Over the years, many 401(k) and 403(b) plans have instituted safe harbor contributions in an effort to reduce the plan’s administrative burden, including annual nondiscrimination testing and the potential need to make corrective distributions or contributions in the event of failed tests. Safe harbor plans are not required to perform the annual discrimination testing. Further, they provide opportunities for highly compensated individuals to make elective deferrals with-out limitations to their plan.
Safe harbor plan designs require the sponsoring employer to make certain levels of nonelective (i.e., 3% contribution for all eligible employees) or matching contributions (i.e., 100% of the first 3% of employee contributions and 50% of the next 2% on employee contributions). Generally, plan sponsors must commit to making these contributions for the entire plan year, and must provide employees with notice of the contributions at least 30 days before the start of the plan year.
Originally, there were very limited exceptions to the requirement that safe harbor contributions continue for the entire plan year. Safe harbor employer matching contributions could only be changed if timely advance notice is provided to participants, participants have a reasonable opportunity to change their own contribution elections before the reduction or suspension takes place, and the plan performs the applicable nondiscrimination tests for the entire plan year. Also, any safe harbor plan may be terminated during the plan year, as long as it either (1) satisfies the requirements for reducing or suspending safe harbor matching contributions, or (2) is the result of merger or acquisition or the employer’s substantial business hardship.
The IRS has recently issued final regulations permitting companies, in limited circumstances, a mid-year reduction or suspension of any safe harbor contribution to their section 401(k) or 403(b) plans. The rules now provide a uniform set of guidelines for reducing or suspending either type of safe harbor contribution (nonelective or matching). These regulations were issued as a result of plan sponsors who were looking for ways to reduce costs during the poor economic performance of their company.
Importantly, under the regulations, in order for a plan sponsor to reduce or suspend their safe harbor contribution, they are required to either be operating at an economic loss, or to provide notice to participants before the beginning of the plan year that there exists the possibility contributions may be reduced or suspended mid-year. Further requirements include providing notice to participants in the plan providing them with an opportunity to change their elections and performing the necessary annual discrimination testing for the year the contributions were reduced or suspended.
For safe harbor matching contributions, the final regulation applies to plan years beginning on or after January 1, 2015. For safe harbor nonelective contributions the rules are effective retroactively to May 18, 2009.
As a result of these regulations and the limitations regarding the reduction or suspension of the safe harbor contributions, for 2015 and future plan years, plan sponsors may want to include contingent suspension notices in all annual participant notices.
Please contact your Schneider Downs representative if you would like to discuss how the regulations impact the administration of your 401(k) or 403(b) plan.
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