Traditional 401(k) retirement plans come with administrative responsibilities that can be daunting for employers because federal law requires plans to complete annual non-discrimination tests. Testing makes sure highly compensated employees (HCEs) don’t benefit more from a 401(k) plan than non-highly compensated employees.
There’s also the risk of a retirement plan failing non-discrimination testing and that triggers a series of administrative tasks, including refunding excess contributions to HCEs. Excess contributions hit HCEs with double taxes — in the year contributed and, in the year distributed, which is a hefty consequence for them.
But there’s good news. An easier-to-administer safe harbor 401(k) plan makes it less complicated for small businesses to provide a retirement plan to employees. This plan does require that businesses make mandatory contributions for employees, but there are tax credits available to help businesses offset the costs of starting a retirement plan.
A safe harbor 401(k) works well for small business owners who want to max out their personal contribution, and who want to add a benefit to their compensation package that attracts top talent while rewarding employees with a valuable retirement savings vehicle they’ll appreciate.
What is a safe harbor 401(k) plan?
The key difference from a traditional 401(k) plan is that a safe harbor 401(k) plan requires mandatory employer contributions. In exchange for the mandatory contributions, you generally forgo annual nondiscrimination testing and much of the work it takes to administer a 401(k) retirement plan. Additionally, it allows highly compensated employees (HCEs) to defer at much higher levels (up to the 402(g) limit) than if the plan is not safe harbor and has experienced testing failures (and resulting HCE refunds) in the past. The IRS generally gives you “safe harbor” from annual testing and penalties for non-compliance, like refunding excess contributions.
If you have a budget to fund mandatory contributions, a safe harbor 401(k) is a good choice for your organization with potential advantages that include:
- Tax credits to help offset plan setup and administration costs with amounts based on certain eligibility. Calculate your potential tax credit.
- A valuable benefit for employees that contributes to their financial wellness.
- HCEs can contribute the maximum allowable salary deferral ($23,000 or $30,500 if age 50+ in 2024) and lower their personal tax liability each year.
- Attract top talent by improving your compensation package with contributions that immediately vest.
- Mandatory employer contributions can be deducted on your company’s federal income tax return.
This is a high level look at how a safe harbor 401(k) plan compares to a traditional 401(k) plan:
| Safe harbor 401(k) plan | Traditional 401(k) plan | |
|---|---|---|
| Employer contributions | Mandatory (Employer may choose from a basic match, enhanced match or non-elective options) |
Not mandatory |
| Vesting of employer contributions | Immediate 100% Or fully vested after 2 years with a qualified automatic contribution arrangement (QACA) |
May be subject to IRS vesting schedules selected by employer |
| Enrollment | Upon employee election or automatic enrollment for QACA design | Upon employee election or automatic enrollment |
| Employee contributions | Upon employee election for traditional safe harbor design Automatic enrollment required (minimum 3% contribution + escalation to 10% minimum) for QACA design |
Employee contribution through salary deductions |
| IRS non-discrimination testing | Satisfies most testing | Subject to annual testing |
| Tax benefits | Employer: Matching contributions are deductible up to the IRS limit Employees: Matching contributions are tax-deferred |
Employees: Contributions are tax-deferred and reduce taxable income |
The three safe harbor matching contribution formulas
When setting up a plan, you choose a safe harbor matching contribution formula that’s automatically designed to meet non-discrimination requirements. The formulas are as follows:
Basic match option
The basic formula matches 100% of employee contributions on the first 3% of deferred compensation, plus a 50% match on deferrals for the next 2%.
Enhanced match option
The enhanced match formula must be at least as generous as the basic match at each tier of the match formula and can’t be based on more than 6% of compensation. A common enhanced formula is a 100% match on the first 4% of compensation.
Non-elective option
Non-elective contributions are different from matching contributions, which are based on how much the employee contributes. Non-elective contributions are also known as profit sharing contributions and are provided to all eligible employees.
