Safe Harbor 401k Plan

Safe Harbor 401k Plan

A safe harbor 401k plan is a unique type of retirement plan with two significant differences from a traditional 401k plan.  One, it requires mandatory employer contributions to employee accounts.  Second, it gives an employer an ability to offer a 401k plan to employees without any required discrimination testing.

The Safe Harbor 401k plan permits eligible employees to defer a portion of their salary to their own retirement plan account.  Employers then contribute to the participant’s account on behalf of eligible employees.  And, these employer contributions come in the form of either matching or non-elective amounts.

Safe Harbor 401k Plan Eligibility

Most any type of small business is eligible to establish and maintain a safe harbor 401k plan.  Sole proprietorships, LLC’s, partnerships, and corporations, including S corporations, are examples.

All eligible employees must be allowed to participate in the 401(k). An eligible employee is any one who:

  • is a minimum of 21 years old,
  • has performed one year of service and worked 1,000 hours in the year beginning with the date of hire.
  • Union employees and non-resident aliens without United States income may be excluded from participation in the plan.

One important thing to remember is that an employer may not establish more restrictive requirements than those listed above.  However, employers may set up less restrictive requirements for employee entrance into the safe harbor 401k plan.

Safe Harbor 401k Tax Benefits Tax Advantages

Employer contributions are tax deductible for the employer — up to 25% of compensation of all eligible participants.  Employee elective deferrals are excluded from the employee’s income for Federal Income Tax purposes.  Tax-deferred growth potential is possible — any investment earnings grow tax-deferred until withdrawn.

Vesting

Vesting refers to the participant’s ownership rights in the value of his or her retirement account.  Often, a traditional 401k plan required participants to wait a certain number of years before they can access the employer matching contributions. 

However, a safe harbor 401k is unique in comparison to other types of 401k plans in that all employee and employer safe harbor contributions are fully vested immediately.  There is no waiting period for employees to access the matching contributions made by employers.

Plan Deadline

Generally, the deadline to establish a new plan is anytime between January 1 and October 1 of the applicable year.

Contribution Flexibility

Under a safe-harbor plan, an employer can match each eligible employee’s contribution, dollar for dollar, up to 3% of the employee’s compensation, and 50 cents on the dollar for the employee’s contribution that exceeds 3 percent, but not over 5%, of the employee’s compensation.

Alternatively, employers may make a non-elective contribution equal to 3 percent of compensation to each eligible employee’s account. Non-elective contributions essentially means that contributions are made by employers to employee accounts regardless of employee contributions. 

Plan Compliance Issues

Because of the vested matching contributions required of the employer, the safe harbor 401k does not call for broad discrimination testing.  The safe harbor employer contributions stand in the place of discrimination testing.

Employee Benefits

  • Attracting and retaining key employees is easier with a 401k plan.
  • A 401k plan can help in providing retirement income for eligible employees.
  • Elected Roth contributions are allowed in safe harbor 401k plans.

Early Withdrawal Penalty

A 10% penalty is typically applied to all early distributions on safe harbor 401k plans, as well as traditional 401k plans.  Early distributions are distributions that occur before the age of 59½.

HSA Rules

HSA Rules For Employer Contributions

Health Savings Account Issues for Employers and Employees

HSA Rules For Employer Contributions Must Be Fair for Employees! 

First, and perhaps most importantly, employer need to know that HSA rules require that contributions to employees must be “comparable” for all employees participating in the HSA.  If they are not comparable, or fair in terms of the IRS code, there will be an excise tax equal to 35% of the amount that the employer contributed to employees’ HSA’s.  Comparable contributions are contributions to all HSA’s of an employer, which are:

1.    The same amount, or
2.    Which are the same percentages of the annual deductible.

When it comes to testing for comparability, an employer may only count employees who are “eligible individuals” covered by the employer under the high-deductible health plan and who have the “same category of coverage” (i.e., self-only or family).  No other classifications of employees are currently permitted.

Part-time employees can, and should, be tested separately from full-time employees.  “Part-time” means customarily employed fewer than 30 hours per week.   

