3% SHNEC and Financial Difficulty

[No Name]

Calendar year client has a 3% Safe Habor non-elective contribution Plan. He's asking if the plan can be terminated or amended prospectively to get rid of the contribution requirement. There's 1 HCE and 1 NHCE.

I assume they've accrued the 3% on compensation earned to-date. I've looked far and wide and see many opinions that the 3% is locked in on all compensation earned during the Plan Year.

I'm thinking of creating a short plan year to lock down compensation earned to date. I know it will not be "Safe Harbor", but HCE will not defer in 2005.

I'll end now and see if there are any opinions/options out there.

[Tom Poje]

generally a safe harbor plan must be 12 months long. the new regs include situations in which the plan might be shorter than 12 months:

Plan termination

The plan follows the rules for a plan that was reducing or eliminating a safe harbor match, other than the requirement that participants have a reasonable opportunity to modify their deferral elections

or

The termination is a result of disposition or acquisition or employer incurs a business hardship as described in section 412(d) ( 1.401(k)-3(e)(4))

A safe harbor 401(k) plan may be amended during the plan year to reduce or eliminate the safe harbor matching contributions provided all the following conditions are met:

1. notice of suspension is provided to all participants

2. reduction or suspension of the matching contributions is effective no earlier than 30 days are eligible participants are provided the suspension notice

3. eligible participants are provided an opportunity to modify their deferral elections (and after tax contribution elections if applicable)

4. the plan is amended to provide that the ADP /ACP test will be satisfied for the entire year and the current year testing method will be used

5. the safe harbor matching contributions have been provided through the effective date of the amendment.

1.401(k)-3(g) and 1.401(m)-3(h)

so, if you don't meet the conditions of 412(d) are you allowed to follow the guidelines for a safe harbor match (even though the plan has a SHNEC instead?)

I'd tend to say no since you could have the SHNEC be a 'maybe'. If it is a case of hardship, then I would follow the guidelines as described for the match as close as possible.

[No Name]

Thanks, Tom

Always very thoughtful. But I don't see my answer there. (No offense intended. You have all my respect.) Maybe because there is no guidance?

I don't see how a Safe Harbor NEC must be treated with white gloves, when you could always terminate a Money Purchase, or amend the formula. The only special difference I can think of is that no hours or last day rule can be imposed. And of course, ADP testing will be required.

Thus, I'm thinking, change the Plan Year to end 3/31, no notice ("maybe" or otherwise) for the new Plan Year = no Safe Harbor. Maybe even a new short Plan Year ending 12/31, again, not Safe Harbor, but back on track as a calendar plan.

Trying to move back to the top of the topics for more opinions.

[Tom Poje]

At the fall 2004 ASPPA conference the IRS answer to the question was "If the safe harbor notice provide was the 'fixed 3% contribution', then no amendment to eliminate the 3% contribution is POSSIBLE (barring plan termination). This was Question 17.

(Unlike a money purchase where you could reduce or eliminate the contribution during the year)

now, 2 things must be remembered - comments by IRS agents at conference do not necessarily represent the actual Treasury position. Second, these comments were made before the issuance of the new regs.

(I'd also add if the plan was terminated and then a successor plan was started I have a strong suspicion that the IRS would not take kindly to it)

However, usually comments by IRS agents are fairly reliable.

In this particular case, I think the 'out' is in the preamble (rather than the regs) which says

A safe harbor plan could also have a short plan year in the year the plan terminates (w/o regard to the reason for termination or finacial condition of the employer) if the employer makes the safe harbor contributions for the short year, ees notified of change (I assume that means 30 days notice) and plan passes the ADP test. In either case, employer must make safe harbor contributions through the date of plan termination.

in other words, the preamble seems to 'interpret' 1.401(k)-3(e)(4)(i) by replacing the words 'safe harbor matching contributions' with 'safe harbor contributions'

[No Name]

Thanks again, Tom

I would only take issue with the 30 day notice. Even a 204(h) notice shouldn't be required for a termination.

Another bit of spice. The Adoption Agreement states that the 3% SHNEC will be made for each year the notice is timely provided. I prepared one, but don't know if it was actually distributed. If not, no Safe Harbor and no 3% required? What do you think? (Don't need to answer this)

[Tom Poje]

one of the reason of the new regs was to make it clear that a safe harbor plan is driven by the document, not by the notice. In other words, the IRS has come back and said 'no, you really are not suppose to run things this way.'

I realize that documents do exist that are worded this way, and how do you handle things in those scenarios, especially if you have a determination letter?

well, I'm not a document expert or attorney or whatever. personally I think you are stuck. the IRS has stated a number of times that even if no notice was provided that does not free one from the safe harbor contribution obligation.

in other words, a plan is either safe harbor or it is not. the only exception is the contingent notice, but even then one is required to issue the 30 day notice notice before plan year begins and then again plan year ends. and if one or both was not done, you have an operational failure.

