Choosing the right retirement plan for your small business is crucial for attracting and retaining talent while ensuring compliance with IRS regulations. Two plans that may be options for small businesses are the SIMPLE 401(k) plan and the safe harbor 401(k) plan.
SIMPLE 401(k)
A SIMPLE 401(k) plan, or “Savings Incentive Match Plan for Employees,” is a type of retirement plan designed for small businesses with 100 or fewer employees who earned $5,000 or more in compensation the preceding year and that do not maintain another employer-sponsored retirement plan. With a SIMPLE 401(k), the employer makes either (i) a nonelective contribution to the plan equal to 2% of compensation for each employee who was eligible to defer under the plan or (ii) a matching contribution equal to 100% of each employee’s deferrals up to 3% of compensation. If an employer adopts a SIMPLE 401(k) plan when it is a small business and then grows into a larger employer, the rules give the employer a two-year transition period during which the employer will still be treated as eligible to have the plan.
Safe Harbor 401(k) Plan
A safe harbor 401(k) plan offers another simplified way for small businesses to comply with certain IRS requirements while providing benefits to employees. Contributions may be employer matching contributions to only those employees who defer equal to 100% of the first 3% of compensation deferred and 50% of the next 2% of compensation deferred or employer contributions equal to 3% of compensation made on behalf of all eligible employees regardless of whether they make elective deferrals.
SIMPLE 401(k) Versus Safe Harbor 401(k) Plans
It’s important to consider the key differences between the two types of plans because they can impact both employers and employees. While both plans offer immediate vesting and exemption from annual nondiscrimination testing (which could limit contributions for certain highly compensated employees), they differ in terms of contribution limits, catch-up deferrals, and administrative requirements.
- Employee elective deferrals in a SIMPLE 401(k) are limited to $16,000 per year for 2024. This is significantly less than the $23,000 for 2024 limit on deferrals under a safe harbor 401(k) plan. The deferral amounts can and do change annually.
- Employee age 50 catch-up deferrals in a SIMPLE 401(k) plan are limited to $3,500 for 2024, significantly less than the limit on age 50 catch-up deferrals under a safe harbor 401(k) plan, which is $7,500 in 2024. Again, these deferral amounts can and do change annually.
- For a SIMPLE 401(k), the employer must give the required notice at least 60 days (not just 30 days) before the beginning of the plan year whereas with a safe harbor 401(k) matching contribution plan the employer must provide the required notice at least 30 days and not more than 90 days before the beginning of each year. However, if the safe harbor 401(k) plan has a 3% contribution to all employees, there is no annual notice requirement.
Choosing between a SIMPLE 401(k) and a safe harbor 401(k) requires careful consideration of your business’s size, growth potential, and the level of contributions you want to offer your employees. Both plans offer valuable benefits, but understanding the differences in contribution limits, notice requirements, and other key features will help you select the plan that best aligns with your business goals and supports your employees’ retirement savings goals.
