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Everything You Need to Know About Safe Harbor 401(k) Plans

In today’s hyper-competitive labor market, a decent salary isn’t always enough to attract and retain top talent. Workers want higher salaries and better benefits. When polled, 62% of job seekers consider the availability and quality of a retirement plan when determining whether to accept an offer or stay with their current employer. 

Listen to the article: Everything You Need to Know About Safe Harbor 401(k) Plans


In this article, we'll explore what makes a Safe Harbor 401(k) unique and how to determine if it's the right plan for your organization. We'll also discuss some of the advantages and disadvantages of this type of retirement plan and provide guidance on choosing the best option for your business. 

What Is a Safe Harbor 401(k)?

A Safe Harbor 401(k) plan is a retirement plan allowing employers to make larger contributions to their employees’ retirement accounts without having to meet certain nondiscrimination tests. 

What’s the difference between a traditional 401(k) plan and a Safe Harbor 401(k)?

A traditional 401(k) plan is designed to offer advantageous tax benefits to all participating employees. However, traditional plan setups put non-highly compensated employees (NHCEs) at an unfair disadvantage, as they cannot contribute as much as highly compensated employees (HCEs).

Safe Harbor 401(k) plans offer employers the ability to provide higher contributions for their employees than other types of plans and can be beneficial for both the employer and employees.

Benefits For Employers 

A Safe Harbor 401(k) automatically satisfies most nondiscrimination testing requirements. It also allows employers to offer more generous matching contributions than other types of plans. Additionally, employers can take advantage of tax benefits, provide more security for their employees' retirement savings, and potentially attract more talented job applicants.

Benefits For Employees 

The main benefit of a Safe Harbor 401(k) plan for employees is that they can receive larger contributions from their employer each year. Employees will have equal access to the same retirement benefits, regardless of their income level. This type of plan provides NHCEs with greater benefits and more flexibility in their retirement planning than they would have under a traditional setup.

Why Businesses Need a Safe Harbor Plan 

Even if a business offers a 401(k) to every employee, that plan can still be considered discriminatory if a key group benefits more than other employees. But practically any 401(k) plan can be designed to include a safe harbor contribution by offering matching/non-elective contributions. In doing so, a business owner can: 

  • Avoid nondiscrimination testing: Safe Harbor 401(k) plans are automatically deemed compliant with IRS nondiscrimination rules. 
  • Encourage universal employee participation: By automatically deferring a certain level of contributions to every employee account, a business can ensure all employees receive meaningful contributions, regardless of income level.  
  • Take advantage of tax benefits: Like any 401(k) plan, a Safe Harbor plan provides tax benefits to participants and employers. The employer can take a tax deduction for plan contributions, and employees can defer tax payments on contributions and earnings until they’re withdrawn. 
  • Attract and retain top talent: Providing a competitive 401(k) plan is an effective incentive employers can use to recruit and keep talented employees. 

Before an employer creates a Safe Harbor program, they should fully understand the obligations and potential financial costs.

Is a Safe Harbor Plan Right For Your Business?

When it comes to retirement benefits planning, organizations must consider their options carefully. By understanding the potential drawbacks that come with a Safe Harbor 401(k), you can make an informed decision about whether or not this type of retirement plan is right for your organization.

A unique disadvantage of this retirement plan is the vesting schedule design.

Vesting schedules determine how long an employee must work at a company before they are eligible to receive employer contributions to their 401(k). The immediate vesting of employer contributions can be a turnoff for employers who like to use vesting as a way to secure loyalty from new workers.

However, this type of plan does allow employers to provide other attractive incentives, including more flexibility in how contributions are made and withdrawn and providing employees with greater control over their retirement savings.

When it comes to determining which plan is best for your organization, many companies opt to partner with retirement benefits professionals to help them tailor a plan designed to fit their organization’s needs.