[mbozek]

There are two possible outcomes if the plan is terminated:

a) it is a SH plan for the short plan yr if the plan is terminated in accordance with the rules for terminating a SH plan

b) is not a SH plan in the yr of termination but can qualify under the general rules for 401k plans if the plan passes the ADP test for the short plan yr. Under 401(k)(12)(A) the only consequence of not meeting the SH provisions is that the plan does not automaticially pass the ADP test, not that the plan is disqualfied under 401(k).

There is a separate Q of whether the ees have an enforcable right to the SH contributions for the rest of the yr which would be subject to the right of the ER to terminate or amend the terms of the plan.

[Guest Midas]

In a GUST restated document, the Safe Harbor Noneclective should be clearly adopted and outlined in the document as a fixed formula or the plan should be designed as an ADP-tested plan with the right to amend to Safe Harbor with the NEC.

If your document allows for the wait-and-see approach I would suggest you investigate EPCRS. The failure to make the required safe harbor notice for a safe harbor plan is considered an operational failure under EPCRS. There is some guidance under EPCRS on correcting the failure to meet the notice requirement. If you actually have not sent the notice, it may be worth it to see if the facts and circumstances in your case would allow correction with a late notice. If so, make the late notice a "wait-and-see"

If your SH NEC is fixed in the document, then follow your own advise in your first message. Create the short plan year and amend out of the Safe Harbor for the following plan year. You would still be on the hook for the 3% for the short plan year and be subject to testing for the short plan year.

[No Name]

Exact Adoption Agreement language:

"For any Plan Year in which the Employer satisfies the notification requirements of section 401(k)(12)(D) of the Code, the Safe Harbor CODA provisions of Part II Article IX of the Plan shall apply (Safe Harbor Option)."

Sounds like skip the notice, not safe harbor to me. This is a Datair document with an IRS Notification Letter.

[Guest Midas]

Personally, I would not feel comfortable with a document that allows the notice to drive whether it is Safe Harbor Plan. Whether a plan is a safe harbor plan should drive the notice. Your document puts the safe harbor contibution at the discretion of the employer (employer has discretion whether to send a notice or not send a notice). A safe harbor contribution can not be discretionary.

[WDIK]

Doesn't the employer have the same discretion under either scenario?

1) If the plan language is as cited by No Name, the employer uses its discretion prior to the upcoming plan year to either issue the notice and apply the safe harbor option or to not issue the notice and not apply the safe harbor option.

2) If the plan language has the safe harbor terminology, the employer uses its discretion prior to the upcoming plan year to either leave the plan as is and use the safe harbor option or to amend the plan, remove the safe harbor language, notify participants and not apply the safe harbor option.

As a side note, I believe that the IRS approved Accudraft prototype uses a similar approach as the Datair document described. Until the IRS changes its mind, would it be inappropriate to rely on these approved documents?

[Guest Midas]

I don't believe it is the same. My company uses Accudraft. In the accudraft base document, it states that a notice is an official amendment to the plan. Once the plan has been amended, the notices are required.

The wait-and-see approach does give the employer discretion as to making the contribution but not on making the notice requirement.

[WDIK]

Please excuse my confusion, but I don't quite follow.

Under the Accudraft document, the employer would draft the notice, which is automatically an amendment to the plan, which requires the notice to be distributed. Is this to implement the safe harbor for one year only or in perpetuity? What if the notice is drafted stating that there is no safe harbor contribution? Is this also an amendment to the plan?

Also, please elaborate on your statement that the two scenarios I proposed do not give the employer the same discretion. In each instance the employer uses its discretion to decide prior to the upcoming plan year whether or not the plan will be a safe harbor plan. How is the employer's discretion limited?

[No Name]

Thanks for the lively discussion, folks. I don't want to drop it quite yet, since there is considerable disagreement on the subject. I appreciate that posters I consider "High Caliber" have weighed in. (Wish there were an IRS lurker that would express an opinion.) (Also, where's that Fish?)

I agree with everyone that "What does the document say?" rules the roost. Its new to me that a notice becomes an amendment to the Plan Document (but no argument).

I like the idea of the "negative notice". "I'm not counting on safe harbor and no 3% for next year".

I send out notices with a cover letter that says, to the effect, if you want to be a Safe Harbor Plan in 200X, distribute this by X date. I've always thought the document language referred to above gave the clients that discretion.

On a happy note (rare and far between), I broached the subject with the client. If you read back, its only two people. HCE thought, WTF, I can handle 3% and if things brighten later this year, I'd rather have the flexibility to defer as much as I could.

I wouldn't push this issue if this weren't a searchable archive, and much of what I read didn't go this deep. I thank you all for, not just this, but all topics that have been picked to the bone.

