Receiving notice that your 401(k) plan has failed the Actual Deferral Percentage (ADP) or Actual Contribution Percentage (ACP) nondiscrimination tests can be unsettling. But you are not alone—this is one of the most common compliance issues plan sponsors face, and there are clear, actionable steps you can take to correct the problem and prevent it from recurring.

 

Understanding the ADP and ACP Tests

The ADP test compares the average salary deferrals of Highly Compensated Employees (HCEs) to those of Non-Highly Compensated Employees (NHCEs). The ACP test performs a similar comparison for employer matching contributions and employee after-tax contributions. For 2025, an HCE is generally defined as someone who earned more than $155,000 in the prior year or who owns more than 5% of the business.

If the average deferral or contribution rate for HCEs exceeds the allowable spread above the NHCE average, the plan fails the test. A failure does not mean the plan is disqualified—it simply means corrective action is required.

 

Corrective Options After a Test Failure

You generally have up to 12 months after the close of the plan year to correct a failed ADP or ACP test. The most common correction methods are:

• • • Refund Excess Contributions to HCEs. The most straightforward option is to distribute the excess deferrals (plus earnings) back to the affected HCEs. If this is done within 2.5 months of the plan year end (by March 15 for calendar-year plans), the 10% excise tax on excess contributions is avoided. Refunds received by HCEs are taxable income in the year of distribution.
    • Make Qualified Nonelective Contributions (QNECs). The employer can contribute additional funds to NHCEs in the form of QNECs — contributions that are 100% vested immediately and subject to the same distribution restrictions as deferrals. This can raise the NHCE average to bring the plan into compliance without penalizing HCEs.
    • Make Qualified Matching Contributions (QMACs). Like QNECs, QMACs are employer matching contributions that are fully vested immediately. They can be used to correct an ACP test failure by increasing the average contribution rate of NHCEs.

The Best Long-Term Fix: Adopting Safe Harbor Provisions

If your plan has failed the ADP or ACP test once, there is a meaningful risk it will fail again. The most reliable way to eliminate these tests permanently is to adopt a Safe Harbor 401(k) plan design. Plans that satisfy Safe Harbor requirements are deemed to automatically pass the ADP and ACP tests each year—no testing required.

The two most common Safe Harbor contribution formulas are:

• • • Basic Matching Contribution: 100% match on the first 3% of compensation deferred, plus 50% match on the next 2% of compensation deferred (effective rate: up to 4% of pay for employees who defer at least 5%).
    • Non-Elective Contribution (NEC): A contribution of at least 3% of compensation for all eligible employees, regardless of whether they defer into the plan. This option provides Safe Harbor protection even if some employees choose not to participate.

  Safe Harbor for 2026

  To take advantage of Safe Harbor status beginning January 1, 2026, your plan must be amended to add the Safe Harbor Nonelective Contribution (SHNEC).  Since we are already in the 2026 Plan Year, mid-year adoption of a SHNEC is still possible if you amend the plan at least 30 days before the plan year ends and commit to a contribution of at least 3% of compensation for all eligible employees.

  Planning Ahead for 2027

  Now is the time to plan for adding a Safe Harbor contribution for the plan year beginning January 1, 2027. This gives you ample time to:

  • • • Review your current plan document and identify the amendments needed to add Safe Harbor provisions.
      • Model the cost of each Safe Harbor formula against your current employer contribution structure to determine the best fit for your budget.
      • Decide if the Safe Harbor Match or Safe Harbor Nonelective contribution is the best fit for you.
      • Prepare the required Safe Harbor annual notice and distribute it to all eligible employees no later than 30 days before January 1, 2027 (by approximately December 1, 2026).
      • Work with your client services manager to implement the change.

  Other Strategies to Improve Test Results

  Beyond Safe Harbor, there are additional strategies that can help reduce the risk of ADP/ACP failures going forward:

  • • • Increase NHCE Participation. Encourage lower-compensated employees to participate through financial wellness education, automatic enrollment, and auto-escalation features.
      • Consider Automatic Enrollment. Plans with Eligible Automatic Contribution Arrangements (EACAs) or Qualified Automatic Contribution Arrangements (QACAs) can qualify for Safe Harbor treatment and further reduce testing concerns while boosting overall employee retirement savings.
      • Monitor Deferral Rates Throughout the Year. Run a mid-year projection of ADP/ACP test results so you can take proactive corrective steps — such as capping HCE deferrals or making QNEC contributions—before the plan year ends.

  Next Steps

  A failed ADP or ACP test is a compliance problem with well-established solutions. The key is acting promptly. If you have received a test failure notice, work with your Client Service Manager to determine the most cost-effective correction method and to evaluate whether a Safe Harbor plan design makes sense for your organization going forward.

  Implementing Safe Harbor contributions for 2026 or 2027 may represent one of the most straightforward and permanent ways to protect your plan from future testing failures, give your HCEs greater contribution flexibility, and strengthen your employee benefits offering across the board.

  Questions about your plan’s test results or Safe Harbor options? Contact your client services manager. We are here to help you navigate your compliance obligations and build a plan that works for you.