What is a Safe Harbor 401(k) Trying to Solve?
Before you ask what a safe harbor 401(k) is, you should understand why someone would want one. Most 401(k) plans face an annual non-discrimination test where the IRS checks to see if highly compensated employees or business owners are maxing out 401(k) contributions for the year, while the rest of the employees lag in their savings. The IRS wants to see that all employees are taking advantage of the retirement plan, not just those with high paying jobs.
If you’re a business owner and your 401(k) plan has low participation or saving rates among rank-and-file employees, it may raise a flag for the IRS.
What Is a Safe Harbor 401(k)?
A safe harbor 401(k) is a plan structure that either automatically passes the non-discrimination test or avoids it altogether. It’s relatively easy to do, but the employer must make contributions to each employee’s plan — the same percentage of compensation for everyone.
For example, for every contribution made by an employee, the company adds another 5% of their salary. The amount you match will depend on your own contributions as a business owner.
Now is the time to consider whether a safe harbor feature is the best choice. Choosing it now ensures that it can be fully operational in advance of the October 1st deadline. (Non-Safe Harbor Plans can be established as late as December 31st.)
Safe Harbor 401(k) plans are the most popular plan type established by small businesses. However, they require the initial plan year to begin at least three months in advance, making October 1st the effective deadline for establishing a new Safe Harbor 401(k) Plan for 2017.
An Employer Sponsored Retirement Plan can be a powerful tool in promoting financial security in retirement.
· An employer can choose to match only those employees that personally participate in the plan (you do not give money to employees unwilling to put in some of their own funds)
· Contributions can be tax deductible for both the employer and employee, and savings can grow tax-free.
· Employees can contribute up to $18,000 in 2017 ($24,000 if age 50 or over).
· Annual combined employee and employer contributions can be as high as $54,000 (for 2017).
· Starting a retirement savings plan can be easier than most business owners think.
· Even self-employed individuals can establish a plan!
As always, the team at GunnChamberlain, P.L. is only a phone call away. Please let us know if you have any questions or would like any additional information!