Understanding 415 Safe Harbor compensation is crucial when setting up a retirement plan.
Employers have the option of defining what types of employee pay is eligible for employee 401(k) deferrals and company contributions when designing their plan. While most companies stick with a simple definition of compensation, some employers choose to exclude things like bonuses, commissions, etc. However, choosing to exclude compensation can make year-end compliance tests more difficult.
Safe Harbor 401(k) plans are designed to simplify compliance testing by meeting certain requirements. If an employer adopts the standard definition of compensation that includes all earnings in IRC Section 415(c)(3) then it can avoid certain nondiscrimination tests.
In this guide, we'll explain 415 Safe Harbor compensation, its use, and factors to consider when determining employee compensation. Let's dive in!
415 Safe Harbor compensation includes the employee's total taxable pay. This includes salary deferrals, fees for services, commissions and taxable fringe benefits. 415 compensation is not used for taxes, but is important for 401(k)'s to avoid additional 414(s) compliance tests. Code §415 allows for three variations that automatically pass the 414(s) rules:
Safe Harbor 401(k) plans are designed to automatically pass certain compliance tests, such as the nondiscrimination testing. However, these plans still must pass the top-heavy test. In such cases, 415 Safe Harbor compensation becomes essential in verifying exemptions from nondiscrimination testing, determining key employee status, and calculating any required top-heavy contributions.
When determining the 415 Safe Harbor compensation for your employees, it's crucial to include various elements to ensure accuracy and compliance. Common items include:
Some things should be included in 415 Safe Harbor compensation, but there are also things that should be left out. Below are items that may be excluded:
Properly calculating and recording compensation is crucial to prevent costly corrections later on. Having a trustworthy 401(k) plan administrator is important. They can help you follow the rules of the Employee Retirement Income Security Act (ERISA) and IRS.
A good 401(k) plan administrator will be indispensable in helping you complete the required forms. They will also ensure that all information is accurate from the beginning. This proactive approach can save you time, money, and headaches down the line.
Understanding 415 Safe Harbor compensation is vital for small businesses looking to offer retirement plans to their employees. To follow IRS rules and avoid problems with nondiscrimination testing, include the right parts and leave out certain items.
To understand 415 Safe Harbor compensation and provide your employees with a secure retirement plan, seek assistance from a plan administrator. Start offering a retirement plan for your employees and learn about the benefits of 415 Safe Harbor compensation now!
David Ramirez, CFA, is a recognized 401(k) expert with over 20 years of experience in 401(k), ERISA, cash balance plans, and ESOPs. A UC Berkeley graduate, he played a pivotal role at Financial Engines, a 401(k) advisory firm founded by Nobel Laureate William Sharpe, Ph.D., where he was a portfolio manager who helped manage over $50B in 401(k) assets. His clients included some of the largest Fortune 500 companies and state governments.
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