In my last blog post, we talked about ways that plan sponsors can outsource fiduciary responsibilities. As interesting as it may be, not all plan sponsors fully understand what they are responsible for and liable for. The main functions 401(k) plan sponsors are responsible for include:
• Managing the plan with the sole interest of participants and beneficiaries.
• Ensuring plan fees are reasonable.
• Following the provisions of the plan governing documents.
• Diversifying plan investments.
• Doing all of these things with the care, skill, prudence and diligence.
Aside from outsourcing fiduciary responsibilities, there are contribution and investment safe harbors that can be adopted to protect employers from liability on discrimination testing and participant investment losses.
Contribution Safe Harbors
Electing a safe harbor plan will automatically allow the plan to pass ADP and ACP nondiscrimination testing and top heavy tests, as long as the employer contributions made are only safe harbor contributions. There are three different types of safe harbor contributions that can be used, and each makes sense for a certain set of employee demographics of a company. 1. Safe Harbor Match – there are two types of safe harbor match options that allow the employer to contribute only to participants making employee deferrals. a. Basic Safe Harbor Match – This formula matches 100% of the first 3% employees defer plus 50% of the next 2%. The maximum employer match would be 4% in this scenario. This option works best for companies with younger owners and key employees with limited income wanting to maximize their employee deferrals without making profit sharing contributions. b. Enhanced Safe Harbor Match – This formula matches 100% of the first 4% employees defer. This is an alternative to the basic safe harbor match. The main difference is that the employer match cannot increase as employee deferrals increase and matching contributions for highly compensated employees (HCEs) must not be greater for any non-highly compensated employees (NHCEs). 2. Safe Harbor Non-Elective Contribution – Jerry Kalish wrote an article called Take Advantage of ERISA Safe Harbors: They can help penetrate the ERISA fog, he explains that “The employer makes a contribution of 3% (or more) of a participant’s compensation, regardless of whether he or she makes a 401(k) contribution. As with the Safe Harbor Match, the employer’s contribution must be 100% vested.” This option is usually chosen when owners and key employees (over age 50) want to maximize their employee contributions. If the owners and key employees are older than most of the staff, they can receive a 6% profit sharing contribution in addition to the 3% nonelective contribution without having to make additional contributions to the rest of the staff. Employers usually choose this option when they want to provide this benefit to all eligible employees and are likely able to make annual profit sharing contributions. 3. Qualified Automatic Contribution Arrangement (QACA) – This safe harbor option is different, in that an automatic enrollment provision is required and a 2-year cliff vesting schedule is allowed for the employer contribution. In another article called Traditional Safe Harbor 401(k) Plan vs. QACA – How to Choose by Eric Droblyen, he lays out the contribution options for employers to choose from under QACA as: a. “Basic match – 100% of salary deferrals up to 1% of compensation, 1, plus 50% on the next 5% of compensation (3.5% of compensation total). b. Enhanced match – Must be at least as much as the basic match at each tier of the match formula. c. Nonelective contribution – 3% (or more) of compensation, regardless of salary deferrals.” Employers usually choose this option when trying to increase employee participation and utilize forfeitures to reduce plan costs due to high turnover in the first 2 years of employment.- These are great options to provide some fiduciary protection for safe harbor 401(k) plans. If you are unsure how to setup your plan or what your current plan provisions are, consult with your advisor and TPA to see what makes the most sense for your company’s 401(k) plan.