This chart illustrates how the different safe harbor matching contribution formulas work:
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Safe harbor 401(k) plan setup
Starting a 401(k) plan for a small business with ADP typically takes 30 to 45 days to implement. Generally, plan setup includes:
- Working with your sales specialist to design your plan document
- Establishing a trust with ADP to hold plan assets
- Establishing recordkeeping methods
- Providing information to eligible participants
ADP guides employers through every step of plan setup with personalized support. An ADP implementation manager works with you to manage day-to-day details and oversees a three-phase implementation process that includes hands-on administrator training.
Plan administrators and participants also have access to a robust resource center with educational content on financial wellness topics, from how much employees should save for retirement to in-depth topics related to financial situations.
Implementation of an ADP retirement plan is phased as follows:
Phase 1: Document
This phase includes explaining the process and roles with your implementation manager, gathering information and documenting your plan design.
Phase 2: Communicate
Once your plan is setup, it’s time to communicate the new benefit to your employees. Required notices must be distributed and employee enrollment meetings scheduled.
Phase 3: Activate
ADP helps you activate your plan and provides training on recordkeeping, operating guidelines and plan administration basics. Plan contributions begin and welcome letters are sent to your participants.
When ADP payroll customers choose ADP as their retirement plan provider, it streamlines the process further with payroll integration. We already have the data we need to help customers set up a plan and get started much more quickly. When your payroll and retirement plan are with ADP, our advanced data syncing technology also helps simplify plan administration and reduces compliance risk. We transmit real-time data that checks for discrepancies, transfers funds in a timely way and generates trades for your plan participants. Your employee data remains securely within ADP’s ecosystem and is not transmitted to third parties without your permission.
Whether you’re new to ADP or an existing customer, our retirement planning specialists and implementation managers are with you every step of the way to help get your plan setup effectively and accurately.
Learn more about setting up a 401k retirement plan
Safe harbor 401(k) deadlines
The SECURE 1.0 Act of 2019 and SECURE 2.0 Act of 2022 make sweeping changes to 401(k) plans that include more flexible deadlines for adopting a safe harbor plan feature.
2024 calendar plan year deadlines
| October 1, 2024 | Deadline to adopt a new safe harbor plan. If the plan will provide for a safe harbor match, also the deadline to elect a safe harbor 401(k) matching contribution for 2024. |
| October 1, 2024 | Deadline to elect a “maybe” 3% safe harbor nonelective contribution (allows flexibility to adopt a 3% safe harbor nonelective contribution after December 1, 2024) |
| December 1, 2024 | Deadline for a plan to elect a 3% nonelective safe harbor contribution for 2024. |
| December 1, 2025 | Deadline to commit to a 3% safe harbor contribution under a “maybe” plan for 2024. |
| December 31, 2025 | Deadline for a plan to elect a 4% nonelective safe harbor contribution for 2024. |
The SECURE Act and tax credits for small businesses
SECURE 2.0 Act of 2022 created a substantial new startup tax credit to help small businesses establish retirement plans. The credit is based on contributions employers make on behalf of participants. It also expands the existing startup tax credit on employer plan costs. Together, these two credits may provide a significant benefit for small businesses starting a plan.
The contribution credit and cost credit are separate and distinct. Plans may receive one or both credits. To qualify for either, employers must:
- Have no more than 100 employees who received compensation of $5,000 or more in the preceding year.
- Have not offered a plan covering substantially the same employees during the previous three tax years.
For more about tax credits, download our SECURE 2.0 Act of 2022 webcast Q&A
ADP is your retirement ally
Plan administration with integrated data and technology and an experienced ADP service team come together to streamline plan administration with:
- Support when you need it from a highly experienced service team.
- Continuous data sharing and updating with ADP payroll and ADP recordkeeping systems.
- Personalized insights and education to help employees make better retirement savings decisions.
Rely on ADP’s experience for your growing HR and benefit needs with a retirement plan that recognizes hard-working employees and rewards their financial well-being—today and tomorrow.
Contact an ADP retirement planning services specialist now to learn more at 844-912-3742
M-598876-2024-08-28
