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How to Find the Best Retirement Plans for Your Small Business

What will attract a potential employee to want to work for you and how can you keep employees happy? Besides the obvious — offering a nice work environment and competitive salary — benefits can really set your company apart. One of the most basic benefits a business can offer is a retirement plan, but many small businesses find it difficult to offer one.

According to a 2017 Pew Trust Survey, there is still a prevailing sentiment that a retirement plan might be too expensive for a small business to offer. There are, however, financial institutions and companies that are working to reduce the cost and maintenance of these plans for small business, so now might be a good time to explore your options.

“I think in today’s world where we are near full employment you almost have to offer a retirement plan to be competitive in recruiting,” Ken Burtnick, a senior product manager at Paychex who helps businesses set up retirement funds for their employees, said. Paychex is a human relations outsourcing company that provides payroll, human resources and benefits outsourcing for small to mid-sized businesses.

For small business owners, there is also a tax credit for setting up an employee retirement plan, which is 50 percent of your eligible startup costs, up to a maximum of $500 per year.  Eligible startup costs include those you need to set up and administer the plan and educate employees about it. Human resources companies — and even financial institutions — have found ways to make the process simpler for small companies, Burtnick said. “They can take almost all that risk and uncertainty away from the business owner,” he said.

Types of retirement plans

Although a 401k plan is very common, it’s not the only route a company can take. You should consider working with a company or adviser to choose the best plan for your company, keeping in mind that these are two of the most common plans’ features:

  • All plans are open to companies with one or more employees.
  • There is no cap on the number of employees (with the exception of the Simple IRA plan, which is for companies with 100 employees or fewer only).

IRA-based plans

Payroll deduction.

An employer is responsible for arranging for employees to make contributions from their pay and transition the contributions to the IRA. Employees can contribute a maximum of $5,500 per year (those who are 50 and older in 2018 can make an additional, catch-up contribution of $1,000, for a total annual IRA contribution of $6,500). All employees can participate, but there is no requirement for employee coverage.

Pros

  • Open to all employees
  • Contributions 100 percent vested immediately
  • No annual filing requirement for employer

Cons

  • Employee contribution cap

SEP.

SEP stands for Simplified Employee Pension. In a SEP plan, the employer only contributes to the plan and the contribution maxes out at 25 percent of each employee’s pay. Despite the employer being the only one allowed to contribute, the employee is the owner of all the money. All employees must receive equal contributions, but the amount an employer must contribute is not fixed, therefore offering an employer flexibility.

A SEP does not have the same operating or setup costs as a conventional retirement plan.  SEPs are easy to set up and maintain, but there are rules about which employees are eligible: he or she must be at least 21 years old, been employed by the employer for three of the last five years and reached a set compensation minimum.

Pros

  • Easy to set up and maintain
  • Employer contribution amount not fixed
  • Lower costs to set up and maintain
  • Contributions 100 percent vested immediately

Cons

  • All employees not eligible
  • Employees can’t contribute

SIMPLE IRA Plan.

Both an employee and an employer can contribute to a SIMPLE IRA, which is designed for small businesses with 100 or fewer employees. An employer must make a matching contribution of at least 3 percent of an employee’s contribution or contribute 2 percent of each employee’s compensation if the employee isn’t participating. There are also yearly employee contribution caps. An employer setting up a SIMPLE IRA must offer the plan to all employees who have earned at least $5,000 in any prior two years and who are expected to earn at least $5,000 in the current year.

Pros

  • Bank or financial institution handles most of the paperwork
  • Contributions 100 percent vested immediately

Cons

  • Not available to businesses with more than 100 employees
  • Employer contribution fixed at a minimum of 3 percent for participating employees

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Defined contribution plans

Profit sharing.

Profit sharing allows a business to make large contributions to its employees’ retirement funds. Only the employer makes contributions and there is no set amount that the employer has to contribute — nor does the employer have to make a contribution every year. Each employee must get a separate account and employers must document how the profits for each employee have been determined. Profit sharing must be offered to all employees at least 21 years old who have worked at least 1,000 hours in a previous year.

Pros

    • One of the most flexible types of retirement plans

Cons

  • Employees not always 100 percent vested immediately

Safe harbor 401k.

A safe harbor 401k plan eases the administrative burden by eliminating the tests typically applied under a traditional 401k plan. These nondiscrimination tests check to make sure a company isn’t offering 401k plans to only their highly compensated employees. Employees are able to contribute a percentage of their salary each paycheck and there is a mandatory employer contribution of at least 3 percent.

