For struggling 401(k) and 403(b) plan sponsors concerned about making mid-year safe-harbor contributions, new IRS guidance offers temporary relief. Typically, plan sponsors must meet specific regulatory requirements to reduce or suspend safe harbor contributions mid-year. Under new guidance recently issued, plan sponsors may reduce or eliminate these contributions without condition, subject to special rules related to the required supplemental notice. The new guidance also clarifies the use of safe harbor plan amendments pertaining to highly compensated employees.
Here's how the new guidance issued as IRS Notice 2020.52 applies under the current circumstances.
Pre-COVID Safe Harbor Contribution Rules
Generally, plan sponsors must satisfy one or two nondiscrimination tests – an Average Deferral Percentage test and/or an Average Contribution Percentage test – to ensure non-highly compensated employees are treated the same as highly compensated employees (HCEs) in terms of deferral and employer contribution levels.
To be exempt from these tests, plan sponsors can adopt a safe harbor 401(k) plan structure that allows for discrimination under two conditions:
- The employer must make employer matching or nonelective contributions based on a minimum percentage of compensation with specific vesting requirements, and
- Provide a "safe harbor" notice prior to the beginning of the year.
To be valid, safe harbor plans must be in place at the start of the year and remain in place for the entire plan year.
Under normal circumstances, a company sponsoring a safe harbor plan is allowed to amend its plan to reduce or suspend its matching or nonelective safe harbor contribution mid-year based on certain conditions:
- The company is currently operating at an economic loss for the year, or
- before the start of the plan year, the company included a statement in its safe harbor notice to participants that it may reduce or suspend contributions mid-year, and
- it will give participants a supplemental notice explaining that it will not do so until at least 30 days following the receipt of the notice.
New COVID Relief Guidance
Recognizing that current economic conditions can make it difficult for companies to assess their financial position for determining whether they may be "operating at an economic loss," to satisfy the timing requirements of the supplemental notice, the IRS is waiving certain requirements. This also applies to the requirement to provide a safe harbor notice to participants before the start of the year.
The new guidance states that safe harbor plan sponsors are allowed to amend plans to reduce or suspend safe harbor contributions between March 13 and August 31, 2020 without condition. However, it also includes specific rules pertaining to the supplemental notice.
Supplemental Notice Rules
Typically, sponsors must provide notice 30-days in advance of a reduction or suspension of safe harbor contributions. The notice must include an explanation of 1) the consequences of the action, 2) how participants may change their deferral elections in light of the change, and 3) the effective date of the amendment.
Under the new guidance, sponsors can satisfy the 30-day notice if it 1) provides notice to employees no later than August 31, 2020, and 2) adopts the plan amendment no later than the effective date of the reduction or suspension of safe harbor nonelective contributions.
However, for sponsors reducing or suspending safe harbor matching contributions, the 30-day advance notice for a reduction or suspension still applies.
In addition, the guidance requires employers to provide participants with a reasonable opportunity to change their contribution elections after receiving the supplemental notice and before the reduction or suspension of employer contributions.
They are also required to make any contributions promised before the effective date of the amendment.
COVID Relief for Mid-Year Safe Harbor Contribution Reductions for HCEs
Notice 2020-52 also allows plan sponsors to reduce or suspend safe harbor contributions strictly for HCEs as long as they provide an updated safe harbor notice and an opportunity for participants to update their deferral elections.
Normally, safe harbor plan sponsors are limited in their ability to amend their plans to reduce or suspend employer nonelective or matching safe harbor contributions. While Notice 2020-52 expands the opportunities for plan sponsors to amend their plans without restriction, certain rules and procedures do still apply. With the August 31 deadline approaching, plan sponsors in need of relief should immediately consult with their plan advisors to ensure they remain in compliance with the new guidelines.