May a safe harbor 401(k) make a discretionary match and avoid ACP testing? Rev. 02/21/08, E-mail Alert 2008-3

Within limits, a safe-harbor plan may make additional non-safe harbor matching contributions without triggering the actual contribution percentage (ACP) test, as long as:

• The discretionary matching contributions do not exceed 4% of compensation,
• The matching contributions are not made on deferrals that exceed 6% of a participant’s  compensation, and
• The rate of match for any HCE is not more than that of any NHCE.
  

Failure to comply with any of these restrictions will require the plan to run an ACP test. It is possible for a plan to be exempt from the ADP test but be required to run the ACP test for failure of any of the above items.

The final 401(k) regulations state that, to remain exempt from ACP testing, all matching contributions must be allocated on a nondiscriminatory basis. Placing an allocation restriction, such as a last-day rule or a 1,000 hours-of-service requirement, on any matching contribution provided by the plan is discriminatory unless all non-highly compensated participants satisfy the restrictions.

Example
A safe harbor 401(k) plan with a 3% qualified safe harbor nonelective contribution (QNEC) and a discretionary match of 50 cents on a dollar up to 6% of deferred compensation will satisfy the actual deferral percentage (ADP) safe harbor test. There are 35 participants. 30 of whom are non-highly compensated employees (NHCEs) while five are highly compensated employees (HCEs). The plan has not made matching contributions in excess of 6% or allocated a discretionary match of more than 4% in total. However, the plan has a last-day and a 1,000 hours-of-service requirement applicable to the discretionary match. Three NHCEs left employment before the last day of the year and although 4 NHCEs were employed on the last day of the year they did not satisfy the 1,000-hours-of-service requirement. All five of the HCEs were employed on the last day of the year and all satisfied the 1000-hours-of-service requirement. All five HCEs would receive a 3% match. Only 23 of the 30 NHCEs would receive a 3% match. The final regulations made clear that this would result in a discriminatory allocation requirement and, thus, the ACP test would be required to be run. The surest way to avoid the ACP test in a safe harbor 401(k) plan is to eliminate allocation requirements on the discretionary match.