The Three Types of Safe Harbor Plans

If you're a small business owner who wants to participate fully in a 401(k) plan but you're worried that you might not pass the nondiscrimination tests, a safe harbor plan might be the right choice for you. 

The cost of the plan can vary. So, your choice will depend on performing a cost calculation that factors in contributions based on total potential financial exposure and anticipated participation. 

Business owners can typically choose one of three options when designing their safe harbor plan. 

employees using a tablet while having a discussion

Basic Safe Harbor Match 

This plan requires that employers match up to 3% of employee contributions, with an additional 50% matching on the next 2% of employee contributions. This means that an employee contributing 5% would receive a maximum employer safe harbor match of 4%. Alternatively:

  • If an employee contributed less than 5%, the employer would match whatever they contributed according to the initial 3%/2% formula. 
  • If an employee contributed more than 5%, the employer would be under no obligation to provide any further matching contributions. 
  • If an employee did not contribute, the employer doesn’t have to contribute anything. 

Enhanced Safe Harbor Match

An enhanced plan offers a higher total match and more flexibility to reach the maximum employer match level faster. With this type of plan, an employer matches 100% on the first 4%-6% of employee contribution, depending on the plan's specifics.

Non-Elective Match

With a non-elective match plan, a company automatically contributes 3% or more of each employee’s compensation at the end of the year, regardless of whether the employee decides to contribute on their own.

Requirements of a Safe Harbor Plan 

How do you ensure your Safe Harbor plan is set up correctly? 

You must follow these rules:

  • The plan must include an employer contribution that fully vests immediately.
  • The plan must be in place for a full calendar year without any changes during the year.
  • The plan has to be set up in time (usually starting in August or September).  
  • If the company has never offered a 401(k) plan, they can set up a safe harbor plan during the current year, but they must have it fully in place by October 1st of the current plan year.

Finally, an employer must provide written notice to all eligible employees explaining the terms and conditions of the plan no later than 30 days before the plan year commences. This notice must also be provided to new employees within 90 days of their start date. 

Different Types of 401(k) Nondiscrimination Compliance Tests

If you don’t implement a valid safe harbor contribution, your business will likely undergo three annual nondiscrimination tests — and according to the IRS, you must pass all three. 

  1. Average Deferral Percentage (ADP) Test: This places the owners and highly-compensated employees into one group and all other employees into another group. If the owners and HCEs have a much higher deferral percentage (more than a 2% contribution difference) than all other employees, that indicates they participate more and are disproportionately advantaged compared to their employees. 
  2. Average Contribution Percentage (ACP) Test: This compares the average contribution percentage for HCEs to the average contribution percentage for NHCEs. If the difference between the two groups is too great (more than a 2% difference), the plan may fail the ACP test. 
  3. Top Heavy Test: As the biggest test for small businesses, this considers whether the distribution of benefits is “top heavy,” meaning it heavily favors HCEs. To pass a top-heavy test, a 401(k) plan must have allocated at least 60% of total benefit assets to NHCEs, or the total value of the plan’s benefits for NHCEs must be at least 3% of the sum of the plan’s benefits for all employees. 

With the increasing complexity of 401(k) plans, it’s important to ensure your organization remains compliant with nondiscrimination rules. Compliance tests are designed to ensure all employees are treated fairly when it comes to their retirement savings. By implementing a valid safe harbor contribution, businesses can protect themselves from potential penalties for failing these compliance tests.

Set Up a Safe Harbor Plan with BBSI 

Whether you have an existing plan you want to transfer to a Safe Harbor 401(k) or you’re looking to start a new plan from scratch, the team at BBSI can help

The BBSI team offers a wealth of information for designing and setting up plans, passing testing, and revising an existing plan to comply with benefits regulations. We’ll help you understand how to reduce your exposure and prepare for the coming years by advising you on how to best support your employees and maximize company benefits. 

We even offer our own multiple employer plan (MEP) 401(k) to all clients.

To get started or learn more about BBSI’s retirement support services, contact your local branch.


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