Resources

All qualified retirement plans are subject to annual compliance testing to make sure that owners, owner family members, and high-earners don’t benefit disproportionately compared to the rest of the staff. If there is low participation among the staff, this group of employees will be limited in the amount that they can contribute.

To get around this limitation, companies may consider a safe harbor provision, in which the company promises to make a contribution for the coming year in return for getting an “automatic pass” on some of their annual non-discrimination testing. There are three available safe harbor formulas:

• 3% Safe Harbor: All eligible employees receive a company contribution equal to 3% of their eligible compensation. This is not dependent on the employees’ making 401(k)/Roth 401(k) deferrals.
• Safe Harbor Match: Eligible employees receive a company matching contribution on their 401(k)/Roth 401(k) deferrals equal to 100% matched on the first 3% deferred, plus 50% matched on the next 2% deferred. To get a maximum match of 4%, an employee needs to defer at least 5% of compensation.
• Enhanced Safe Harbor Match: Eligible employees receive a company matching contribution on their 401(k)/Roth 401(k) deferrals equal to 100% matched on the first 4% deferred.

The upside of a safe harbor provision is that in addition to adding value to your employee benefits package, the deferrals of owners/family members/high earners will not be limited by the enthusiasm of the staff.

The downside of a safe harbor provision is that it is less flexible than a discretionary employer contribution, which can be introduced, modified, or stopped at any time. In most cases an employer must decide 30 days before the start of the year that they want to be a safe harbor plan for the upcoming year with one of the above formulas. The employer generally cannot remove the provision midyear. Further, a safe harbor contribution is always fully vested and cannot be subject to any ongoing eligibility requirements.