The Benefits of a Safe Harbor Plan for Business Owners

Brian Price CPA

A successful business owner knows that finding and retaining top talent is one of the keys to running a successful business. Providing valuable fringe benefits, such as a 401(k) match, is a great way to attract talent. However, wouldn’t it also be nice to have some of that same benefit go to the business owner?

As a business owner, I was getting tired of not being able to fully participate in my own plan. I would personally participate in 401(k) deferrals just like my employees all year long only to see most of my contributions returned to me, because I failed highly compensation testing.  My employees got to keep their contributions and the company match while I got my contributions returned year after year, because my salary was too high.

Nondiscrimination testing is one of the biggest obstacles for business owners with a traditional 401(k) plan. Under the discrimination testing rules, if “rank and file” employees aren’t putting enough into the plan, the amount owners can contribute for themselves, and their highly compensated key employees, will be limited.

A fantastic way to solve this problem is a Safe Harbor 401(k) plan. It is an ideal way to reward your employees with higher retirement contributions, while also allowing the owner to fully participate, without compensation testing.

A three percent or four percent contribution is all it takes.

A Safe Harbor 401(k) is simply a traditional 401(k) plan with a mandatory employer contribution. A Safe Harbor 401(k) allows employers to disregard nondiscrimination testing if they make a guaranteed contribution to all their employees.

To qualify as a Safe Harbor 401(k), you have two options:

1. Contribute three percent of every employee’s salary (regardless of participation in the plan); or

2. Provide a 100 percent match of the first three percent of employee contributions and 50 percent of the next two percent (for only those employees who are participating in the plan).

Once the Safe Harbor minimum contribution is satisfied, you can then defer the maximum $18,000 for yourself and more easily reward your key employees, and yourself, with profit-sharing plan contributions up to the individual maximum of $54,000. You will no longer have to worry about your contributions being returned.

A Safe Harbor 401(k) is easier and less expensive to administer than a traditional 401(k), but the cash needed to fund employer contributions will likely be higher overall. Safe Harbor employer contributions are also immediately vested, making it easier for some employees to leave a company sooner than if they had to wait a few years to become 100 percent vested in a traditional 401(k). We solved this in our company by simply changing the initial eligibility to one full year of service.

If you have any questions, give us a call at 972-888-0950.