Safe! Mid-Year Changes to Safe Harbor Plans Permitted

by Winstead PC

The Internal Revenue Service recently issued long-awaited relief to sponsors of safe harbor 401(k) plans. For years, many employers have relied on various safe harbor plans designs to avoid generally applicable nondiscrimination requirements. As a general matter, the terms of the safe harbor plan must remain in effect for the entire plan year and must be described in a notice to participants that is distributed prior to the plan year. So, when circumstances change during the plan year, many employers have found themselves in a quandary of not being able to change their plans – even where the change may have been advantageous to the participants or the change did not adversely affect the required provisions of the safe harbor plan design.

In Notice 2016-16, the IRS states that certain mid-year changes to either a safe harbor plan or a safe harbor plan’s notice will not violate the safe harbor rules if (1) an updated safe harbor notice that describes the mid-year change and its effective date is provided to each employee otherwise required to be provided a safe harbor notice within a reasonable period before the effective date of the change and (2) each employee required to be provided an updated safe harbor notice is given a reasonable opportunity before the effective date of the mid-year change to change the employee’s cash or deferred election (and/or any after- tax employee contribution election).

The Notice indicates that the timing requirement for the updated safe harbor notice is deemed to be satisfied if it is provided at least 30 days (and not more than 90 days) before the effective date of the change. However, if it is not practicable for the updated safe harbor notice to be provided before the effective date of the change, the notice is treated as provided timely if it is provided as soon as practicable, but not later than 30 days after the date the change is adopted. Note, however, if the required information about the mid-year change and its effective date was provided with the annual safe harbor notice, an updated safe harbor notice is not required.

Similarly, for purposes of the election opportunity in connection with the change, the IRS indicates that a 30-day election period is deemed to be a reasonable period. If it is not practicable for the plan to provide an advance election opportunity, an employee is treated as having a reasonable opportunity to make or change an election if the election opportunity begins as soon as practicable after the date the updated notice is provided to the employee, but not later than 30 days after the date the change is adopted.

This relief applies equally to safe harbor 401(k) plans and 403(b) plans, but will not apply to mid-year changes that are otherwise addressed in the regulations, such as short plan years, late adoptions of safe harbor plan status; the reduction or suspension of safe harbor contributions; or a change to non-safe harbor status during the year. Note, also that mid-year changes remain subject to other applicable laws affecting qualified plans, such as the anti-cutback rule, nondiscrimination rules and anti-abuse rules.

Notwithstanding the foregoing, certain mid-year changes specifically fall outside of the scope of this relief and, therefore, will remain prohibited under the safe harbor rules:

  1. A mid-year change to increase the number of years of service required for an employee to become 100% vested in safe harbor contributions under a qualified automatic contribution arrangement (QACA), and earnings thereon. The employer could, however, reduce the required vesting years of service without implicating this prohibition.
  2. A mid-year change to reduce the number or otherwise narrow the group of employees who are already eligible to receive safe harbor contributions.
  3. A mid-year change to the type of safe harbor plan (e.g., from a traditional § 401(k) safe harbor plan to a QACA).
  4. A mid-year change (i) to modify (or add) a formula used to determine matching contributions (or the definition of compensation used to determine matching contributions) if the change increases the amount of matching contributions, or (ii) to permit discretionary matching contributions. The employer could, however, adopt such a change at least 3 months prior to the end of the plan year if the change is made retroactively effective for the entire plan year (and with respect to compensation for the entire plan year).

While the Notice provides answers to many common questions relating to safe harbor plans, it does not address how to deal with changes that arise in the context of mergers and acquisitions. We expect, however, that the IRS will issue additional guidance on this point in the near future.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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