Terminating a Safe Harbor 401k Plan

[DP]

I have a client with a Safe Harbor 401k Plan with a 5/31 year end. They are thinking about terminating the plan.

I have advised them that the plan should be terminated as of 5/31. If they were to terminate mid plan year, then the short plan year could not be Safe Harbor. Right now the owners are the only participants deferring into the plan, so they wouldn't pass ADP for the short plan year. They only fund the 3% Safe Harbor, no other Employer contributions.

Am I right in my thinking that a final short plan year cannot be Safe Harbor?

Thanks.

[chris]

Not sure as to the exact answer, but if the 3% safe harbor has already been funded for the entire plan year what's the problem with terminating the plan as of 5/31/04....?? There seems to be no advantage or savings by terminating the plan as of 5/14/04, for example, as opposed to having the date of termination be 5/31/04.

[Tom Poje]

maybe -

the proposed regs indicate a short plan year is possible if the plan terminates, the safe harbor is made during the short year, ees are provided notice of the change and the plan passes the ADP test.

the proposed regs also say a short year is possible in connection with merger, acquisition, or substantial business hardship.

previously there was a requirement for 12 months for safe harbor plans, the IRS recognizews this is impractical because of the above situations. so, if adopted, will the proposed regs apply retroactively? I have no clue.

[DP]

Thanks for the answers. My problem is that the plan would never pass the ADP test on a short year since the two owners are the only ones making 401k deferrals.

[Guest Boilerburm]

For what it's worth, we have taken the position that the short plan year when the plan is terminating is not a safe harbor year. As Tom pointed out, the proposed regs offer relief, but until they go into effect, I believe we are stuck with a non-safe harbor for that short year. We have been forced to do testing, and, as you might suspect, we failed miserably! That's the price they had to pay to terminate the plan.