Finally, the IRS has made it clear that a 401(k) safe harbor plan may be amended during a plan year, with certain restrictions, and not lose its safe harbor status, in IRS Notice 2016-16 (the "Notice").

What is a 401(k) Safe Harbor Plan?

Under general nondiscrimination rules, contributions to a 401(k) plan must be nondiscriminatory in amount. A 401(k) plan satisfies this requirement if elective contributions made on behalf of highly compensated employees satisfy the actual deferral percentage ("ADP") test and matching contributions (and employee after-tax contributions, if any) satisfy the actual contribution percentage ("ACP") test. As an alternative to satisfying the annual ADP and ACP tests, a 401(k) plan may be structured to use a safe harbor plan design.

Safe Harbor Plan Design - Safe harbor 401(k) plans are generally designed to require certain minimum employer contributions on behalf of employees for a 12 month period. With certain limited exceptions, safe harbor 401(k) plans may not be amended to change the plan year, adopt safe harbor plan status on or after the beginning of the plan year, reduce or suspend safe harbor contributions during a plan year or change from safe harbor plan status to non-safe harbor plan status (or visa versa) during a plan year. In addition, a safe harbor 401(k) plan must notify employees of certain plan provisions.

Safe Harbor Plan Notice Requirements - Safe harbor 401(k) plans must provide a notice to eligible employees. The notice must generally be provided at least 30 but no more than 90 days prior to the beginning of the plan year and include a description of:

  • The formula for the employer safe harbor contribution (match and/or nonelective contributions) to be made under the plan, and any other plan contributions;
  • the type and amount of compensation that may be deferred under the plan;
  • how to make cash or deferred elections (including any administrative requirements that apply to the elections);
    the plan's withdrawal and vesting provisions; and
  • information that makes is easy to obtain additional information, such as a telephone number or website.

What Mid-year Changes to a Safe Harbor Plan are Permitted?

A 401(k) safe harbor plan may be amended mid-year if (1) the change is not a prohibited mid-year change, (2) eligible employees are provided an updated safe harbor notice (if necessary) and (3) employees are provided an adequate opportunity to revise their cash or deferral election.

1.  Prohibited Mid-Year Changes

The following are prohibited mid-year changes:

  1. A change to increase the number of completed years of service required for an employee to have a nonforfeitable right to safe harbor contributions under a qualified automatic contribution arrangement ("QACA").
  2. A change to reduce the number or narrow the group of employees already eligible to receive safe harbor contributions. This prohibition does not apply to employees who are not already eligible to receive safe harbor contributions as of the date the change is either made effective or adopted.
  3. A change to the type of safe harbor plan, for example, a change from a traditional safe harbor plan to a QACA 401(k) safe harbor plan.
  4. A 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. This prohibition does not apply if, at least 3 months prior to the end of the plan year, the change is adopted and the updated safe harbor notice and election opportunity are provided (as described below), and the change is made retroactively effective for the entire plan year.

It is important to note that if one of the above changes is required by law or a court decision to be made mid-year it is not prohibited.

2.  Updated Safe Harbor Notice

If a mid-year change to the plan changes the information required to be provided in the safe harbor notice, an updated notice must be provided to employees within a reasonable period before the effective date of the change. The notification is deemed to be within a reasonable period if it is distributed at least 30 days, but not more than 90 days, before the effective date of the change. If the updated notice cannot be provided 30 to 90 days before the effective date of the change (for example, in the case of a mid-year change to increase matching contributions retroactively for the entire plan year), the notice must be provided as soon as practicable, but not later than 30 days after the date the change is adopted.

An updated notice is not required if the mid-year change was described in the original safe harbor notice provided before the beginning of the plan year.

3.  Opportunity to Revise Cash or Deferral Election

Each employee provided an updated notice must be given a reasonable opportunity before the effective date of the change to revise his or her cash or deferral election (and/or any after-tax employee contribution election). A 30-day election period is deemed to be a reasonable period. If the opportunity to revise the cash or deferral election cannot be provided before the effective date of the change (for example, in the case of a change to increase matching contributions retroactively for the entire plan year) an employee is treated as having a reasonable opportunity to revise 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.

The updated notice and election opportunities must be provided only if the mid-year change to the plan affected the information required to be provided in the notice. If the changes to the plan affect information provided in the notice that was not required to be in the notice, no additional action is required.

403(b) Plans

This guidance also applies to Section 403(b) plans that apply the § 401(m) safe harbor rules. 

Effective Date

The Notice is effective for mid-year changes made on or after January 29, 2016. 

Examples:

Here are a few examples:

Example 1: ABC Plan, a traditional 401(k) safe harbor plan, is amended mid-year to increase future safe harbor non-elective contributions from 3% to 4% for all eligible employees. Employees otherwise required to be provided a safe harbor notice are provided both an updated notice that describes the increased contribution percentage and a reasonable opportunity to revise his or her cash or deferral election. This notice and deferral election opportunity comply with the Notice.

K&S Insight: Note that the change in the employer non-elective contribution has no impact on the employees cash or deferral election, but an opportunity to revise his or her cash or deferral election must still be provided.

Example 2: DEF Plan, a traditional 401(k) safe harbor plan with a traditional safe harbor matching contribution calculated on a payroll-period basis, is amended mid-year on August 31st to increase the safe harbor matching contribution from 4% to 5% retroactive to January 1st and to change from a payroll-period match calculation to an entire plan-year match calculation. Due to the retroactive effective date of the change, it is not possible to provide an updated safe harbor notice and additional cash or deferral election opportunity to employees prior to the January 1st effective date. On September 3rd, the first date that an updated notice and additional cash or deferral election opportunity can practicably be provided, employees otherwise required to be provided a safe harbor notice are provided an updated notice that describes the increased contribution percentage and an additional 30-day cash or deferral election period starting September 3rd. This mid-year change complies with the Notice.

Example 3: GHI Plan, a QACA 401(k) safe harbor plan with multiple investment options, is amended mid-year to change the default investment fund from Fund X to Fund Y. Employees otherwise required to be provided a safe harbor notice are provided both an updated notice that describes Fund Y as the default investment fund and an additional cash or deferral election opportunity 45 days prior to the effective date of the change in funds. This mid-year change complies with the Notice.

Example 4: JKL Plan, a traditional 401(k) safe harbor plan, is amended mid-year to change the design to a QACA 401(k) safe harbor plan. This mid-year amendment does not comply with the Notice because the type of safe harbor plan cannot be changed mid-year. However, if JKL Plan had been amended mid-year to add an automatic contribution feature (but not amended to change the design to a QACA 401(k) safe harbor plan) and employees otherwise required to be provided a safe harbor notice had been provided both an updated notice that described the automatic contribution arrangement and an additional cash or deferral election opportunity prior to the mid-year change, then the mid-year change would comply with the Notice.

Example 5: MNO Plan, a 401(k) safe harbor plan, is amended mid-year to change the entry date for commencement of participation from monthly to quarterly. The amendment also changes plan rules regarding arbitration of disputes. The amendment is effective with respect to employees who are not already eligible to participate in the plan. This mid-year change complies with the Notice since a safe harbor notice is not required to include the plan entry date or information on arbitration procedures; therefore, an updated notice and additional election opportunity are not required.

Comments

The IRS has requested comments on additional guidance that may be needed, in particular comments on plans involved in mergers or acquisitions.