Employer matching contributions to the HSA through a cafeteria plan are not subject to the comparability HSA rules, but cafeteria plan non-discrimination rules apply. Non-discrimination rules typically look to make sure that contributions aren’t greater for higher paid employees than they are for lower paid employees.  (However, contributions that favor lower paid employees are generally considered allowable.)  

Employer contributions into employee’s HSA accounts are always excluded from employees’ income (pre-tax), and distributions are tax-free if taken for “qualified medical expenses”, which now includes over-the-counter drugs.

Timing Issues Regarding the Setup of HSA’s 

HSA rules for qualified medical expenses must be incurred on or after the account was established. If the high-deductible health plan coverage becomes effective on first day of the month, the HSA can be established as early as first day of same month.  Conversely, if the high-deductible health insurance coverage is effective any day other than first day of month, HSA cannot be established until first day of following month.  

Can Medically-Related HSA Distributions be Taken for Someone Other than the Owner? 

Tax-free distributions can be taken for qualified medical expenses of the:

  •  Person covered by the high deductible.
  • Spouse of the individual (even if not covered by the high-deductible health plan).
  • Any dependent of the individual (even if not covered by the high-deductible health plan).

How Much Tax Do I Pay if my Distribution is not Used for Qualified Medical Expenses? 

If an account distribution is not used for qualified medical expenses, the amount of the distribution is included in taxable income for 1040 Federal Tax purposes, and an additional 10% tax is applied except when taken after:

  • Individual dies or becomes disabled, or
  • Individual is age 65.

“Qualified medical expenses” do not include other health insurance (including premiums for dental or vision care).  The exception to these HSA rules include:

  • COBRA continuation coverage.
  • Any health plan coverage while receiving unemployment compensation.
  • For individuals enrolled in Medicare: Medicare premiums and out-of-pocket expenses (Part A, Part B, Medicare HMOs, and prescription drug coverage).
  • The employee’s share of premiums for employer-based coverage.
  • Cannot pay Medigap premiums.
  • Qualified long-term care insurance premiums.

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Should the HSA account holder keep receipts?

YES!  Here is why:

  • The account-owner may need to prove to IRS that distributions from an HSA were for medical expenses and not otherwise reimbursed, and
  • He or she may be required by an insurance company to prove that a high-deductible health plan deductible was met.

Not all medical expenses paid out of the HSA have to be charged against the deductible (e.g. dental care, vision care), and health savings account distributions can be used to reimburse prior years’ expenses as long as they were incurred on or after the date the HSA was established.  There is no time limit on when a distribution must occur, but the individual must keep sufficient records to prove that:

  • the expenses were incurred,
  • they were not paid for or reimbursed by another source, or
  • they were taken as an itemized deduction on a previous tax return.

Mistaken HSA distributions can be returned to the HSA. It should be noted that clear and convincing evidence must be shown that the distribution was a mistake of fact.

The original distribution must be repaid by April 15 of the year following the year in which the individual knew or should have known the distribution was a mistake.

What happens to an HSA when the HSA owner dies? 

If the spouse is the beneficiary of the health savings account, the spouse inheriting the HSA is treated as the owner.  To the extent the spouse is not the beneficiary, the account will no longer be treated as an HSA upon the death of the individual. 

The account will then become taxable to the decedent in the decedent’s final tax return if the estate is the beneficiary, otherwise, it will be taxable to the recipient.

The taxable amount will be reduced by any qualified medical expenses incurred by the deceased individual before his or her death and paid by the recipient of the account.  Also, the taxable amount will be reduced by the amount of estate tax paid due to inclusion of the HSA into the deceased individual’s estate.

HSA Rules: Who Owns the HSA?  The Employer?  The Individual? 

Accounts are owned by the individual (not an employer). The individual decides:

  • Whether he or she should contribute,
  • How much to use for medical expenses,
  • Which medical expenses to pay from the account,
  • Whether to pay for medical expenses from the account or save the account for future use,
  • Which company will hold the account,
  • What type of investments to grow account,

The employer cannot restrict:

The health savings account custodian or trustee can put reasonable limits on accessing the money in the account because of:

  • Frequency of distributions, or
  • The size of the distributions.

