3775 / What requirements apply to matching contributions in the context of a 401(k) safe harbor plan?

Editor’s Note: The SECURE Act, enacted December 20, 2019, has eliminated the annual safe harbor notice to participants of their rights and obligations for 401(k) safe harbor plans in the case of nonelective safe harbor plans. In addition, the SECURE Act also allows a nonelective plan to be adopted any time before the 30^th day prior to the close of the end of the plan year, and even after until as late as the end of the following plan year; provided, the sponsor makes a 4 percent of compensation rather than the usual 3 percent nonelective contribution, and the plan was not a matching safe harbor 401(k) at any time during the year. These new rules apply for plan years after December 31, 2019.¹

The safe harbor matching contribution requirement is met if a matching contribution is made to each nonhighly compensated employee in one of two ways: the basic match or the enhanced match. Both become an obligation of the employer for the plan year (with certain exceptions).

The basic match is an employer contribution equal to 100 percent of the salary deferrals to the extent they do not exceed 3 percent of compensation, plus a match equal to 50 percent of the salary deferrals that exceed 3 percent but do not exceed 5 percent of the compensation.²

The enhanced match is a matching contribution under a formula that provides matching contributions that are at least the total matching contributions made under the basic match, regardless of the employee’s rate of elective contributions.³

The safe harbor match must be fully vested at all times. Matching of catch-up contributions is not required; if done, they must be provided for all participants.⁴

In no event may the rate of matching contributions for a highly compensated employee exceed that for a nonhighly compensated employee.⁵ The IRC allows some variation on the basic formula described above, but the end result essentially must be the same as under these percentages and the rate of the match cannot go up with the rate of contributions.⁶

Matching contributions may be offered on both elective deferrals and employee after-tax contributions, provided that the match on elective deferrals is not affected by the amount of employee contributions, or matching contributions are made with respect to the sum of an employee’s elective deferrals and employee contributions under the same terms as they are made with respect to elective deferrals.⁷

The IRS has stated that matching contributions may be made on the basis of compensation paid for a payroll period, a month, a quarter, or at year-end.⁸ The selection of a pay period basis means that if the employee contributes more than is necessary to receive a match for the pay period, there is no requirement to increase the match in other periods when the employee defers less than enough to receive the maximum match. Under prior law, if an employee has restrictions placed on other deferrals (for example, takes an in-service hardship distribution), the plan could impose a six month suspension on participation to the same extent as required by a traditional 401(k) plan ( Q 3795).⁹ Note, however, that the six month suspension requirement was eliminated under the Bipartisan Budget Act of 2018 (BBA 2018) for tax years beginning after 2018.¹⁰ While some changes made by the BBA 2018 are optional, this change was mandatory for plans.

A plan that satisfies the ADP test through safe harbor matching contributions automatically will satisfy the ACP test for certain discretionary contributions and the safe harbor match. The discretionary match cannot exceed 40 percent of compensation and cannot be based on deferrals exceeding 6 percent of compensation ( Q ).

Likewise, a plan that satisfies the ADP test through the nonelective contribution safe harbor under Treasury Regulation Section 1.401(k)-3(b) automatically will satisfy the corresponding ACP test safe harbor as long as the same restrictions on matching contributions exist.¹¹ If the plan provides for additional matching contributions, then the ACP must be prepared.¹²

Nonelective Safe Harbor

The nonelective safe harbor contribution requirement is met if an employer contribution is made on behalf of all eligible nonhighly compensated employees in an amount equal to at least 3 percent of the employee’s compensation (however, see Editor’s Note above).¹³ This contribution is made to the accounts of all participants who are eligible, not just those making salary deferrals.

The nonelective contributions must be fully vested and subject to the withdrawal restrictions on IRC Section 401(k) plans ( Q 3794).¹⁴

One important advantage of the 3 percent safe harbor contribution is that it may be used to satisfy the nondiscrimination requirements of IRC Section 401(c)(4). It is not subject to the limitations that apply to QNECs for use in such testing ( Q 3797). Contributions used to satisfy the 3 percent safe harbor contribution may not be taken into account in determining whether a plan satisfies the permitted disparity rules (i.e., Social Security integration) ( Q 3860).¹⁵

Discretionary Match to Safe Harbor Plan

Safe harbor plans retain their ability to satisfy the ACP test for discretionary matching contributions if the contributions are limited in amount. Those limits require that discretionary matching contributions may be made where: (1) based on salary deferrals that are not in excess of 6 percent of the employee’s compensation and limited to no more than 4 percent of the participant’s compensation, (2) the rate of the employer’s matching contribution does not increase with the rate of the employee’s elective deferral or contribution, and (3) the matching contribution with respect to any highly compensated employee at any rate of employee contribution or rate of elective deferral is not greater than that made with respect to a nonhighly compensated employee.¹⁶

If matching contributions are made in excess of this limitation, the ACP test will be required for the plan year.¹⁷