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MR900432566[1] resized 600Many ESOP companies either make or have considered making a safe harbor matching or discretionary contribution in their ESOP or 401(k) plan.  As the year end approaches, now is a good time to revisit the safe harbor contribution.

If the highly compensated employees (HCEs) at your company are limited in the amount they can defer in the 401(k) plan due to the IRC Section 401(k) ADP and/or IRC Section 401(m) ACP nondiscrimination testing requirements, then a safe harbor contribution may be a good fit for you. If you make a safe harbor contribution then you are deemed to satisfy the 401(k) and matching nondiscrimination testing requirements. This will allow HCEs to be able to maximize their 401(k) deferrals.  In addition to automatically passing the testing, you may reduce your 401(k) compliance testing expenses by not having to perform the test(s).  [For plans that have top heavy testing problems, safe harbor contributions can be useful in satisfying the top heavy requirements].

Generally a safe harbor contribution can be satisfied in many ways, most commonly with a 3% nonelective contribution, a 4% matching contribution, or a QACA (Qualified Automatic Contribution Arrangement).

You are allowed to make the safe harbor contribution in the ESOP. This means that you can designate contributions that you would have otherwise made (e.g. loan payments) as safe harbor contributions, enabling you to make the safe harbor contribution in the form of stock with no additional cash outlay. If you are not leveraged, you could make the contribution directly in the form of shares, again with no cash outlay.

In order to satisfy the safe harbor requirements an annual safe harbor notice must be provided to the participants. The notice must be provided between 30 and 90 days before the first day of the plan year, and employees who become eligible after the notice period must receive the notice by their date of eligibility. December 1 is the Safe Harbor Notice Deadline for December plan years.

I am often told this is too good to be true and asked why all companies wouldn't do this.  The biggest reason is that companies are not aware of this planning alternative.  If there is a potential downside it is that the safe harbor contributions will generally need to be 100% vested, though there are some alternatives and planning techniques that can make it two years before the accounts become 100% vested.

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