IRS Finally Sees Reason; Allows Safe Harbor Plans to Make Additional Mid-Year Changes
The IRS, in a Notice released January 29, 2016, seems to have found the light of reason.
Until now, the IRS has firmly stood by its position that mid-year amendments would cause a plan to lose its safe harbor status except in the narrowest of circumstances. For example, the regulations allow an employer operating at an economic loss to adopt a mid-year amendment to prospectively reduce or suspend the safe harbor match without jeopardizing the safe harbor status of the plan during the period before the amendment becomes effective, provided several additional requirements are met. On the other hand, a plan could not be amended mid-year to add loan provisions. Huh.
In Notice 2016-16, however, the IRS has reversed its prior position, now generally allowing mid-year amendments to be made to safe harbor 401(k)/(m) plans, as well as 403(b) plans with safe harbor matching contributions. The Notice first defines a mid-year change as either (i) a change that is first effective during a plan year, but not as of the beginning of that year; or (ii) a change that is effective as of the beginning of a plan year, but is adopted after the beginning of that year.
The Notice provides that, unless specifically prohibited in the Notice or otherwise, mid-year changes made on or after January 29, 2016, are permitted as long as certain notice and election requirements are met. The notice and election requirements are summarized as follows:
- Updated Safe Harbor Notice. If a mid-year change is adopted, the employer generally must provide employees an updated safe harbor notice that describes the change and its effective date. The updated notice generally should be provided 30 – 90 days before the effective date of the change, unless advance timing is not practicable (for example, if the amendment is retroactively effective). In an act of sheer generosity, the Notice further provides that an updated safe harbor notice is not required if the changed provision is not legally required to be included in a safe harbor notice, even if it was included in the original notice.
- Opportunity to Change Deferral Election. In connection with a mid-year change, each employee required to receive an updated safe harbor notice must also be given an opportunity to change his or her deferral election. A 30-day election period is deemed reasonable under the Notice, which period generally should begin before the effective date of the change, unless advance notice is not practicable.The Notice explicitly revokes IRS Announcement 2007-59, which included certain limited exceptions to the no mid-year change rules. However, the Notice does not usurp other applicable law, such as the anti-cutback and the anti-abuse provisions contained in the Code and regulations.
- The IRS is also using the Notice to request comments relating to plan sponsors involved in mergers and acquisitions and plans that include an eligible automatic contribution arrangement (EACA). The comment period ends April 28, 2016. My advice, strike while the iron is hot!
- The Notice outlines four specific changes that may not be made mid-year, unless otherwise required by law. The prohibited mid-year changes are summarized as follows: (i) a change to limit the employees eligible to receive safe harbor contributions, unless otherwise permitted with respect to employees who are not already eligible; (ii) a change to the type of safe harbor plan (e.g., from a traditional safe harbor 401(k) to a qualified automatic contribution arrangement (QACA) 401(k) plan); (iii) a change to permit discretionary matching contributions or to otherwise modify (or add) a formula for determining matching contributions if the change increases the match, unless the change is adopted at least three months prior to the end of, and is retroactive to the beginning of, that plan year; and (iv) a change to a QACA to increase the number of years of service required to have a nonforfeitable right to a participant’s QACA contributions. In addition, to the extent that certain regulatory conditions must be met for a mid-year amendment to be made, those regulatory conditions still must be met. For example, the regulatory requirements for changing the plan year continue to apply. The Notice contains several examples applying the liberalized mid-year change rules.
 Note that the regulations do not necessarily support the IRS’s prior position in this regard. Treasury Regulation Section 1.401(k)-3(e), which contains the mid-year change prohibition, applies to “plan provisions that satisfy the safe harbor rules” and states that a safe harbor plan will fail to meet the nondiscrimination requirements if it is amended to change “those provisions” during the plan year. Thus, a literal reading of the regulations would indicate that the only changes to the safe harbor provisions would potentially violate the nondiscrimination rules.
 Note that plan sponsors who adopted mid-year amendments based on the literal reading of the regulations prior to January 29, 2016, get no relief from Notice 2016-6. Such plan sponsors should still prepare to battle Goliath if challenged on review or examination.