Employers now have more flexibility in adding or amending safe harbor 401(k) or 403(b) plans, thanks to the 2019 Setting Every Community Up for Retirement Enhancement (SECURE) Act and subsequent guidance from the Internal Revenue Service (IRS). These changes should increase access to the benefits that safe harbor plans offer, such as avoiding administrative costs and burdens of performing certain nondiscrimination tests and strengthening retirement readiness thanks to meaningful employer contributions.
We outline the most significant changes that the SECURE Act made to safe harbor plans. We also explain why plan sponsors should talk with their advisors now about amendments that they may need to make to their plan documents to comply with these SECURE Act changes.
Mid-year and Retroactive Adoption of Safe Harbor Plans
Before the new law, plan sponsors had to adopt safe harbor plans before the beginning of the plan year. Now, plan sponsors can retroactively convert a traditional 401(k) plan to a safe harbor plan that uses employer nonelective contributions.
This option is particularly helpful for plan sponsors that realize mid-year that their traditional plan might not pass nondiscrimination testing for contributions on behalf of highly and non-highly compensated employees. As a reminder, plans that fail nondiscrimination testing generally return a portion of highly compensated employees’ contributions to the employee, which are subject to income tax.
Plans now have until 31 days before the end of the current plan year to retroactively implement a safe harbor plan that makes employer nonelective contributions of at least 3% to all eligible employees. If plan sponsors miss this deadline, they can still retroactively implement a safe harbor plan until the last day of the following plan year, but at this point the minimum nonelective contribution increases to 4%.
Elimination of Annual Notice Requirements for Nonelective Safe Harbor Plans
Before the SECURE Act, plan sponsors needed to send participants annual notices outlining the safe harbor contributions. The IRS guidance clarified that plans that use nonelective contributions to satisfy the safe harbor requirement no longer need to send these annual notices. This change should help reduce administrative burdens for plan sponsors that use the nonelective contribution option. It is important to note, however, that safe harbor plans that use matching contributions must still send the annual notices.
Increased Auto-escalation Contribution Cap
Plan sponsors that automatically enroll participants into a safe harbor plan that uses a qualified automatic contribution arrangement (QACA) must default the employee’s contribution to at least 3% of the employee’s pay with an annual increase of 1% to at least 6%. The automatic escalation of the employee’s contribution previously was capped at a maximum of 10%, but the SECURE Act increased that limit to 15%. Plan sponsors can choose to stop the auto-escalation at an amount lower than 15%, however, as this increase is not a required change. This higher limit could be especially helpful in enhancing the retirement readiness of employees who tend to put their retirement savings on autopilot.
Start Conversations About Safe Harbor Plan Amendments Now
Plan sponsors that use safe harbor plans—or may consider adopting one retroactively—should start conversations with their third-party administrators and other relevant service providers about possible amendments to their plan documents. Many safe harbor amendments, related to SECURE, are due by the end of the first plan year starting in 2022.
Although plans have until the last day of the next plan year to retroactively implement a safe harbor plan using employer nonelective contributions, doing so at least 31 days before the end of the current year will save one percentage point per employee (3% vs. 4%). So now is the time to start doing the necessary calculations to see whether your plan is in danger of not passing nondiscrimination testing.
Written by Beth Garner and Nicole Parnell. Copyright © 2021 BDO USA, LLP. All rights reserved. www.bdo.com
If you have questions about safe harbor retirement plans or other EBP issues, please reach out to Kevin Hamaker for more information.