The IRS has issued new guidance giving sponsors of Safe Harbor 401(k) plans much greater flexibility to amend their plans during a plan year. This is welcome relief from the previous IRS position that had hobbled such plans. This loosening of amendment restrictions, coupled with last year’s guidance allowing easier correction methods for 401(k) plans, especially those with auto-enrollment, makes it seem that the IRS is on a campaign to make plans that offer automatic enrollment and a guaranteed employer contribution more attractive to employers. Employers who recently restated their Safe Harbor plans effective Jan. 1, and thought that they had missed the opportunity to add a new feature until 2017, may also want to take advantage of this new guidance.
Safe Harbor Plans and the Plan Year Requirement
Safe Harbor 401(k) plans are exempt from the usual nondiscrimination testing (ADP/ACP tests) because they provide all participants with a vested minimum matching contribution or a flat 3% employer contribution. Safe Harbor plans must also provide a notice (describing the plan’s available contributions and other features) to all eligible employees before the plan year begins and maintain the safe harbor features for the full plan year. The IRS had previously taken the position that these requirements restricted the plan’s ability to adopt most discretionary amendments during the plan year. The exact scope of the IRS position was not clear, but it seemed to apply even to minor and administrative changes. For example, the IRS in Notice 2014-37 felt it necessary to clarify that it was not a violation of this rule to adopt an amendment to the definition of “spouse” in order to comply with the Supreme Court’s Windsor decision requiring the recognition of same-sex marriages under federal law.
New Flexibility to Make Mid-Year Changes
The new guidance completely changes the IRS outlook and provides ample flexibility for most changes, except those mid-year amendments that make the plan less beneficial to employees. Essentially the guidance sets up four categories of amendments, with some helpful examples of permitted and prohibited amendments.
- The first and most important category involves changes that affect the information that is provided in the annual notice. This would include changes to eligibility, the vesting schedule for non-safe harbor contributions, distribution options, and default investments, and increases to the safe harbor match or employer contribution. The new guidance permits mid-year changes if an updated notice is provided at least 30 days before the effective date of the amendment, and participants have an opportunity to change their elections. Amendments may also be made retroactively if notice is given within 30 days after the amendment is adopted. The examples in the IRS Notice show that employers will have broad flexibility to modify the plan mid-year in ways that the IRS had previously denied.
- In the second category are changes that do not change the information in the annual notice, and do not fall into any of the restricted categories described below. These changes can be made at any time with no special notice to employees. This category would include administrative amendments such as changing trustees, restating the plan document with a new provider without substantive changes, or making a corrective amendment. Many practitioners thought that the IRS would allow these changes before, and the guidance confirms it.
- The third category covers reductions in safe harbor contributions. Here the new guidance does not change the existing regulations, which generally require adverse business conditions or the plan’s having reserved the right to change the contribution and described that right in the annual notice.
- The final category is a list of certain changes that are still prohibited any time other than at the beginning of a plan year. These include adverse plan design changes, like increasing the vesting schedule for a QACA, changing from one type of Safe Harbor plan to another, narrowing the group of employees eligible for safe harbor contributions, or an increase or addition of discretionary matching contributions.
If you have a Safe Harbor plan and are interested in possibly making mid-year changes, please contact your plan provider or Davis Wright benefits attorney.