What if a plan sponsor fails to provide a 401(k) safe harbor notice?
Rev. 08/07/09; E-mail Alert 2009-12

An employer that sponsors a safe harbor 401(k) plan is required to provide eligible employees with an annual written safe harbor 401(k) notice.  The notice must be provided within a reasonable time before each plan year. A reasonable time is deemed to be satisfied if the notice is provided at least 30 days and no more than 90 days before the beginning of each plan year.  Newly eligible employees must receive a notice prior to their eligibility date.  For more information on the safe harbor notice itself, click here (and scroll down to safe harbor notice requirements).

What happens if a plan does not provide the safe harbor notice to an individual or for all individuals for a year? The IRS has made it clear that nonetheless the safe harbor contribution must be made and that the plan is still safe harbored from testing, provided the safe harbor contribution is made. How is the failure to provide the notice to be handled? The IRS addressed this question in its Retirement News for Employers newsletter, Fall 2008 edition, page 6. Based on that article, the following examples reflect the IRS recommended handling of the situation when a safe harbor notice is not provided to an eligible employee.

Note that failure to provide the notice may result in the employer having to make corrective contributions to affected participants and revising administrative procedures to eliminate the likelihood of this error occurring again.  It is important for the business to evaluate the impact of failing to provide the notice since the solution could be different for each employee. 

Fact set for the example.
Family Dentistry has maintained a safe harbor 401(k) plan since 2003.  They offer a basic safe harbor matching contribution on a payroll basis.  The plan administrator provides a safe harbor notice to all eligible employees each October, and new hires are provided with a notice prior to becoming eligible for the plan.  In early 2009, the employer learned that the plan administrator failed to distribute the required safe harbor notice to all employees near the end of 2007 (that would have notified the employees that the plan was a safe harbor plan in 2008).  It was also discovered that a new hire in 2008 was not given a safe harbor notice prior to becoming eligible for the plan.

In this example it can be viewed that the failure to provide Mark with a notice did not prevent him from contributing to the plan. Further, he was informed of how he could raise his elective deferrals to maximize his matching contributions.  Accordingly, a corrective contribution would not be required.  Nonetheless, the administrative procedures should be reviewed and enhanced to ensure that the notices are distributed each year that the plan is a safe harbor 401(k) in the future.

Example 2
June became eligible for the plan on February 3, 2008.  She was not provided with a safe harbor notice, and was not aware of existence of the retirement plan.  After receiving a safe harbor notice for the 2009 plan year (in November of 2008), she mentioned to the office manager that she would have contributed to the plan in 2008 had she known about it.  To correct this type of failure, Family Dentistry must make a corrective contribution to make up for missed deferrals and missed matching contributions since she was excluded from the plan. 

IRS Correction for Missed Deferral Opportunity in a Safe Harbor Match Plan (quoted from article, source is RP 2008-50)

“If an employee is not provided with the opportunity to elect and make elective deferrals to a safe harbor §401(k) plan that uses a rate of matching contributions to satisfy the safe harbor requirements of §401(k)(12), then the missed deferral is deemed equal to the greater of 3% of compensation or the maximum deferral percentage for which the employer provides a matching contribution rate that is at least as favorable as 100% of the elective deferral made by the employee.” 

Thus, in this example the corrective contribution required to replace a missed deferral opportunity is 50% of the missed deferral.  June’s missed deferral is based on 3% of her 2008 compensation of $70,000, or $2,100.  Her missed deferral opportunity is 50% of her missed deferral of $2,100, or $1,050 (this needs to be adjusted for earnings).  If June had made elective deferrals totaling $2,100, her matching contribution would have been $2,100.  In this scenario Family Dentistry would also need to contribute $2,100 (adjusted for earnings) to replace the missed matching contributions.  The total amount of corrective contributions for June is $3,150 (adjusted for earnings).

• Review the elective deferral rates for eligible plan participants.  Many participants not deferring or a high amount of participants deferring an amount below the rate needed to receive a maximum matching contribution could be a sign that participants are not aware of the safe harbor provisions.
• Verify the plan’s procedures for issuing notices.  Lack of procedures could indicate none are in place and the notice requirements are being overlooked.
• Check plan records and annual checklists to ensure the annual notice requirement has been satisfied.  If the checklist or procedures are not found, the employer should be advised to establish such procedures and maintain a calendar to track the due dates for various plan tasks.

DOL Civil Penalty for Failure to Provide Disclosures
As was illustrated above, the failure to provide a safe harbor notice can be quite costly to an employer.  In addition to the possibility of having to make corrective contributions to plan participants, recent DOL regulations have imposed strict penalties for failure to provide disclosures, such as the automatic contribution notice. This could affect a Qualified Automatic Contribution Arrangement (QACA) which is a type of safe harbor plan. On January 2, 2009, the Department of Labor issued final regulations under section 502(c)(4) of ERISA permitting the Secretary of Labor to assess civil penalties of not more than $1,000 per day for failing to provide certain notices, including automatic contribution notices.

Bill Grossman, ERPA, QPA