Failing ADP Test as a tax strategy

[TPApril]

Owner of a 401(k) plan with over 20 ee's fails ADP Test every year.

They refuse to set up a Safe Harbor plan and annually takes about $15,000 in excess contributions returned to them.

I just started wondering if this is some kind of tax strategy on their part to delay some taxes?  Anyone ever seen that?

[Miles Leech]

I doubt it. Not a CPA, but I can think of very little advantage to what you describe. If it happens YoY, they're really just kicking taxes down in a cascading way, not gaining much of an advantage. In fact, they're likely losing out. I don't know how much a safe harbor contribution would cost them, or how much of it would go to HCEs / owners, but the tax savings of a) the safe harbor allocation itself and b) the fact that HCEs could defer another $15,000 (or more) combined annually means they're likely losing a pretty significant tax advantage by not doing safe harbor.

I do plan design & work with sponsors fairly often, and honestly there's just always some that will refuse to design a plan in the way that makes sense. Some don't want to be safe harbor because they see employer contributions as "giving money away" and they don't want to do that, even when you break down the numbers of how it actually saves them money overall. Some also just simply don't like being told what to do or what their plan should be. I've had prospects come to us who would benefit significantly by being a SH Non-elective instead of their current safe harbor match; they do new comparability profit sharing every year and have to make a full 5% gateway contribution on top of their safe harbor. Non-elective would save a huge chunk of money for a company that wants to max out its owners, but they came looking to offer match and are set on sticking with it.

[Paul I]

It is hard to guess what is their motivation.  The owner's logic may be similar to someone who has excessive tax withholding during the year because they like getting a big refund when they file their taxes.  This owner at least gets a little bit of earnings included in the refund while the IRS doesn't provide earnings on a refund of excess withholding.  Maybe, the owner treats the family to a Disney vacation every year after the refund check arrives and the owner doesn't want to break the tradition.

[jsample]

With such a large return it leads me to believe there is little employee participation.  The safe harbor plan design will make sense to the employer once the plan becomes top heavy.