What Happens if My Retirement Plan Becomes Top Heavy?
A Practical Guide for Plan Sponsors
When business owners hear the term “top-heavy,” their first reaction is often concern. That perception is common, but it is not accurate. In reality, top-heavy status is not a problem at all. For many small and mid-size employers, it is a natural and intentional result of plan design. Owners often contribute at higher levels for tax, retirement, and cash flow reasons, and the IRS rules surrounding top-heavy plans exist simply to ensure that employees receive a baseline benefit as well.
In his video included below, Nydia Partner Mike Lee explains that top-heavy status is both common and expected across a wide variety of plan structures, particularly in owner-dominant businesses. The purpose of this guide is not to warn against top-heavy plans, but rather to explain what top-heavy means, why it happens, and how plan sponsors can understand the rules with confidence.
Top-Heavy Status, Explained
A plan is considered top-heavy when more than 60 percent of total account balances belong to key employees, typically owners and certain officers. This often happens by design. Many retirement plans, especially in smaller organizations, are built specifically to allow owners to save aggressively while still providing meaningful benefits to employees.
“Top-heavy is not a bad thing. It simply means owners are saving more, which is often exactly how the plan was designed. The IRS rules make sure employees receive a baseline benefit, and that is good for everyone.” – Mike Lee, Nydia Retirement Solutions
Top-heavy status is not a sign of failure or imbalance. It is a sign that the plan is functioning as intended for many employers.
Why Plans Become Top Heavy
Plans become top-heavy for a few reasons:
Owners are saving for retirement
Owners often contribute at higher levels, particularly in profitable years. This is a responsible and strategic use of retirement plans.
Employees may contribute at different rates
Participation varies naturally among non-key employees. Even when a plan has strong employee engagement, the owners’ account balances tend to grow faster.
Plan design encourages owner savings
Many plan designs intentionally maximize benefits for owners while still meeting IRS rules for fairness.
Multiple plans are tested together
When employers use both DB and DC plans, owners often receive larger benefits in the DB plan. When tested together, top-heavy levels may simply reflect this design approach. None of this is negative. It is routine retirement plan behavior.
What Happens When a Plan Is Top Heavy
When a plan is considered top-heavy for the year, the IRS requires a minimum contribution for eligible non-key employees. This is not a penalty. It is simply part of how the plan operates.
The Required Minimum Contribution
Non-key employees must receive the lesser of 3% of compensation, or the highest employer contribution rate given to any key employee. This contribution is intended to support employees, not restrict employers.
“Top-heavy rules help employees retire with dignity. Owners can save aggressively, and the IRS ensures staff receive a minimum benefit. It is well-intentioned and often a win for both sides.” – Mike Lee
In tested plans, top-heavy status rarely creates surprises, because many plans are designed to naturally avoid or smooth out testing issues. In fact, many of the larger, more complex plans Nydia supports are structured in ways that are unlikely to become top-heavy at all.
Why Top-Heavy Is Not a Threat to Plan Sponsors
The term may sound negative, but top-heavy is simply a classification. For many employers, a top-heavy plan is the expected outcome of a thoughtful and intentional design strategy.
The key is not avoiding top-heavy status. The key is understanding what it means and ensuring the plan is structured to support both owner goals and employee benefits.
What Advisors and Sponsors Should Take Away
Top-heavy status should never create fear or urgency. With proper planning and awareness of the rules, it is simply one part of a normal plan lifecycle.
Nydia helps plan sponsors:
- Understand when top-heavy status is expected
- Determine when a plan design naturally supports owner-focused strategies
- Identify when non-key benefits should be enhanced
- Use plan design tools like Safe Harbor, Cash Balance Plans, and DB/DC combos to support both sides of the workforce
- Monitor data throughout the year to reduce uncertainty
Our role is to give sponsors clarity, comfort, and confidence in how their plan functions.
A More Accurate View of Top-Heavy Status
Rather than viewing top-heavy through a negative lens, it is helpful to see it for what it is:
A way for owners to save meaningfully while ensuring employees receive fair and predictable contributions.
When sponsors understand the purpose and intent of the rule, it becomes much easier to see top-heavy status as a structural feature of many plans, not a problem to avoid.
Case Story: When Top-Heavy Was Part of the Plan
A professional services firm with 24 employees came to Nydia because their plan had been flagged as top-heavy. Initially, the sponsors viewed this as a compliance issue. After reviewing the plan, Nydia explained that the design was functioning exactly as expected. The owners were saving aggressively, and the 3 percent minimum contribution for non-key employees was simply part of the structure they had chosen.
Their advisor wanted to explore whether the plan could support more growth, so Nydia ran modeling to show how Safe Harbor provisions, automatic enrollment, and a Cash Balance Plan could create even more opportunity for owners while maintaining fairness for employees.
The outcome was a stronger plan that supported both owner savings goals and employee benefits. What initially looked like a problem was simply a misunderstanding of top-heavy’s purpose.
A Note on Tested Plans and Larger Employers
As Mike shared, tested plans in larger organizations almost never become top-heavy due to the depth of their employee demographic base. In these plans, top-heavy is generally not a concern at all, because contributions and balances are naturally spread across many participants.
Top-heavy is most common among closely held businesses, partnerships, and firms with concentrated ownership. For these groups, it is typically a positive and strategic outcome.
Top-Heavy Status and Good Plan Design
A top-heavy result does not mean something has gone wrong. It means the plan is telling you how it is functioning. When owners save more, their balances grow more. When employees contribute at lower rates, the plan shifts toward top-heavy status. Both are normal, expected patterns.
At Nydia, we help sponsors interpret what their plan data means, understand whether top-heavy status aligns with their goals, and design structures that support both owners and employees with clarity and confidence.
A retirement plan should feel stable and supportive for the people it serves. When sponsors have guidance they trust, top-heavy status becomes just another part of that foundation.
