Posted by Saaib Uppal, CPA
As discussed in a previous blog post, How to stop a nonelective contribution, circumstances and factors often arise that make us wish that a commitment we made had an escape clause. The commitment we were discussing in that post was a safe harbor nonelective contribution. At the time, we referenced the IRS regulations that had been proposed on May 18, 2009 to provide guidance on stopping nonelective contributions as follows:
- The sponsor must incur a substantial business hardship which is defined as including (but not limited to) whether or not:
- The employer is operating at an economic loss;
- There is substantial unemployment or underemployment in the employer’s trade or business; and
- The sales and profits of the employer’s industry are depressed or declining.
- The plan must be amended to provide that it satisfies both the ADP and ACP tests for the entire plan year using the current year testing method, regardless of the fact that safe harbor contributions were made for part of the year;
- All safe harbor contributions must be made, up until the effective date of the amendment;
- The reduction or suspension of the nonelective safe harbor contribution may not be effective earlier than 30 days after delivery to the eligible employees of a notice containing the information described below (or 30 days after the amendment is adopted, whichever is later);
- Eligible employees must be given a reasonable opportunity to change their existing deferral elections after receipt of the notice, but prior to the effective date of the amendment;
- The notice to eligible employees must contain an explanation of the following:
- The consequences of the amendments reducing or suspending future safe harbor nonelective contributions;
- The procedures for changing the employee’s deferral election and, if applicable, employee contribution elections; and
- The effective date of the amendment to the plan which suspends and/or reduces the nonelective safe harbor contribution.
While this did make it easier for plan administrators to back out of their nonelective contribution commitment (as opposed to the alternative of terminating the plan), proving a substantial business hardship can be difficult at times. To provide further assistance, the November 15, 2013 final regulations on reducing or suspending 401(k) plan safe harbor nonelective contributions mid-year were released.
To summarize these new regulations, employers can rescind their commitment if:
1) They can prove that they are “operating at an economic loss,” OR
2) The annual safe harbor notice states that the safe harbor contributions could be reduced or suspended upon later notice.
The second option is a welcome change and as long as employers provide a supplemental notice at least 30 days prior to adopting any amendment to reduce or suspend the contributions, they will be deemed to have satisfied the final regulations. This essentially turns the annual safe harbor notice into a “Maybe… Maybe Not” notice which goes a step further than the “Maybe” notices we wrote about in Maybe Notices for Safe Harbor Plans.
Where’s the escape clause if you wish to reduce/suspend a safe harbor matching contribution? For plan years beginning January 1, 2015, you can follow these same rules outlined above. Until then, you must continue to follow the steps discussed in How to Scratch that Match.
An important consideration in deciding whether to suspend employer contributions is that the plan will then be subject to nondiscrimination testing which could cause the highly compensated employees to receive a distribution of excess salary deferral and matching contributions. Additionally, a required top-heavy contribution could force the employer to make a 3% top-heavy minimum contribution, almost identical to the nonelective safe harbor contribution that is suspended in the first place.
Whether we can implement a “Maybe…Maybe Not” clause in our other commitments in life remains to be seen. For plan administrators, however, the IRS has provided an option to opt-out mid-year that is sure to be well received.