employers commit to contribute either matching or non-elective amounts to the plan on behalf of eligible employees.
By making this commitment, employers receive a “Free Pass” from required plan testing. This means that highly compensated employees may defer the IRS maximum without fear of refunds to correct a failed test. Employer contributions are tax deductible and employee contributions are excluded from income for Federal income tax purposes.
Sole proprietorships, partnerships, limited liability corporations (LLCs), or incorporated businesses, including subchapter S corporations, may establish a 401(k) plan. All eligible employees must be allowed to participant in the 401(k). An eligible employee is any employee who: is at least 21 years old has performed one (1) year of service and worked 1,000 hours in the year beginning with the date of hire. Union employees and non-resident aliens who have no U.S. source of income may generally be excluded from coverage. Note: An Employer can establish less restrictive eligibility requirements than the ones listed above, but not more restrictive ones.
Contributions and Notice
Employers electing the safe harbor option are required to provide a notice to employees prior to the beginning of each plan year stating they have committed to one of the following safe harbor contributions:
Basic Safe Harbor Match
This contribution requires employers to match 100% up to 3% of compensation plus a 50% match on compensation between 3 and 5%. The maximum match contributed will be 4%.
Enhanced Safe Harbor Match
This contribution can be any formula more liberal than the basic safe harbor match up to no more than 6% of compensation.
Safe Harbor Non-elective
This option requires the employer to contribute 3% of compensation to all eligible employees regardless of whether they make salary deferrals or not.
Vesting is the participant’s ownership in the value of his/her retirement account or benefit. All employee deferrals and employer Safe Harbor matching or non-elective contributions are 100% vested immediately. The employer may elect to use a graded vesting schedule for discretionary contributions.
Employer contributions are tax deductible for the Employer – up to 25% of compensation of all participants. Employee elective deferrals are excluded from the employee’s income for federal income tax purposes. Tax-deferred growth potential is possible – any investment earnings grow tax deferred until withdrawn.
Generally, the deadline to establish a new plan is anytime between January 1 and October 1 of the applicable year. Existing plans may convert to Safe Harbor if the plan is amended and notice is provided by December 1st of the preceding plan year.