Who can be an HSA Trustee or Custodian?

  • Banks,
  • Credit unions,
  • Insurance companies,
  • Entities already approved by the IRS to be an IRA or Archer MSA trustee or custodian,
  • Other entities can apply to the IRS to be approved as a non-bank trustee or custodian.

Trustee, investment, or custodian fees can be paid from the assets in the HSA account without being subject to tax or penalty.

There are no “use-it-or-lose-it rules” like Flexible Spending Arrangements (FSAs).  All amounts in the HSA are fully vested.

Unspent balances in accounts remain in the account until spent.  In this, HSA’s encourages account holders to spend their funds more wisely on their medical care without the “use-it-or-lose-it” hurdles.  HSA’s also encourage account holders to shop around for the best value for their health care dollars.

  • Accounts can grow through investment earnings, just like an IRA. Same investment options and investment limitations as with IRAs.
  • Same restrictions on self-dealing as with IRAs.
Using 401k For Down Payment On House

Using 401k For Down Payment – Is It Right For You?

After adding money to your 401k plan over several years, you may have built up a lot of money inside your 401k accounts. These accounts could be a desirable supply of funds for investing in a home. Nevertheless, there tend to be rules as well as restrictions upon withdrawals from the 401k accounts. Fortunately, there may be a way for you to make use of the money within your 401k plan. One great way is using 401k for down payment.

Some 401k programs allow participants to consider a loan from the funds inside the 401k. Usually, the 401k plan will limit the quantity of the loan to some certain percentage from the total balance. This implies that you cannot borrow all the money inside your plan, are just some of it. Nevertheless, this quantity may be significant enough to become useful for the long-term objectives.

Borrowing From 401k Plan

Using 401k For Down Payment Fidelity

Here’s a screenshot showing what loans you have available through your 401k plan if you’re using Fidelity.

When a person borrow money from the 401k plan, you borrow the cash from yourself. In additional words, the money is withdrawn out of your account as well as distributed for you.  That means there isn’t a credit check as well as your credit score doesn’t impact in your loan rate of interest.  This is because, there isn’t any risk in order to any lender.  You are repaying yourself. Actually, the curiosity you pay about the loan goes straight into your personal 401k accounts.  It does not go into any financial institution or loan provider.

Be Aware Of The Rules When Using 401k For Down Payment

However, it doesn’t mean you are able to control how so when you pay back the mortgage. The INTERNAL REVENUE SERVICE has requirements that must definitely be met concerning 401k financial loans. As this kind of, the plan may have a set rate of interest that you need to pay whenever you repay the actual loan. Additionally, you should make well-timed, regular obligations, just like every other loan. Usually, most 401k programs require that you simply make regular monthly obligations to be able to fulfill this particular requirement. Check out our 401k calculator to see the impact loans can have on future earnings.

When using 401k for down payment you need to be aware of possible negative situations that may arise.  It is necessary that a person make your own 401k program loan obligations. While you will find no lenders involved, and therefore there isn’t any damage for your credit score or credit history, there could be substantial taxes repercussions with regard to failing to settle the mortgage as decided. Any mortgage principal that isn’t repaid is recognized as a distribution through the IRS. Which means that the entire amount associated with any delinquent loan stability is taxable because ordinary earnings. Even worse, if you’re under grow older 59 1/2, then your distribution is going to be considered an earlier distribution and could be susceptible to a 10 % tax fee.

“Using 401k For Down Payment Does Have Its Advantages!”

I would advice against using 401k for down payment, if you already have the cash sitting around.  Otherwise, the advantages of using 401k for down payment to purchase a house are extremely advantageous to many people. Nevertheless, it is essential to realize that though it is financing to yourself, it continues to be an actual loan, also it must end up being repaid. If you’re able to do do that, then borrowing using 401k for down payment can be a smart method to finance your house purchase.

 

 

Retirement Income – Your 7 Sources

Retirement Income

Retirement income – What are the main 7 sources for retirement income? I’ll explain the differences between the different sources of retirement income so you can better plan for your future.