[Tom Poje]

ah, the safe way to go.

I think the problem the IRS would have with the document (certainly once the new regs go into effect) it sounds like the document has

safe harbor language in it, but with a caveat that the notice will decide if the plan is really safe harbor, and the notice will be treayed as an amendment.

I would read the new regs to say that the current plan has no safe harbor language in it, but rather is amended to include such language in the case of a contingent safe harbor. this can be done on a year by year basis.

the preamble to the final regs says

A PLAN that uses the safe harbor method MUST specify whether the safe harbor contribution will be the SHNEC or the SHMAC and is NOT permitted to provide that ADP testing will be used if the requirements for the safe harbor are not satisfied. (e.g. in your case, the notice being issued) The safe harbors are intended to provide ees with a minimum threshold in benefits in exchange for easier compliance for the plan sponsor. It would be inconsistent with this approach to providing benefits to allow an employer to deliver smaller benefits to NHCEs and revert to testing.

basically the document cited would seem to fail this condition. And I am not picking on that document - I have seen a few others that have similar language.

again, how the IRS will handle things prior to the effectove date of 1/1/2006, I am not sure, since things were unclear. after that date, well....

this is my understanding of how to do it.

by Dec 1, 2005 issue notice, we might go safe harbor. (if you don't, probably too late to go safe harbor in 2006)

by Dec 1, 2006 issue notice stating whether plan is safe harbor for 2006. if yes, plan must be amended. it can be amended for 2006 alone or for all future years. if amended for 2006 alone, also issue notice for 2007 saying plan might go safe harbor for 2007.

I know, it sounds like the notice is the amendment, but I guess there is enough of a difference in that there is no language in the document. also make sure document says current year testing rather than prior year testing. that is a requirement if you are going to use contingent notices.

[KateSmithPA]

In searching the boards for an answer to a question I came across this thread. Although my question is different from the question that started the thread, the points in the thread seem to answer my question. However, I would like some clarifcation.

In Notice 2000-3 the IRS states that if a plan is not a Safe Harbor plan, the employer may issue a "Maybe" notice saying that there might be a 3% SHNEC for the following year. Then, if the employer wants to make the SHNEC, they must issue another notice prior to the end of the year stating that the plan will be amended for that year to a SH plan and letting participants know what the SH contribution will be. According to this notice, this may be done on a year-to-year basis.

We have a plan that is being audited for 2003. In 2002, the employer issued a "Maybe" notice to the participants. The plan terminated in November, 2003 and did not make the SHNEC. But, the plan was a Safe Harbor plan by design. That is, the adoption agreement said it was a SH plan. Is an employer allowed to issue a "Maybe" notice when the document states the plan is a SH plan?

[Tom Poje]

one of the problems with safe harbor plans was their newness and the final regs addressed some issues about clarifying how they were supposed to be handled.

The general feeling I get based on comments, people put the safe harbor language in the document, and then used the notice to state whether the plan was safe harbor. not how things were suppose to be done. the notice is merely a piece of info to tell particpants that a plan actually exists. sort of like an annual spd.

this is to prevent the HCEs from having a plan, telling no one, and then using the safe harbor match and getting a free ride. or at least that is the best I can tell. or I have seen SPDs that say the plan is safe harbor, and if the company decides to make a safe harbor they will tell you in the notice. hopefully you have something like that and maybe the auditor would accept the confusion in regards to safe harbor plans.

even the preamble states that "these regulations CLARIFY that, except to the extent permitted under 1.401k-3 and 1.401(m)-3, the plan may not revert to testing for the plan year'.

To me that statement implies the IRS realizes that confusion exists, and some things weren't done quite properly.

anyway, to get back to your question. if the document says it is a safe harbor with a 3% SHNEC then that is what it is regardless of whether a notice was issued.

The maybe notice implies the plan has no language in it. then 1 month before the end of the plan year the document is amended to say something like:

for 2003 (and 2003 only) the plan will provide a 3% SHNEC. or For 2003 and the rest of its days until amended the plan will provide a 3% SHNEC. now, you know and I know most plans were probably not administered that way. but the question would be can you argue the point and get away with it.

[Bird]

If the adoption agreement said that it was a SH plan...and that the employer would make a 3% contribution, then I'd say that contribution is required until the plan is amended to say otherwise, before the beginning of the year for which it is effective.

If the adoption agreement said that it was a SH plan...and that the employer could issue a maybe notice and could amend the plan to make the SH contribution, etc., etc. then you'd have that flexibility.

It sounds like you described the former but I'm not sure. If that's the case, then the notice shouldn't have been a "maybe" notice, it should have been a "we will..." notice. Nevertheless, I don't think the IRS would care too much about the content of the notice, especially given the uncertainty about these plans, as noted. But the document issues appear problematic.