For many small businesses
comprised of one or several highly compensated employees, and a few non-highly
compensated employees, the Safe Harbor 401k plan may be the best option if
maximizing contributions is a primary objective. Safe harbor plans effectively
remove the barriers of discrimination testing that limits the amount that can
be contributed for highly compensated employees. However, what if the objective
is to be able to contribute the maximum amount allowable under the tax code?
That’s where a combination safe harbor/profit sharing plan can be the ultimate
solution for maximizing the retirement savings opportunities for business
owners and their highly compensated employees.
How Does a Safe Harbor-Profit Sharing Plan
Work?
A Safe Harbor 401k plan is
a 401k Plan
Alternative for
smaller businesses that seeks to weigh their contributions more heavily to the
owners and/or highly compensated employees. Essentially, the plan requires a
prescribed employer contribution be made on behalf of all employees and they
must be 100 percent vested. With that, employers can skirt the testing for
contributions required of regular 401k plans – otherwise
referred to as a “safe harbor.”
These plans are
well-suited for smaller businesses with less than a half dozen employees which
are weighted more towards the highly compensated. While it’s a significant step
towards increasing their contribution capacity, it still leaves a significant
amount on the table.
Adding an Age-Based Profit Sharing Plan
An age-based profit
sharing plan is generally compared to a defined benefit plan that allows
discretionary contributions. Factors such as age, retirement timeline, and
length of employment are considered as part of the formula for allocating
contributions. So, in businesses where the owners or key employees are
significantly older than the other employees, it can favor the former while not
being discriminatory against the latter. That’s because the contribution amount
is based on projected benefits an employee can expect to receive at retirement.
The closer an employee is to retirement, the higher proportion of employer
contributions he or she can expect to receive.