1. Welfare or Charity

While most people would never like to picture themselves having to be put on welfare. There is a reality of poor planning that could result in the dependency of money from charity. Frequently, I see churches and family members asking to raise funds immediately after an unexpected death of a loved one. One of the easiest things to do to prevent the need to rely on others is to have enough life insurance for both you and your spouse.

Retirement Income – Your 7 Sources Continued Employment

2. Continued Employment

So you’re now 62 or 65 or even 67… what’s next? You may realize that you do not have enough income to cover your bills which could include the mortgage, the car payment, and other necessary bills. So one option would be to continue to work. I guess if you enjoyed your full time job, then this would not be an issue. Unfortunately, a majority of the population at the age of 65 are tired of working for their past 40 yrs. Don’t forget that health issues could really be the number one determining factor on whether you can continue to work.

3. Non Qualified Assets or Mutual Funds

Non qualified assets are things that have already been taxed. This could include your savings account, monies in your CD’s, your stocks and mutual funds purchases made from after taxed dollars. How long you can live off of your non qualified assets depends on the size of your account and your monthly living expenses.

4. Roth IRA

Roth IRA‘s can be great source of income in addition to your other qualified accounts. The best thing about Roth IRA’s is the fact that you can take future income distributions without having to pay any taxes. Depending on how well the account is managed and grows, this could provide much more retirement income especially when you do not have to pay taxes.

5. Traditional IRA

Traditional IRA are just another form of qualified accounts. Chances are if you had an old 401k and did a rollover, it would have been rolled into a traditional IRA. I would say a majority of retirement accounts are qualified accounts in the form of a 401k or traditional IRA.

Retirement Income – Your 7 Sources 401k

6. Qualified Plans

Anything that allows you to contribute on a pretax basis could be considered a qualified plan when it comes to retirement. A 401k is the most common through payroll deduction. Others could include a 403B or tax sheltered annuities. Pensions and annuities are great forms of retirement income because of the predictive nature of the investment. It only makes sense to have a stable and predictable form of income each month once your do plan to retire.

7. Social Security

For current seniors, this is the most anticipated form of retirement income. In 1960, for every retired senior taking social security benefits, there were more than 50 workers paying in. They predict that 20 years from today, there will only be 3 workers paying into social security for every retiree.

Retirement Income Conclusion

More sources of retirement income is always better than just one. Can we solely depend on social security for your retirement? I don’t think so. It’s impossible to expect your social security benefits to pay you more than what you were earning during your working years. With a sensible investment strategy and having your mortgage paid off can really help increase your income at retirement.

Get More Information On 401k Contribution Limits 2017

Is A 401k Rollover Worth It? Pros & Cons

So you’ve recently left your job and wondering what to do with the money you’ve been saving while you were working for your company. Well, now that you have left, the rules for your retirement plan have changed substantially. Here are the pros and the cons of keeping money in your 401k plan as opposed to doing a 401k rollover into an IRA:

The Pros About a 401k Rollover

– Usually as long as you have over $5,000 in your plan you will not be forced out and can keep you assets in your former employers plan.

– You can make fund transfers at any time for little to no cost between the investment options.

The Cons About a 401k Rollover

– You cannot make a 401k contribution to this plan anymore and cannot take any loans from the plan.

– You are stuck with the investments the plan offers.

– The plan can change it’s rules, investment options, and even the investment company they work with, which means it’s ever changing and you are the mercy of your former company’s decisions.

– You can take partial withdrawals, however the IRS mandates at least 20% federal tax withholding on any 401k withdrawals.

– Some plans start charging fees once you leave the plan.

– The 401k plan is fully self directed meaning that you get no advice on where to move your money and nobody is legally able to give you specific 401k investment advice.

– The 401k is not FDIC insured. If you do not know enough about how this effects your retirement assets do some research on FDIC vs. SIPC coverage and how it effects investments. I will also make a post later regarding this.

You may still have further questions about a 401k rollover before you make a decision. Our article “401k After Changing or Losing Jobs – What Now?” , goes into detail about the fees and penalties associated with 401k withdrawals.

