On May 18, 2009, the Internal Revenue Service (IRS) issued proposed regulations that would permit sponsors of Code §§401(k), 401(m) or 403(b) safe harbor retirement plans who experience a “substantial business hardship” to suspend or reduce safe harbor nonelective contributions mid-plan year, rather than terminating such plans. These proposed regulations mirror existing regulations that currently allow sponsors of safe harbor matching plans to suspend or reduce matching contributions in lieu of terminating the plan, and a brief summary of the key points of the proposed regulations follows.
Generally, plans maintained under Code §§401(k) and 401(m), and certain contributions under Code §403(b) plans, must meet certain nondiscrimination requirements in order to maintain their favorable tax status. One way to meet these requirements is through the use of a safe harbor design alternative provided for in the Code and accompanying regulations. Subject to certain exceptions, under the Code §§401(k) and 401(m) regulations, a safe harbor plan must be adopted before the beginning of the plan year, and be maintained throughout a full 12-month period. As discussed briefly above, one such exception permits an employer to terminate a safe harbor plan or suspend or reduce safe harbor matching contributions under certain circumstances, but, until the issuance of these proposed regulations, there was no similar exception for safe harbor nonelective contributions.
Under the proposed regulations, a plan sponsor may amend its safe harbor plan to suspend or reduce safe harbor nonelective contributions during a plan year if it incurs a “substantial business hardship.” Whether a “substantial business hardship” occurs depends on a number of factors, including whether the employer is operating at an economic loss, whether there is substantial un- or underemployment, or declining sales and profits in the employer’s industry, and whether it is reasonable to expect that the plan will be continued only after the planned reduction or suspension of contributions.
If there is a substantial business hardship, a plan sponsor may suspend or reduce safe harbor nonelective contributions during the plan year, but will be required to comply with certain notice and timing requirements, including the adoption of a plan amendment and notice to eligible employees at least thirty (30) days prior to the suspension or reduction of contributions. Accordingly, plan sponsors should not wait until the end of the plan year to implement this change.
The notice requirement will be satisfied if each eligible employee is given a notice that explains: (1) the consequences of the amendment reducing or suspending future safe harbor nonelective contributions; (2) the procedures for changing the employee’s pre-tax deferral elections and employee contributions, if applicable; and (3) the effective date of the amendment.
In addition, any eligible employees must be given a reasonable opportunity (and a reasonable period of time after receipt of the notice) to adjust their pre-tax deferral elections and employee contributions, if applicable. Further, the plan must satisfy the safe harbor nonelective contribution requirements for the portion of the year through the effective date of the amendment, and must satisfy the ADP and ACP tests using the current year testing method for the entire plan year. The preamble to the proposed regulations also indicates that, following such amendment, the plan will no longer be exempt from top-heavy testing and minimum contribution requirements.
The proposed regulations (click the "Download PDF" link to the left to read more) are effective for plan amendments adopted after May 18, 2009, and employers may rely on these proposed regulations until the issuance of final regulations later this year.
If you have any questions about the proposed regulations, please contact one of our Employee Benefits lawyers.
