Understanding Safe Harbor 401K Plan Changes

401(K) plans are among the most frequently offered retirement benefit plans that an organization can offer to their employees, and there are several different types of these plans available. Among the most popular is the Safe Harbor 401(K). These plans not only minimize the limitations created by IRS non-discrimination testing, but also make it easier for businesses to maximize contributions to their own accounts.  

The Internal Revenue Service recently issued new guidance to assist those companies offering Safe Harbor 401(K) plans to stay within the established rules regarding providing notification of changes that they make to the plan being offered mid-year.

The guidance spells out the situations in which the mid-year change notice does not represent a violation of the rules.  Previously, any change made mid-year automatically constituted a violation simply by virtue of the fact that it was made mid-year.

What Is a Safe Harbor Plan?

The safe harbor structure provides the ability for a 401(K) or 401(M) plan to meet the criteria of the IRS’ nondiscrimination rules by providing employees with fully vested contributions. These contributions can be made either as non-elective employee contributions or as part of a matching plan.

However, there are certain restrictions that have been placed on these plans, including forbidding changes to be made mid-year.

Safe harbor plans are also required to provide employees participating in the plans with a notice explaining what a safe harbor plan is and how it works a minimum of thirty days before the plan goes into effect each year.

The Original Rules

As the safe harbor rules were initially set out, once an employer had provided their plan participants with this notification they were prohibited from making any changes to the plan during the course of the year.

The only exceptions to this rule were in cases in which the employer was losing money in the course of operating their business or when they had provided the plan participants with prior notice that the contributions to the plan would be reduced or stopped.

These rules were set out under 2013 Final Treasury Regulations (T.D. 9641) and 2009 Proposed Treasury Regulations (REG-115699-09).

The Change

The new guidance issued by the IRS regarding safe harbor plan mid-year changes provide that the employer must meet two different requirements in order to avoid being in violation of the rules. These are:

  • Give each employee that is supposed to receive a safe harbor notice an update to the existing policy, as well as the date that the change will take place, no less than thirty days prior to the change taking effective (and no more than 90 days). The notice must provide a description of the change, as well as its effective date.

  • The plan sponsor is required to provide a reasonable amount of time for each of the employees that receives notification of the impending change to made alterations to their cash or deferral plan prior to the change taking effect.

What Mid-Year Changes are Allowed?

In addition to providing appropriate notice based upon the new criteria provided above, mid year changes must fall into one of the following categories in order to be permissible:

  • Any changes that are a result of statutory law changes or court decisions

  • Making a change to the plan’s default investment fund provider

  • Making a change to the rules regarding arbitrating disputes involving the plan

  • Making an adjustment from a monthly schedule to a quarterly schedule for when the plan allows employees who meet minimum age and service eligibility requirements to enter the plan

  • Providing an additional in-service withdrawal feature for those who are 59

  • Providing an increase in future safe harbor non-elective contributions from 3 percent to 4 percent for all employees eligible for the benefit

Certain specific changes are not allowable to sponsors of safe harbor 401K plans. These include:

  • There are certain parts of the employee’s retirement plan account balance that are attributable to safe harbor contributions under a qualified automatic contribution arrangement. A plan sponsor cannot make changes that increase the number of years of service that an employee is required to complete before having a non-forfeitable right to those funds.

  • A plan sponsor is not permitted to narrow or reduce the definition of employees who are eligible to be included in safe harbor contributions, except for those changes that are permitted to be made based on entry date rules for those employees that aren’t already eligible as of the effective or adopted date of the change, or for eligibility service crediting under the existing safe harbor plan.

  • Plan sponsors cannot shift the safe harbor plan being offered from one type to another.

  • Plan sponsors are not permitted to make changes or add to the formula that is in place for calculating what matching contributions )or compensation determined to be a matching contribution) if the change results in an increase to the match. These changes can be made in the middle of the year only if they are introduced a minimum of three months before year end for the plan, if they are retroactive for the entire plan year, and all participants are provided with an updated notice and the opportunity to elect to participate.

These rule changes are important to understand, as violating them can lead to penalties.

Should you require any clarification or explanation, please contact our office at (540) 678-9497 for a consultation!