There are also maximum annual combined employer/employee contributions associated with this plan. An employer must offer the benefit to all employees at least 21 years of age who worked at least 1,000 hours in a previous year. Employer contributions might vest over time, depending on plan terms.

Pros

  • Available to any company with one or more employees
  • Employee salary reduction contributions and all employer contributions 100 percent vested immediately

Cons

  • Employer contributions are fixed at a minimum 3%

Automatic enrollment 401k.

If an employer is looking to increase retirement plan participation, an automatic enrollment 401k might be the best route. There is a maximum annual combined employer/employee contribution and employees can still opt out of participating after they receive notice from the plan.

The contribution rates are default and employer contributions might vest over time, depending on plan terms. An employer must offer an automatic-enrollment 401k to all employees 21 years or older who worked at least 1,000 hours in the previous year.

Pros

  • Allows high level of contributions for employees ($18,500 in 2018); employees age 50 and older able to contribute an additional $6,000
  • Employee contributions immediately vested

Cons

  • Might require annual nondiscrimination testing

Traditional 401k.

Employees choose to defer part of their salaries to a retirement fund when they participate in a traditional 401k. Deferrals are generally made pretax, but some plans allow them to be made on a post-tax basis. Contributions employers make are also not taxed by the federal government and most state governments.

“We find most business owners really look for the flexibility of a 401k over a SEP IRA,” Burtnick said. Employer contributions might vest over time, depending on plan terms. An employer must offer a traditional 401k to employees who are at least 21 years old and who worked at least 1,000 hours in a previous year. There is a yearly maximum employer/employee combined contribution.

Pros

  • Allows high level of contributions for employees ($18,500 in 2018); employees age 50 and older able to contribute an additional $6,000 more
  • Employee contributions immediately vested

Cons

  • Requires annual nondiscrimination testing to ensure plan does not favor more highly compensated employees

Defined benefit plan

In a defined benefit plan, employers are allowed to contribute more — and deduct more on their taxes — than through a defined contribution plan. Unlike a defined contribution plan, employer contributions primarily fund these plans.

There are two types of defined benefit plans: pensions and cash-balance plans. The difference is that pension benefits at retirement time are based on a formula that takes into account how long you worked at the company and your average salary, and cash-balance plans take into account a set percentage of your salary each year plus a set interest rate applied to your balance.

These plans might vest over time: For example, you might need to work at the company for a set number of years to receive the full amount. The employer is required to make an annual contribution based on plan terms and offer the plan to all employees at least 21 years old who worked at least 1,000 hours in a previous year.

Pros

  • Beneficial to employees because it doesn’t require an employee contribution

Cons

  • More complex than traditional retirement funds — might be more expensive to establish and maintain than other types of plans.

Setting up a plan

Setting up a retirement plan for your small business “really boils down to a few key questions,” Burtnick said. The first is deciding who in your company will be eligible to participate. Setting up your own terms for eligibility is one way to keep your company’s costs down. For example, you might choose to limit participation to employees who have been with the company for a set period of time. Not all types of plans allow for unique eligibility terms, so that should factor into your decision on what type of plan to choose, he said.

The next question is if you plan on offering an employee match and how you’ll go about setting that up. You’ll of course want to consider what your business can reasonably afford each year to support your employee’s retirement goals. “If you can get to the 3 percent, that’s really good,” Burtnick said. That’s typically the amount companies need to contribute to gain “safe harbor” status, which might exempt them from nondiscrimination testing, Burtnick said.

Your final question is how you want to maintain the retirement plan. Is this something your company can manage in-house or do you want to hire an outside party to operate and maintain your plan, including choosing investments? Many retirement savings providers now have prepackaged products that take the investment guesswork away from the company, Burtnick said. When choosing a provider, make sure it offers resources to educate your employees about their options.

Typical fees include those for plan setup, maintenance and perhaps even operation. The more complicated plans, such as defined benefit plans, will be more costly. Do your homework and shop around for a company that has all the features you want. Do you need someone to help you file paperwork for taxes? Do you need a bookkeeper? After you determine that, you’ll be able to figure out what your company’s management fees are.

The enrollment deadline for the plan you choose is also important. Make sure you give yourself enough time to provide the plan and educate your employees about it — during the year you want it showing up on your taxes.

The bottom line

Although at one time offering a retirement plan might have seemed daunting and out of reach for small businesses, reduced costs and prepackaged options have made them more attainable, Burtnick said.

Burtnick said “the fear around the complexity of a retirement plan goes away almost immediately” once a small business understands that there are organizations and financial institutions out there to create a plan document, run the administrative side of a retirement plan and actually select the investments. Offering a retirement plan is one big way to help your small business become more competitive in an already competitive job marketplace.

 

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