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The benefits of a Safe Harbor 401(k) plan.

The creation of the Safe Harbor 401(k) plan significantly benefited business owners. The need for annual IRS nondiscrimination tests that may limit contributions by highly compensated employees (HCEs) were eliminated with the advent of the Safe Harbor 401(k) plan. The benefits of a Safe Harbor-plan design include the elimination of compliance testing and increased retirement, salary deferral and tax planning for owners.

As a businessowner or highly compensated employee with decision-making authority, you should consider a Safe Harbor 401(k) plan design if your company has any of the following characteristics: a plan that routinely fails the tests for actual deferral percentage and average contribution percentage (ADP/ACP); a large percentage of highly compensated employees; or a top-heavy plan with low participation rates.

In a traditional 401(k) plan, the ability of owners, executives and highly compensated individuals to defer compensation to the plan is limited by the amount the non-highly compensated employees (NHCEs) defer. In a Safe Harbor 401(k) plan, the limitation is waived, allowing owners, executives and highly compensated individuals to defer up to the maximum salary amounts.

In exchange for these benefits to owners and highly compensated key employees, Safe Harbor-plan designs require fully-vested minimum "employer" contributions for all non-highly compensated employees who make or are eligible to make elective deferrals.

These minimum contributions may be made in the form of elective matching contributions to all participating employees or a flat contribution to all eligible employees. The Elective Employer Safe Harbor matching contribution is dollar for dollar on the first 3 percent deferred by each non-HCE and 50 percent on the dollar for the next 2 percent deferred, for a total of 4 percent or 5 percent of employee deferrals. The other method of contribution is Employer Safe Harbor nonelective contributions of 3 percent of compensation for each non-HCE eligible to make salary deferrals, regardless of participation. These contributions are available for both HCEs and non-HCEs.

To implement any of these ideas, Safe Harbor participant notice must be given to employees before each Safe Harbor plan year, and plan documents must address the Safe Harbor provisions.

Smith Barney does not provide tax or legal advice. Please consult your personal advisors for such guidance. Smith Barney is a division of Citigroup Global Markets Inc., member SIPC.

Scott Butera is a financial consultant with the Honolulu office of Smith Barney and may be reached at 543-0316 or

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Title Annotation:Dollars & Sense
Author:Butera, Scott
Publication:Hawaii Business
Date:Dec 1, 2004
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