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401(k) Safe Harbor FAQs with Example
Q. What is a safe harbor 401(k) plan?
As a general rule, 401(k) plans must satisfy certain non-discrimination requirements to ensure the plan does not discriminate in favor of the plan sponsor’s principals. These non-discrimination requirements can limit, sometimes very significantly, the principals’ 401(k) contributions.
Safe harbor 401(k) plans, however, do not need to satisfy these non-discrimination requirements. Therefore, the principals can contribute as much 401(k) contributions as they want since they are not limited by the otherwise applicable non-discrimination testing.
Q. What are the IRS requirements for safe harbor 401(k) plans?
To satisfy the IRS requirements for a safe harbor 401(k) plan, the plan sponsor must:
(a) adopt a compliant plan document;
(b) send annual safe harbor notices to all eligible employees; and
(c) contribute safe-harbor employer contributions to eligible employees.
Q. What are the permissible safe harbor employer contribution formulas?
There are three options:
(a) Non-elective contribution (provided to all eligible employees) of at least 3% of pay
(b) Basic matching contribution (provided only to those employees who contribute part of their salary to the plan), structured as follows:
• 100% of the first 3% of pay that is contributed, and
• 50% of the next 2% of pay that is contributed
• for a maximum matching contribution of 4% of pay
(c) Enhanced matching contribution
This safe-harbor contribution must be 100% immediately vested.
Q. What types of plan sponsors are good candidates for safe harbor 401(k) plans?
Many small employers have difficulty satisfying the IRS non-discrimination requirements applicable to 401(k) plans because rank-and-file employees tend to contribute small amounts of pay to the plan if they contribute anything at all.
Those employers are ideal candidates for safe-harbor 401(k) plans.