Change to Plan Establishment Deadline Means More Time for a 2020 Plan
Michelle Freiholtz, MBA
The year 2020 was definitely a year to remember. In the retirement savings industry, the year started with changes brought about by the Setting Every Community Up for Retirement Enhancement (SECURE) Act and the Bipartisan American Miners Act, parts of the Further Consolidated Appropriations Act, 2020 (FCAA), enacted in December 2019. These acts of legislation created many changes in the industry after a long period of little change. Then March ushered in the start of the coronavirus (COVID-19) pandemic, changing how and where employees work, or worse, preventing employees from working. Then came the Families First Coronavirus Response and the Coronavirus Aid, Relief, and Economic Security (CARES) Acts, and focus shifted toward those pieces of legislation.
It’s no surprise that the year 2020 saw many plan sponsors struggle to maintain their plans, and employers without a retirement plan, hold off on starting one. Now, as many employers look to close their tax year, the goal of establishing a retirement plan for 2020 may be something closer to the front of their minds. Fortunately, the SECURE Act changed the deadline for employers to adopt a plan under Internal Revenue Code Section 401(a).
Deadline for Starting a Plan Changed But Not for Deferrals
Under the pre-SECURE rules, it would now be too late to establish a plan for 2020, as employers had until the last day of their business’ taxable year to adopt a qualified retirement plan for the year. Effective for tax years 2020 and beyond, employers generally have until their business’ tax return deadline, including applicable extensions, to adopt a plan and elect to have it treated as having been adopted by the last day of that tax year. A defined benefit plan sponsor has until before its funding deadline to establish a plan, which is 8½ months after the end of the plan year. This gives employers more time to adopt a plan for a given tax year.
Although the deadline to establish a plan has changed, some things didn’t change. Elective deferral contributions are still a prospective contribution election; they cannot be made on compensation the participant has constructively received and can only be made on compensation made available after the adoption of the plan, according to Treasury Regulation 1.401(k)-1(a)(3)(iii). Simply put, if the plan isn’t in place before the end of the plan year, there is not an opportunity to make deferral contributions.
Notice and Deadlines for Electing ADP Safe Harbor Changed
An actual deferral percentage (ADP) safe harbor 401(k) plan is one that, after meeting specific notice and employer contribution requirements, is deemed to pass one or more nondiscrimination tests. This allows the plan’s highly compensated employees (HCEs) to maximize their contributions without the limitations that might otherwise be imposed by having to satisfy these nondiscrimination tests.
In general, employer contributions that meet safe harbor requirements can be of either a matching or nonelective nature. But the SECURE Act changed the notice and deadline requirements for establishing an ADP safe harbor plan that uses the nonelective contribution option. Under such a plan, the employer makes a nonelective contribution to eligible participants based on their compensation. This contribution is not dependent on whether an employee makes deferral contributions into the plan.
Prior to the SECURE Act, a 401(k) plan could not adopt safe harbor features during a given year unless a notice was given to participants before the start of that year, indicating that adoption of safe harbor provisions during that year was a possibility. The SECURE Act eliminated this prior notice requirement if the employer safe harbor contribution chosen by the employer is of the nonelective type. Perhaps the reason for eliminating the requirement is because nonelective contributions are not contingent upon employee contributions. Thus, a 401(k) plan with nonelective employer contributions may adopt safe harbor status—without prior notice—not only during a plan year (three percent nonelective employer contribution), but after the close of a plan year (four percent nonelective contribution).
The SECURE Act did not, however, change the requirement that safe harbor status is not available for a year unless deferrals are allowed for at least the last three months of the plan year. This means that if a plan is established after the close of the plan year, the plan cannot be considered a safe harbor plan for that first year.
More Time to Set Up Plan But Don’t Wait Too Long
Making the decision and taking action to establish a retirement plan should not be left until the deadline is just around the corner. After all, the new plan establishment deadline did not extend employer contribution deposit deadlines; plan sponsors must still make their deposits and claim any deductions by their tax return due date, plus applicable extensions, to avoid potential operational failures. As such, it’s worth noting that the deadline to sign a plan document is now the same deadline to fund the plan’s employer contributions.
As the deadline approaches, recordkeepers, document providers, and other service providers may see an influx of potential clients requesting to establish a plan. And, though business processes are becoming more efficient, the plan establishment process is not instantaneous. Employers who push too close to the deadline may find themselves so late that they are only on time for the next plan year.
