- IRS Issues Final Rules on Mid-Year Suspension or Reduction of Safe Harbor 401(k) Plan Nonelective and Matching Contributions
- November 22, 2013
- Law Firm: Troutman Sanders LLP - Atlanta Office
On November 14, 2013, the Internal Revenue Service (IRS) issued final regulations addressing an employer's ability to reduce or suspend safe harbor nonelective and matching contributions to 401(k) plans in the middle of a plan year. The regulations soften the requirements for suspension of safe harbor nonelective contributions by changing the business hardship requirements, adding a business hardship requirement for suspension of safe harbor matching contributions and establishing new notice requirements.
Practical and Immediate Considerations
Sponsors of a 401(k) plan that provides a safe harbor nonelective contribution, who want to preserve the option of a mid-year reduction or suspension of the safe harbor nonelective contribution for 2014, will need to comply with new notice requirement prior to the beginning of the 2014 plan year. This notice must be part of the annual safe harbor notice that, for a calendar year plan, may have already been issued as it must be given at least 30 days prior to the beginning of the 2014 plan year.
The new rules for making a mid-year amendment to reduce or suspend safe- harbor matching contributions are effective for plan years beginning on or after January 1, 2015.
Currently, a safe harbor plan must be adopted before the beginning of, and be maintained throughout, a full 12-month plan year. However, regulations allowed an employer to reduce or suspend safe harbor matching contributions mid-year if the following conditions (the "Conditions") were met:
- Participants receive a supplemental notice at least 30 days in advance of the effective date of the change;
- Participants have a reasonable opportunity after receiving the supplemental notice (and before the change is effective) to modify their deferral elections;
- The employer adopts an amendment making the change, effective no earlier than 30 days after the participants receive the supplemental notice;
- The plan passes the ADP and ACP tests (as applicable) for the entire year using full-year testing; and
- The employer satisfies the safe harbor rules (including the obligation to contribute safe harbor contributions) through the date of the amendment.
In 2009, the IRS issued proposed regulations that allowed employers to reduce or suspend safe harbor nonelective contributions mid-year if the Conditions above were met and the employer had incurred a "substantial business hardship" as defined in Internal Revenue Code (the "Code") Section 412(c) (the standard used for an employer applying for a waiver of funding obligations for a defined benefit plan). The factors to determine substantial business hardship included:
- The employer operating at an economic loss;
- Substantial unemployment or underemployment in the trade or business and in the industry concerned;
- Sales and profits of the industry concerned are depressed or declining; and
- A reasonable expectation that the plan will be continued only if the waiver is granted.
Employers commented on these proposed regulations, contending that it was difficult for them to determine whether they met the substantial business hardship standard, and that it did not make sense to have different standards for suspension of safe harbor nonelective and matching contributions. The IRS addressed these comments in the final regulations summarized below.
The Final Regulations
Under the final regulations, an employer may make a mid-year amendment to reduce or suspend a safe harbor contribution, whether a nonelective contribution or a matching contribution, if:
(A) the Conditions noted above are satisfied; and
(i) the employer is "operating at an economic loss" as described in Code section 412(c)(2)(A), or
(ii) the employer provides a notice to participants before the beginning of the plan year, which discloses:
(1) that the contributions might be reduced or suspended mid-year,
(2) that participants will receive a supplemental notice if that occurs, and
(3) that the reduction or suspension will not apply until the later of at least 30 days after the supplemental notice is provided or the date the plan amendment is adopted.
While "operating at an economic loss" is not defined in the final regulations or the regulations under Code Section 412(c), it would seem to mean that a company's financial statements for a given year would show that its expenses exceed its income.
Accordingly, employers wishing to retain the flexibility to make mid-year changes to their safe harbor nonelective contributions even without operating at an economic loss may want to update or supplement their safe harbor notices before 2014 and safe harbor matching contributions before 2015.