What is a Safe Harbor 401(k) Plan?

The IRS defines a Safe Harbor 401(k) plan as: “a qualified plan that provides for employer contributions to the Plan to be fully vested when made”. The safe harbor 401(k) plan is not subject to the complex annual nondiscrimination tests that apply to traditional 401(k) plans.”

A Safe Harbor Plan may be an attractive option to use for your 401(k) Plan, especially if you are a small company and want all employees to be able to maximize their contributions. These types of Plans are deemed to automatically pass two important annual tests called the Actual Deferral Percentage (ADP) and Annual Contribution Percentage (ACP) tests.

Often, the more highly compensated employees or managers may have their contribution amounts reduced in a traditional 401(k) Plan to ensure the Plan passes these required tests. That can cause frustration for your employees as the amounts will be refunded out of the employee accounts and become taxable even if they were originally deemed to be pretax contributions.

Be aware that Safe Harbor Plans require a set level of funding for all participants by the employer and the employer safe harbor contributions are fully vested once contributed.  These Plans aren’t for everyone but they are something to consider if you desire a simpler and less confusing Plan design. If you have any questions you should consult a professional.

When it’s time for your annual audit it’s very important that you hire a CPA firm that specializes in retirement plans. Hiring the right firm will make a huge difference in how smoothly your audit goes.