To many, the 401(k) safe harbor was already attractive, and now the IRS has made it easier for plan sponsors to utilize safe harbor plan features. As you may recall, safe harbor plans automatically pass ADP/ACP discrimination testing, eliminating the need for annual testing. A safe harbor plan must contain one of two basic safe harbor plan designs: a 3% of compensation employer contribution or a 100% matching contribution on the first 3% of compensation deferred and a 50% match on the next 2% deferred (or something more generous). These safe harbor contributions must be immediately 100% vested and are subject to the distribution restrictions imposed on all 401(k) deferrals.

In Notice 2000-3, the IRS increased employers' ability to switch into and out of a safe harbor design and simplified the safe harbor notice requirements. The notice also clarifies some administrative matters, such as calculation of safe harbor matching contributions by payroll period.

Current Year Plan Changes

A plan that uses the current year ADP (and, if applicable, ACP) testing method can adopt an employer-minimum (3% of compensation) safe harbor provision as late as 30 days before plan year end. To do so, the plan must give notice before the plan year begins that it might choose the 3% safe harbor during the year. If the employer decides to provide a safe harbor contribution, the plan must give a supplemental notice at least 30 days before plan year end. The supplemental notice must inform eligible employees that the minimum contribution will be made. The supplemental notice may be combined with an advance notice of a similar plan design for the following plan year. This gives a plan the flexibility to provide advance notice each year of the possibility of a minimum contribution, but to exercise the option only as needed.

A plan using the employer matching contribution (100% match on first 3% and 50% on next 2% of deferrals) safe harbor may adopt an amendment reducing or eliminating employer matches for the current plan year, provided the plan gives employees 30 days' advance notice of the change and an opportunity to change their deferrals and after-tax contributions. The amendment must also provide that the plan will meet the ADP and ACP tests for the entire plan year using the current year testing method.

An existing plan may add a 401(k) feature during the plan year and use a safe harbor for that year. To qualify, the 401(k) feature must be in place at least three months before plan year end and satisfy the safe harbor requirements from its effective date to the end of the plan year.

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Payroll Period Matching

A sponsor using the employer-match safe harbor now may use a "payroll period method" to match on a payroll-by-payroll, monthly, or quarterly basis instead of an annual basis. The provision must, of course, be specified in the plan document. The sponsor must match contributions from all payroll periods in the plan year. Matching contributions for elective or employee contributions made during a plan quarter must be made no later than the last day of the following plan quarter, beginning with quarters after May 1, 2000.

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Rounded Deferrals and Contribution Suspensions

A plan now may require employees to make elective deferrals in whole percentage points or whole dollar amounts. A plan may also suspend after-tax contributions by an employee for up to 12 months following an in-service withdrawal.

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The IRS has liberalized the safe harbor notice requirements. Instead of reiterating items that are in the summary plan description, a notice may refer to an up-to-date summary plan description given to an employee previously or concurrently with the notice. The short form notice must describe the safe harbor formula that is to be used, state that the safe harbor contributions and 401(k) deferrals are fully vested when made, and provide information regarding how and when to make 401(k) deferral elections. The short form notice must also provide information regarding how participants may obtain further information about the plan. A plan may provide the safe harbor notice electronically. As with all electronic notices, the safe harbor notice must be as clear as a paper notice, and the employee must be able to request a paper copy of the notice.

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All sponsors of tax-qualified retirement plans must amend their plans to incorporate tax law changes under the Uruguay Round Agreements Act, the Uniformed Services Employment and Reemployment Rights Act of 1994, the Small Business Jobs Protection Act of 1996 and the Taxpayer Relief Act of 1997.

Collectively, these required amendments have become known as the "GUST" amendments. Although the IRS has not yet opened its GUST review program for individually designed plans, it has finally begun reviewing prototype and volume submitter plans and has set a December 31, 2000 deadline for submission of those plans for review. What does this mean for employers who adopt prototype and volume submitter plans?