401k Withdrawals

401k Withdrawals After Changing Jobs – What Now?

Throughout life we all experience changes. I heard a quote once from a wise man who said “When things are really bad things will change and when things are really good things will change as well.” Change is our lives and we must accept that. Now, what does this have to do with your 401k?

Well, when you hear those words “You’re fired!”, maybe you just get laid off as a large business reduction, or just changing jobs, one of the first things you are going to think about is how are you going to live? Here is where your 401k comes into consideration. Your 401k plan is most likely the largest asset other than your house you currently have and is a lot more liquid than your house, meaning you can get money out of it much easier. *Updates have been made to 401k contribution limits 2017*

However, 401k plans have a lot of rules and taxes come into play once you make the decision that you need to tap into your retirement savings. Before you start making 401k withdrawals ask yourself these questions:

4 Questions to Consider Before 401k Withdrawals

1.) What places can I get money now to supplement my income?
– Well if you were laid off or fired there is a good chance you can get unemployment income to offset what your job couldn’t produce and this will help keep your hands off of your 401k. Also, think about home equity lines of credit or credit cards as well. These are always only short term fixes and should be able to hold you over for a few months. You should always have emergency assets like these planned in case you do lose your job.

2.) Can I cut back on any expenses?
– Would you really keep living the same lifestyle if you were just fired? I highly doubt it. However, you would be surprised how much people don’t really cut back because they see the large 401k balance looming in front of them. Make sure you cut EVERY corner before tapping into your 401k.

3.) What is my income level (tax bracket) going to be for this year?
– Why is this important? Well, if you cannot cut back on expenses and you are maxed out on lines of credit, a 401k distribution may be the one thing preventing you from bankruptcy (in some cases bankruptcy isn’t all that bad, we’ll get to that later). Basically, if you make less money you pay less to Uncle Sam. If you get fired in October, well your income bracket will still be high and it would probably be advisable to wait until January 1 to make your 401k withdrawals. However, if you get fired earlier in the year, you may not get hit too hard by taxes. If you were going to make your 401k withdrawals, that would be the time to do it.

Penalties Explained From 401k Withdrawals

If you take a 401k distribution you will be taxed at your income bracket and there will probably be a 10% early withdrawal penalty. You must keep in consideration that any money you take will be income. For example:

If you made $34,000 for 2011, that puts you into a 15% tax bracket considering you file single. Now with the standard deduction that puts your income at around $29,000 or so. Now, the 25% bracket is for people making $34500 and above. So lets say you make a $10,000 withdrawal from your 401k plan:

First of all, your plan will withhold 20% of the withdrawal for taxes (this is an IRS requirement and cannot be avoided unless you do a Rollover 401k to IRA), which brings your check amount to $8,000 considering there is no mandatory state tax. Now, here is what you actually pay:

There would be $5,500 taxed at 15% – $ 825
Now, since extra $4,500 put you above the 15% bracket, that is taxed at 25% – $ 1125
And there will be that 10% penalty on the full withdrawal amount of $10,000 – $ 1000

So, in this scenario, to get $10,000 you are having to give the IRS $2,950 of your hard earned money. This isn’t even looking at state taxes, this is only federal. That is 29.5% of your hard earned money that is gone, never to be seen again.

401k Rollover to IRA

4.) What are my 401k plan rules?

– Does your 401k plan actually allow you to take partial withdrawals or do you have to take out the full balance? All plans have different rules and a lot of plans don’t even allow partial withdrawals. They surely won’t offer a loan because you aren’t working for the company anymore. So, what is your next best alternative? Initiate a 401k rollover to an IRA and use the rollover IRA to take partial withdrawals from.

Most investment firms offer free IRAs or you can go to your local bank and put your money in a money market IRA. Also, rollover IRA accounts do not restrict you on the amount of partial withdrawals you can make and there is no mandatory 20% federal tax withholding on 401k withdrawals, so it may be a better option depending on your circumstances. Also, you can usually do a 401k rollover and then rollover the money from the IRA account into your new companies 401k when you find that job.

Use our 401k Calculator to see negative effects of taking money from your 401k plan have on your long term future.