A top-heavy 401(k) plan is one where more than 60% of total plan assets sit in the accounts of owners and certain officers (the “key employees”), and the tax code responds by imposing two obligations on the employer: a minimum contribution for non-key employees and a faster vesting schedule for all employer money in the plan. Both kick in for the plan year in which the plan fails the 60% test.
What Makes a 401(k) Top-Heavy
The test runs once a year, using account balances as of the last day of the prior plan year. Every participant is sorted into two groups, and then the balances get compared.
A participant is a key employee if, at any point during the plan year, they fall into one of three buckets:
- Owns more than 5% of the business (family attribution rules can bring someone across this line).
- Owns more than 1% of the business and earned more than $150,000 in compensation. That $150,000 figure is set by statute and does not adjust for inflation.
- Is a corporate officer whose compensation exceeds an inflation-adjusted threshold ($235,000 for the 2026 plan year). No more than 50 employees, or if fewer, the greater of 3 or 10% of the workforce, can be counted as officers for this purpose.1Office of the Law Revision Counsel. 26 USC 416 – Special Rules for Top-Heavy Plans
Everyone else is a non-key employee. Add up the account balances of all key employees. If that sum is more than 60% of the total balances in the plan, the plan is top-heavy for the following year.2Internal Revenue Service. Is My 401(k) Top-Heavy? Because the math uses cumulative balances rather than annual contributions, a plan can tip over even in a year no one adds new money.3Internal Revenue Service. Fixing Common Plan Mistakes – Top-Heavy Errors in Defined Contribution Plans
If you sponsor more than one retirement plan, watch for aggregation. Every plan in which a key employee participates, together with any plan needed to pass nondiscrimination testing, must be combined into a required aggregation group and tested as one. Splitting contributions across separate plans won’t get you out of the test if the IRS says those plans belong together.
The Required Minimum Contribution
Once a plan is top-heavy, the employer owes a contribution to every non-key employee who is still employed on the last day of the plan year. The employee doesn’t have to defer anything to be entitled to it.
The contribution is 3% of compensation. There’s one break: if the highest contribution rate given to any key employee that year is under 3%, the minimum for non-key employees drops to that same lower rate. So if the top key employee received 2% of pay, non-key employees get 2%.2Internal Revenue Service. Is My 401(k) Top-Heavy?
Employer contributions the plan already provides count. If you’re already making a 2% profit-sharing allocation to everyone, only another 1% is needed to hit the 3% floor.4Internal Revenue Service. 401(k) Plan Fix-It Guide – The Plan Was Top-Heavy and Required Minimum Contributions Were Not Made to the Plan The compensation figure used is Section 415 compensation, which is broader than W-2 box 1 and includes wages, bonuses, commissions, and elective deferrals.1Office of the Law Revision Counsel. 26 USC 416 – Special Rules for Top-Heavy Plans
Faster Vesting on Employer Contributions
Top-heavy status also forces a more generous vesting schedule for all employer contributions in the plan, not just the top-heavy minimum. The schedule must be at least as favorable as one of these two:3Internal Revenue Service. Fixing Common Plan Mistakes – Top-Heavy Errors in Defined Contribution Plans
- Three-year cliff: 0% vested until three years of service, then 100%.
- Six-year graded: 20% after two years, rising 20% each year to 100% after six.
The plan document has to specify which top-heavy schedule applies, even during years the plan isn’t top-heavy. For employers who use a longer vesting schedule to hold down turnover costs, the switch means more employer money walks out when employees leave.
Avoiding the Test With a Safe Harbor Plan
A 401(k) plan that meets the safe harbor rules and receives nothing beyond employee deferrals and the safe harbor employer contribution is treated as not top-heavy, no annual test required.2Internal Revenue Service. Is My 401(k) Top-Heavy? Add any other employer contribution to the mix and the exemption goes away.
Three formulas qualify:
- A 3% non-elective contribution to every eligible employee, whether they defer or not.
- A basic match of 100% on the first 3% of pay deferred plus 50% on the next 2%, which tops out at 4% of pay for an employee deferring at least 5%.5eCFR. 26 CFR 1.401(k)-3 – Safe Harbor Requirements
- A qualified automatic contribution arrangement (QACA), which pairs automatic enrollment with either a 3% non-elective or a match of up to 3.5% of pay.
Trade-off: the safe harbor contribution is owed every year, while the top-heavy minimum only appears when the plan actually fails the 60% test. For plans that fail it consistently, the safe harbor often costs the same or less and removes the yearly testing headache.
Timing matters. The safe harbor notice must reach employees at least 30 days and no more than 90 days before the start of the plan year, and by the eligibility date for anyone who enters mid-year.6Internal Revenue Service. Notice Requirement for a Safe Harbor 401(k) or 401(m) Plan An existing plan can convert to a safe harbor non-elective as late as 30 days before the plan year ends, which is useful if you spot a top-heavy problem developing mid-year.7Internal Revenue Service. Mid-Year Changes to Safe Harbor 401(k) Plans and Notices A brand-new plan can add safe harbor terms any time before the end of its first year.
Fixing a Missed Top-Heavy Contribution
Failing to make the required minimum is an operational failure, and left uncorrected it puts the plan’s tax-qualified status at risk. Disqualification would strip the trust of its tax exemption, tax participants on their vested balances, and cost the employer its deduction. That outcome is almost always avoidable through the Employee Plans Compliance Resolution System (EPCRS):8Internal Revenue Service. EPCRS Overview
- Self-Correction Program (SCP): no filing, no fee. Under SECURE 2.0, the self-correction window for eligible inadvertent failures is now indefinite, an expansion from the earlier two-year cap. The failure has to be fixed within a reasonable period after discovery and cannot have been first identified by the IRS.9Internal Revenue Service. Guidance on Section 305 of the SECURE 2.0 Act
- Voluntary Correction Program (VCP): a formal filing with the IRS and a user fee, in exchange for a compliance statement approving the fix. Must be filed before the plan comes under audit.
- Audit Closing Agreement Program (Audit CAP): used when the IRS finds the failure during an examination, and typically the most expensive because a monetary sanction is negotiated.
Whatever the route, the correction is to deposit the missed contributions into the affected non-key employees’ accounts, plus an adjustment for the earnings those contributions would have generated.10Internal Revenue Service. Correcting Plan Errors The longer the delay, the bigger the earnings piece grows, which is the practical argument for running the top-heavy test on schedule every year.