Currently, a plan sponsor has until the last day of the plan year beginning on or after January 1, 2000 to request a determination letter on its plan. Because of the late start on reviews, however, the IRS will extend the GUST remedial amendment period for employers who adopt prototype or volume submitter plans, provided certain conditions are met. Adopting employers will have 12 months after a GUST opinion or advisory letter has been issued to the prototype or volume submitter specimen plan sponsor to adopt the approved plan. Additional discretionary extensions may be granted if the IRS finds that a sponsor needs more time for employers to adopt its GUST-approved plan.

To take advantage of the extension, an employer must satisfy each of the following conditions:

1. The prototype or volume submitter specimen plan sponsor must submit its plan to the IRS no later than December 31, 2000;
2. Before the last day of the 2000 plan year, the employer must either adopt any version of the prototype or volume submitter plan, or the employer and the prototype or volume submitter plan sponsor must certify in writing that the employer intends to restate its plan using the GUST-approved version of the prototype or volume submitter plan; and
3. By the extended deadline, the employer must adopt the GUST-approved prototype or volume submitter plan or adopt another GUST plan (including an individually designed plan), and request a determination letter if required for reliance on the sponsor's opinion letter.

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Who is a Highly Compensated Employee in 2000?

You may have heard that, effective January 1, 2000, the IRS increased the compensation threshold for determining highly compensated employees' ("HCE") status from $80,000 to $85,000. What the IRS subsequently has made clear, however, is that while the new compensation limit is technically effective in 2000, in most cases it will not apply for purposes of determining who is an HCE for plan years beginning in 2000. The Internal Revenue Code generally defines an HCE as any employee who, for the preceding year, earned in excess of $80,000 ($85,000 as of January 1, 2000). Accordingly, in determining who is an HCE for a particular plan year (the "determination year"), an employer must base its determination on the 12-month period immediately preceding the determination year (the "look-back year"). Because the compensation limit remains $80,000 for the 1999 look-back year, the new HCE limit will not take effect for most employers until the 2001 determination year.

However, under certain circumstances, the increased compensation limit will take effect for plan years beginning in 2000. If an employer who sponsors a plan with a non-calendar plan year beginning in 2000 makes an election to use calendar year data in determining HCE status, the increased compensation limit of $85,000 will apply for the 2000 plan year.

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Getting a Handle on 401(k) Fees

Americans have over $1 trillion invested in 401(k) plans. How can plan sponsors ensure that fees and expenses won't crack participants' retirement nest eggs? The Department of Labor has joined with the American Bankers Association, the American Council of Life Insurance and the Investment Company Institute to produce new tools to track 401(k) fees and costs. Just in time! The Labor Department has begun auditing whether plan sponsors have considered 401(k) fees in selecting plan service and investment providers. Completion and analysis of the two forms described below can help a plan sponsor demonstrate its due diligence in selecting its 401(k) service providers. (Remember to keep a copy of the fee analysis in the plan files.)

The 401(k) Plan Fee Disclosure Form helps employers make cost-effective decisions and compare the investment fees and administrative costs of competing plan service providers. It includes an overview of the form and how fees are calculated, a schedule that can be used to summarize total plan fees and expenses, along with schedules to track investment fees, plan administration expenses, start-up, conversion and termination expenses.

"A Look at 401(k) Fees for Employers", a new Labor Department pamphlet, highlights the plan operation obligations that employers must meet. It describes the fiduciary standards under federal pension law they must comply with, including the employer's obligation to ensure that 401(k) plan fees are reasonable. The pamphlet contains 10 questions every employer should answer in considering fees and expenses for plan services.

The 401(k) Plan Fee Disclosure Form and "A Look at 401(k) Fees for Employers" are available on the following websites: www.dol.gov/dol/pwba, www.aba.com, www.acli.com or www.ici.org, or by calling the Labor Department at (202) 693-4650 or the American Bankers Association at (800) 338-0626.

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